10-K 1 biostar10k123112.htm biostar10k123112.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 

 
FORM 10-K
 

 (Mark One)
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the fiscal year ended: December 31, 2012
Or
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from ______________ to _______________

Commission File Number: 001-34708
 
BIOSTAR PHARMACEUTICALS, INC.
(Exact name of registrant as specified in its charter)
 
Maryland
 
20-8747899
(State or other jurisdiction of incorporation of origination)
 
(I.R.S. Employer Identification Number)

No. 588 Shiji Xi Avenue
Xianyang, Shaanxi Province
People’s Republic of China
 
712046
(Address of principal executive offices)
 
(Zip code)

86-29-33686638
(Registrant’s telephone number, including area code)

                                                                                                                                               
(Former name, former address and former fiscal year, if changed since last report)
 
Securities Registered pursuant to Section 12(b) of the Act:

Title of each class
Name of each exchange on which registered
Common Stock, par value $0.001 per share
NASDAQ Stock Market LLC
(NASDAQ Global Market)

Securities Registered pursuant to Section 12(g) of the Act: Common stock, par value $0.001 per share
 
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 Section 15(d) of the Act.   Yes ¨ No x
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) 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 large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer  ¨
   
Accelerated filer ¨
       
Non-accelerated filer ¨
   
Smaller reporting company x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

As of the close of business on June 29, 2012, the aggregate market value of the voting stock (common stock) held by non-affiliates of the registrant was approximately $8,600,038.88  based on the closing sale price of $1.36 per share of our common stock on NASDAQ Stock Market LLC on June 29, 2012.

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each issuer’s classes of common stock, as of the latest practicable date: 11,596,113 shares of common stock issued and outstanding as of April 12, 2013.
 
 
TABLE OF CONTENTS
 
TO ANNUAL REPORT ON FORM 10-K
FOR YEAER ENDED DECEMBER 31, 2012


PART IV
Item 15.
  47
     
    48
 
 
 
CAUTION REGARDING FORWARD-LOOKING INFORMATION
 
All statements contained in this annual Report on Form 10-K (“Form 10-K”) for Biostar Pharmaceuticals, Inc., other than statements of historical facts, that address future activities, events or developments are forward-looking statements, including, but not limited to, statements containing the words “believe,” “anticipate,” “expect” and words of similar import.  These statements are based on certain assumptions and analyses made by us in light of our experience and our assessment of historical trends, current conditions and expected future developments as well as other factors we believe are appropriate under the circumstances.  However, whether actual results will conform to the expectations and predictions of management is subject to a number of risks and uncertainties that may cause actual results to differ materially.

Such risks include, among others, the following: national and local general economic and market conditions; our ability to sustain, manage or forecast our growth; raw material costs and availability; new product development and introduction; existing government regulations and changes in, or the failure to comply with, government regulations; adverse publicity; competition; the loss of significant customers or suppliers; fluctuations and difficulty in forecasting operating results; changes in business strategy or development plans; business disruptions; the ability to attract and retain qualified personnel; the ability to protect technology; and other factors referenced in this and previous filings.

Consequently, all of the forward-looking statements made in this Form 10-K are qualified by these cautionary statements and there can be no assurance that the actual results anticipated by management will be realized or, even if substantially realized, that they will have the expected consequences to or effects on our business operations.  

These statements reflect our current view of future events and are subject to certain risks and uncertainties as noted below. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, our actual results could differ materially from those anticipated in these forward-looking statements. Actual events, transactions and results may materially differ from the anticipated events, transactions or results described in such statements. Although we believe that our expectations are based on reasonable assumptions, we can give no assurance that our expectations will materialize. Many factors could cause actual results to differ materially from our forward looking statements including those set forth in Item 1A of this report. Other unknown, unidentified or unpredictable factors could materially and adversely impact our future results. We undertake no obligation and do not intend to update, revise or otherwise publicly release any revisions to our forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of any unanticipated events.

We file reports with the Securities and Exchange Commission (“SEC” or “Commission”). We make available on our website (http://www.andatee.com) free of charge our public reports filed pursuant to the Exchange Act and amendments to those reports as soon as reasonably practicable after we electronically file such materials with or furnish them to the SEC. Information appearing at our website is not a part of this Annual Report on Form 10-K. You can also read and copy any materials we file with the Commission at its Public Reference Room at 100 F Street, NE, Washington, DC 20549. You can obtain additional information about the operation of the Public Reference Room by calling the Commission at 1-800-SEC-0330. In addition, the Commission maintains an Internet site (www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the Commission, including our reports.

Our fiscal year begins on January 1, and ends on December 31, and any references herein to “Fiscal 2012” mean the year ended December 31, 2012, and references to other “Fiscal” years mean the year ending December 31, of the year indicated.
 
We obtained statistical data, market data and other industry data and forecasts used in this Form 10-K from publicly available information. While we believe that the statistical data, industry data, forecasts and market research are reliable, we have not independently verified the data, and we do not make any representation as to the accuracy of that information.

 
PART I

ITEM 1. Business

Overview

Biostar Pharmaceuticals, Inc. (“Biostar”) is a holding company that, through our wholly-owned subsidiary Shaanxi Biostar Biotech, Ltd. (“Shaanxi Biostar”) and our variable interest entities ("VIEs") Shaanxi Aoxing Pharmaceutical Co., Ltd. (“Aoxing Pharmaceutical”), and Shaanxi Weinan Aoxing Pharmaceuticals, LLC (“Shaanxi Weinan”) develops, manufactures and markets pharmaceutical products for a variety of diseases and conditions in the People’s Republic of China (the “PRC” or “China”).

Corporate Organization and History

Biostar was incorporated in the State of Maryland on March 27, 2007. Through the steps described immediately below, we became the indirect holding company for Aoxing Pharmaceutical, a medical and pharmaceutical developer, manufacturer and marketer in the PRC on November 1, 2007.
 
On June 15, 2007, we formed Shaanxi Biostar in the PRC as our wholly-owned subsidiary.  Because Shaanxi Biostar is wholly-owned by Biostar, a U.S. company, it is a wholly foreign-owned enterprise, or WFOE, under PRC laws.
 
Aoxing Pharmaceutical was formed on May 8, 1997, as a limited liability company under the laws of the PRC. Its current registered address is No. 588 Shiji Xi Road, Xianyang, Shaanxi Province, PRC, and its registered capital is Renminbi (“RMB”) 61,800,000.

On November 1, 2007, Shaanxi Biostar and Aoxing Pharmaceutical entered into a series of agreements (collectively the “Contractual Arrangements”) pursuant to which we have acquired control over Aoxing Pharmaceutical and which requires us to consolidate the profits and losses of Aoxing Pharmaceutical under U.S. Generally Accepted Accounting Principles (“GAAP”):

Management Entrustment Agreement. Pursuant to the management entrustment agreement, Aoxing Pharmaceutical and its shareholders agreed to transfer control, or entrust, the operations and management of Aoxing Pharmaceutical’s business to Shaanxi Biostar. Shaanxi Biostar manages the operations and assets of Aoxing Pharmaceutical, controls all of the cash flow of Aoxing Pharmaceutical through a bank account controlled by Shaanxi Biostar, is entitled to all of the net profits of Aoxing Pharmaceutical as a management fee, and is obligated to pay all payables and loan payments of Aoxing Pharmaceutical. In addition, Shaanxi Biostar has been granted certain rights which include, in part, the right to appoint and terminate members of Aoxing Pharmaceutical’s board of directors, hire management and administrative personnel and control decisions relating to entering and performing customer contracts and other instruments. We anticipate that Aoxing Pharmaceutical will continue to be the contracting party under its customer contracts, bank loans and certain other instruments unless Shaanxi Biostar exercises its option. Global Law Office, our PRC counsel, has advised us that in their opinion the management entrustment agreement is legal and enforceable under PRC law.

In exchange for causing Aoxing Pharmaceutical to enter into the management entrustment agreement, we issued an aggregate of 6,610,771 shares our common stock to the shareholders of Aoxing Pharmaceutical, which was allocated based on their respective pro rata ownership of Aoxing Pharmaceutical.
 
On May 6, 2008, Shaanxi Biostar entered into an amended and restated management entrustment agreement with Aoxing Pharmaceutical and its shareholders in order to remove a provision that allows the management entrustment agreement to be terminated at a mutually agreed date. As amended and restated, the management entrustment agreement, and all of the attendant rights of Shaanxi Biostar, remains in effect until such time that Shaanxi Biostar acquires all of the assets or equity of Aoxing Pharmaceutical under the terms of the exclusive option agreement as more fully described below, or until Aoxing Pharmaceutical ceases its business operations.
 
 
Voting Proxy Agreement.  In order to give us further control over Aoxing Pharmaceutical, Aoxing Pharmaceutical’s shareholders entered into a voting proxy agreement with Shaanxi Biostar, whereby these shareholders irrevocably and exclusively appointed the members of Shaanxi Biostar's board of directors as their proxies to vote on all Aoxing Pharmaceutical matters that require shareholder approval, including, without limitation, the right to appoint members of Aoxing Pharmaceutical’s board of directors. The voting proxy agreement further provides that Shaanxi Biostar will appoint all members of Biostar’s board of directors to Aoxing Pharmaceutical’s board of directors. As the composition of Biostar’s board of directors changes, Shaanxi Biostar must accordingly remove and appoint new members to Aoxing Pharmaceutical’s board of directors. The voting proxy agreement terminates upon the exercise of the option by Shaanxi Biostar to purchase the shares of Aoxing Pharmaceutical as described below, and is governed by the laws of the PRC.
 
Exclusive Option Agreement. In order to permit Aoxing Pharmaceutical to become an  indirectly wholly-owned subsidiary of Biostar when permitted under PRC law, Aoxing Pharmaceutical and its shareholders entered into an exclusive option agreement with Shaanxi Biostar, whereby Aoxing Pharmaceutical’s shareholders granted Shaanxi Biostar an irrevocable and exclusive purchase option (the “Option”) to acquire Aoxing Pharmaceutical's equity and/or remaining assets, but only to the extent that the acquisition does not violate limitations imposed by PRC law on such transactions. Current PRC law does not specifically provide for the equity of a non-PRC entity to be used as consideration for the purchase of a PRC entity's assets or equity unless the value of the shares are equal to or greater than the value of the enterprise acquired. In addition, there is a lengthy appraisal process which must be approved by the provincial PRC government entities. The consideration for the exercise of the Option is to be determined by the parties and memorialized in future definitive agreements setting forth the kind and value of such consideration.
 
We will consider exercising the Option under such circumstances we believe will be in the best interests of the Company and our shareholders, and the exclusive option agreement has been drafted to give us such flexibility. In considering whether or not we will exercise the Option, we may consider such factors as: (1) if the exercise price can be lower than the appraised value under current PRC law, (2) availability of funds, (3) any relevant tax considerations at the time, (4) any other relevant PRC laws that may exist at the time, (5) the value of our shares that were previously paid to Aoxing Pharmaceutical’s shareholders, and (6) whether or not the exercise of the Option will provide any other additional benefits to us or our shareholders. Upon exercise of the Option, the parties will prepare transfer documents to be submitted for governmental approval and work together to obtain all approvals and permits. The exclusive option agreement may be terminated by the agreement of all parties or by Shaanxi Biostar with 30 days’ notice, and is governed by the laws of the PRC.

Share Pledge Agreement. In order to further solidify our control over Aoxing Pharmaceutical, Shaanxi Biostar and Aoxing Pharmaceutical’s shareholders entered into a share pledge agreement, whereby Aoxing Pharmaceutical’s shareholders pledged all of their equity interests in Aoxing Pharmaceutical, including the proceeds thereof, to guarantee the performance by the shareholders of all of the agreements they entered into with Shaanxi Biostar. Upon breach by any shareholder of any of the Contractual Arrangements, Shaanxi Biostar is entitled by operation of law to become the beneficial owner of the shareholders’ equity interests of Aoxing Pharmaceutical. Prior to termination of the share pledge agreement, the pledged equity interests of Aoxing Pharmaceutical cannot be transferred without Shaanxi Biostar's prior written consent. The share pledge agreement will not terminate until agreed to by all of the parties in writing, and is governed by the laws of the PRC.

The Contractual Arrangements described above were utilized instead of a direct acquisition of the assets, common stock or a share exchange because we could not pay cash to directly or indirectly acquire Aoxing Pharmaceutical or its assets. PRC law permits the purchase of equity interests, or assets of a PRC entity by a non-PRC entity for cash. The purchase price must be based on the appraised value of the equity or assets. Because we did not have sufficient cash to pay the estimated full value of all of the assets of Aoxing Pharmaceutical, we, through Shaanxi Biostar, entered into the Contractual Arrangements in exchange for the right to exercise functional control over Aoxing Pharmaceutical, and we obtained substantially the same result as a direct share exchange with Aoxing Pharmaceutical.

On July 9, 2010, following the change in registered owners of Aoxing Pharmaceutical, a set of new Contractual Agreements had been entered into with all the existing registered owners of Aoxing Pharmaceutical on the same day.
 
The Contractual Agreements dated July 9, 2010 are merely replacement of the Contractual Agreements dated November 1, 2007 and therefore, no significant change in the contractual terms between the Contractual Agreements entered dated November 1, 2007. The existing registered owners of Aoxing Pharmaceutical, Shaanxi Biostar and Biostar had mutually agreed that no consideration would be paid / payable upon the execution of the Contractual Agreements on July 9, 2010. The interest of Biostar in Aoxing Pharmaceutical was not and would not be affected by the replacement for the Contractual Agreements.
 
        
Shaanxi Biostar’s control over Aoxing Pharmaceutical under the Contractual Arrangements requires us to consolidate its financial statements pursuant to the FASB Interpretation 46, “Consolidation of Variable Interest Entities (VIEs)”, an Interpretation of Accounting Research Bulletin No. 51, included in the Accounting Standards Codification ("ASC") 810, Consolidation because Aoxing Pharmaceutical is considered a VIE of Shaanxi Biostar. ASC 810, Consolidation requires a VIE to be consolidated by any company that is subject to a majority of the risk of loss for the variable interest entity or is entitled to receive a majority of the variable interest entity’s residual returns. Since Shaanxi Biostar is the primary and only beneficiary of Aoxing Pharmaceutical (the VIE), ASC 810 Consolidation requires the consolidation of its financial statements with Shaanxi Biostar and ultimately consolidated with Shaanxi Biostar’s parent company, Biostar.

On March 28, 2010, we, through Shaanxi Biostar, entered into an agreement to acquire the assets of Xi’an Meipude Bio-Technology Co., Ltd., a Xi’an-based medical equipment manufacturer (“Meipude”), for RMB7.85 million ($1.2 million), including certain assets registered to a family member of an original Meipude shareholder. We took control over the assets of Meipude on March 29, 2010. To facilitate the transfer of some of the assets, however, we were required to acquire all of the outstanding equity interests of Meipude, which we subsequently applied for deregistration on January 18, 2011.

In October 2011, Aoxing Pharmaceutical entered into a Share Transfer Agreement to acquire Shaanxi Weinan Huaren Pharmaceuticals, Ltd. (“Shaanxi Weinan”) from the holders of 100% of equity interests in Shaanxi Weinan.  The aggregate purchase price is RMB 61 million (approximately $9.55 million), in cash and payable in several tranches. Shaanxi Weinan owns drug approvals and permits for a portfolio of 86 drugs and one health product, all of which were added to the Company’s current drug portfolio following the completion of this acquisition. The Company completed this acquisition on October 25, 2011, and the name of the acquired company was changed to Shaanxi Weinan Aoxing Pharmaceuticals, LLC.
 
The following diagram illustrates our current corporate structure:

 
On April 3, 2012, the Company effected a one-for-three reverse stock split of the issued and outstanding common stock of the Company (the “Reserve Split”). The Reverse Split was duly approved by the Board of Directors of the Company without shareholder approval, in accordance with the authority conferred by Section 2-309(e)(2) of the Maryland General Corporation Law. Holders of the Company’s common stock are deemed to hold one whole, post-split share of the Company’s common stock for every three whole, pre-split shares of the Company’s issued and outstanding common stock. Fractional share holdings are rounded up to the nearest whole number.  At the market opening on April 4, 2012, the Company’s common stock began trading on The NASDAQ Stock Market on a post-split adjusted basis. The Company’s common stock continues to trade under the symbol “BSPM,”, but is assigned a new CUSIP number.  All common stock related data in this annual report has been adjusted retroactively to reflect the reverse stock split.
 
On September 24, 2012, we, through Aoxing Pharmaceutical, signed a one-year agreement to manufacture and supply three new drugs: Gastritis Granule, Pharyngitis Granule and Nasosinusitis Granule to Xijing Hospital, a military hospital managed by the Fourth Military Medical University, one of China's most prestigious military medical universities and research centers. We started to deliver the monthly supply in October 2012. These three drugs are exclusively sold at and given to patients admitted to Xijing Hospital for treatment.  Gastritis Granule is used to treat chronic and atrophic gastritis; Pharyngitis Granule is used to treat acute and chronic throat inflammation; and Nasosinusitis Granule is used to treat acute and chronic sinusitis.

On March 11, 2013, Aoxing Pharmaceutical entered into a supplemental agreement to the Share Transfer Agreement with all the former equity holders of Shaanxi Weinan to acquire 13 drug approval numbers which were excluded from the Share Transfer Agreement due to incomplete reregistration.  Following the execution of the supplemental agreement, the Company will acquire the ownership of the 13 drug approval numbers for which reregistration has been completed. The aggregate purchase price is RMB 66 million (approximately $10.6 million) for the 13 drug approval numbers, of which RMB 30 million (approximately $4.8 million) was paid on November 26, 2012, RMB 25 million (approximately $4.0 million) was paid on December 31, 2012 and the balance of RMB 11 million (approximately $1.8 million) shall be paid in the Company’s common stock. Based on an agreed issuance price of $1.10 per share, RMB 11 million is equivalent to 1,602,564 shares of common stock of the Company. The Company completed this acquisition in April 2013.

When we sell our equity or borrow funds, we expect the proceeds will be forwarded to Aoxing Pharmaceutical and accounted for as a loan to Aoxing Pharmaceutical and eliminated during consolidation. We may also use the proceeds to repurchase our capital stock or for our corporate overhead expenses. If we borrow funds we expect to be the primary obligor on any debt.
 
Neither Biostar nor Shaanxi Biostar has any operations or plans to have any operations in the future other than acting as a holding company and management company for Aoxing Pharmaceutical and raising capital for its operations. However, we reserve the right to change our operating plans regarding Biostar and Shaanxi Biostar.

Our Business

We develop, manufacture and market pharmaceutical products in the PRC for a variety of diseases and conditions. Our most popular product is the Xin Ao Xing Oleanolic Acid Capsule, an over-the-counter (“OTC”) medicine for chronic hepatitis B, a disease affecting approximately 10% of the Chinese population (Source: PRC Ministry of Health). Our current product line also includes five other OTC products, ten prescription-based pharmaceuticals, six nutriceuticals or health products and one medical device.

Our products are derived from medicinal herbs that are either grown at our own facility or purchased from our suppliers. We rely on approximately ten suppliers for our raw materials. For Fiscal 2012, we purchased most our raw materials from suppliers because most of the herbs planted at our facility were not yet ready for harvest or use.

We devote substantial resources to the research and development of new products that must be approved by the regulatory agencies. We currently have eight products under development to complement our existing product line, one of which is currently awaiting approval from the China Military Food and Drug Administration of the PRC. We have adopted international manufacturing standards and currently hold one patent, with two additional patents pending approval. We are subject to extensive government regulation which is discussed in detail in the section below called “Government Regulation.” In the event that a new product is not approved or it is found in violation of these laws and regulations, it could have a materially adverse effect on the prospects of our business operations.
 
 
Our products are currently being sold in over 25 provinces in the PRC through 25 distributors and an established network of more than 400 dedicated sales people. In addition, we have been enhancing our marketing efforts with the launch of our internet-based China Hepatitis Internet Hospital (www.zggbyy.com, “CHIH”) since June 2009. The multi-function website is designed to be a one-stop portal for HBV patients, providing current and relevant information on HBV and treatment options as well as a convenient method to purchase our HBV medicine. Registered users can secure a membership card for a fee of RMB 200 (approximately $25). Members are entitled to a 20% discount on diagnosis and medical services provided on CHIH, free expert diagnosis and free medicine delivery, and a wide range of inquiry, instruction and other complementary services. Registered users can also seek medical advice from a pool of HBV health professionals without having to go to the hospital. CHIH will facilitate our ability to provide customer service and add purchasing convenience for our consumers.
 
Our Products

The table below summarizes the pharmaceutical products that are currently manufactured and sold by us:
 
Name
Treatments
Benefits and Side Effects
SFDA Classification
XinAoxing Oleanolic Acid Capsule
Hepatitis B     
Relieves hepatic injury, reduce glutamic-pyruvic transaminase activity, reduce r-GLO. Believed to promote hepatic cell regeneration, to be effective in hepatic coma treatment, to inhibit fibrous hyperplasia and prevent hepatocirrhosis. Used to reduce hepatic damage caused by HBV regeneration.
OTC
Ganwang Compound Paracetamol Capsule
Colds, runny nose, sore throat pain, headache and fever
Relieves the symptoms of the common cold, including runny nose, sniffles and sneezing. Some patients experience symptoms of anorexia, queasiness and upset stomach after use.
OTC
Tianqi Dysmenorrhea Capsule
Dysmenorrhea
Traditional Chinese medicine used for treatment of pain and other symptoms associated with menstruation. There are no known side effects.
OTC
Danshen Granule
Coronary heart disease, myocarditis and angina pectoris
Believed to stimulate circulation to end stasis, regulating the flow of qi (vital energy) to alleviate pain. There are no known side effects.
Prescription
Taohuasan Pediatric Medicine
Bronchial congestion and coughs
Used for the treatment for children’s cough and respiratory tract infection. There are no known side effects.
Prescription
Hernia Belt
Hernia
Relieves hernia, no side effects
Medical Device
Tangning Capsule
Diabetes
Believed to treat type II diabetes
Nutrient, OTC
Yizi Capsule
Fertility
Believed to aid fertility and helps in fetal development during pregnancy
Nutrient, OTC
Shengjing Capsule
Kidney
Believed to replenish kidney function
Nutrient, OTC
Aoxing Ointment
Psoriasis, vitiligo and various dermatitis
Used to treat psoriasis, vitiligo and various dermatitis
Nutrient, OTC
 
 
Jingang Tablets
For waist and knees, impotence, nocturnal emission, premature ejaculation, frequent urination
Warming Yang and tonifying kidney, strong gluten Zhuanggu
Prescription
Compound Paracetamol and Amantadine Hydrochloride Tablets
Colds, influenza
Used to alleviate the symptoms of fever, headache, aching limbs, sneezing, runny nose, stuffy nose, sore throat caused by common cold and influenza.
OTC
Danxiang Rhinitis Tablets
For chronic simple rhinitis, allergic rhinitis, acute and chronic sinusitis.
Anti-inflammatory heat, expelling wind and cold, analgesic Tongqiao.
Prescription
Deafness Tongqiao pills
For hepatobiliary Huosheng, head dazzling swelling, deafness and tinnitus, ear pus, dry stool , urine-yellow.
Heat purging fire, dampness purge.
OTC
Yanlixiao Capsules
For heat syndrome bacillary dysentery, acute tonsillitis, acute and chronic bronchitis, acute gastroenteritis, acute mastitis and other infectious diseases.
Clearing and detoxifying, anti-inflammatory.
Prescription
Piracetam Tablets
 
Adapt to acute and chronic cerebrovascular disease, traumatic brain injury, memory loss, mild and moderate brain dysfunction caused by multiple reasons of a variety of toxic encephalopathy. And also for children retarded mental development.
Prescription
Huangyangning Tablets
For the patients with the symptoms of chest stuffiness and pains, Knotted and intermittent pulse; coronary heart disease, arrhythmias
Help Qi and blood circulation; relieve pain
Prescription
Hyperthyroidism Capsules
For the patients of hyperthyroidism with the symptoms of palpitations, sweating, irritability, dry throat, rapid pulse, and other symptoms of hyperthyroidism.
Pingganqianyang, Ruanjiansanjie.
Prescription
 
 
Zhitong Tougu Plaster
Joint pain, swelling, tenderness or dysfunction.
Expelling wind and cold, blood stagnation linetongluo and relieving pain. For the patients of knee, lumbar blood stasis.
OTC
Fosfomycin Calcium Capsules
 
Oral.For the following infections caused by pathogen that is sensitive of fosfomycin  pathogens:
1.Intestinal infections : bacterial enteritis , dysentery.2.Urinary tract infections: cystitis , pyelonephritis,urethritis.3.Dermatology and soft tissue infections : furunculosis , hidradenitis , lymphadenitis , folliculitis .4.Respiratory tract infectionNasopharyngitis , tonsillitis , bronchitis.5.Ophthalmologyhordeolum , dacryocystitis.6.GynaeVaginitis, cervicitis.
Prescription
Qianlietong Capsules
For acute prostatitis, prostatic hyperplasia.
Qingrejiedu,QinglishizhuoLiqihuoxue Anti-inflammatory and relieving pain.
Prescription
Wenweishu  Capsules
 
For chronic gastritis, pain of epigastric cold.
OTC
Yituo Erythromycin particles
 
1.The alternative medicine for the patients who is sensitive to penicillin:2.Legionella 3.Mycoplasma pneumoniae pneumonia 4.genitourinary infection caused by Other chlamydia , mycoplasma. 6.Chlamydia trachomatis conjunctivitis.7.Oral infections caused by anaerobic bacteria.8.Campylobacter jejuni enteritis.9.Pertussis.10.Rheumatic fever recurrence, infective endocarditis.
 
 
 
Prescription
Chuzhang Zehaifu Tablets
For cataract.
Clear the abnormalities black bile and danyezhichuzhang mingmu.
OTC
 
Xin Ao Xing Oleanolic Acid Capsule, also known as Ao Xing Liver Cure, is the only non-prescription drug currently being sold on the market for the sub-category of Oleanolic Acid that has been approved by the SFDA for the treatment of chronic hepatitis B virus ("HBV"), which is prevalent in the PRC. It is estimated that more than 130 million people are infected with HBV, or 10% of the population (some estimates are as high as 15% of the population) in the PRC. According to the World Health Organization, approximately about 1 million people die from hepatic failure, hepatocirrhosis and primary hepatoma caused by HBV infection per year; however, it was not until December 2, 2005, that the Chinese government first issued an HBV prevention manual for the general public. (Source: www.chinagan.com)
 
There are two kinds of medicine typically used for antivirotic treatment: interferon and ribonucleotide analog, both of which do not kill the HBV directly, but inhibit the metabolizing of HBV replication.  Their side effects, however, include damage to normal healthy cells, and they require prolonged treatment periods of more than one year and high costs. (Source: Pharmacopoeia of the People's Republic of China)
 
 
Our Xin Ao Xing Oleanolic Acid Capsule is a pentacyclic triterpenoid which contains extracts from natural plants, Fructus Ligustri Lucidi and Hemsleya, and is the only SFDA-approved product to be manufactured as an OTC hepatitis B medicine in the PRC. It is also certified by the Chinese Medical Association as a specific product for hepatitis B treatment. Its pharmacological actions include the relief of hepatic injury, reduction of glutamic-pyruvic transaminase activity, promotion of hepatic cell regeneration, the inhibition of fibrous hyperplasia and prevention of hepatocirrhosis.

We estimate the demand for medicines treating hepatitis B amount to approximately $8 billion annually.  We believe that we are well-positioned to become a leader in the sale of OTC medicines for the treatment of hepatitis B as our Xin Ao Xing Oleanolic Acid Capsule is the only oral OTC drug approved by the SFDA for such treatment. We continue to aggressively advertise this product and have started various promotion programs since 2011.
 
In addition, following our acquisition of Shaanxi Weinan, we added 86 additional drugs and one health product to our current line. The 86 drugs include 60 prescription and 26 OTC drugs. We continued manufacturing and marketing Shaanxi Weinan’s existing products: Fosfomycin Calcium (prescription drug used to fight urinary tract infections), Huangyangning Tablets (prescription drug used for the treatment of cardiovascular disease), Zhitong Tougu Plaster Cream (OTC cream used as a pain reliever), Jiakangling Capsule (prescription drug used for the treatment of hyperthyroidism), Qianlietong Capsule (prescription drug used to diagnose benign prostatic hypertrophy), and Wenweishu Capsules (prescription drug used to treat chronic gastritis). We also started to manufacture and market a number of new products including: Compound Paracetamol and Amantadine Hydrochloride (OTC drug used to fight the common cold), Danshen Tablets (prescription drug used for the treatment of coronary heart disease), Piracetam Tablets (prescription drug used for the treatment of cerebrovascular disease), Erythromycin Estolate Coated Particles (prescription drug used as anti-bacterial anti-inflammatory).
 
Upon completion of the supplemental agreement with former equity holders of Shanxi Weinan, we acquired additional drug approval numbers, which cover 13 drugs including Jing Kong Tablet, Vitiligo Capsule, Danxiangrhinitis Tablets, Azithromycin Dispersible Tablet, Gynecological Leucorrhea Tablet, Chu Zhang Ze Haipu Tablets, Antideaf Otic Pill, Deafness Tongqiao Pills, Warm Palace Pregnant Son Pill, Peikun Pill, Four Square Stomach Capsule, Quick-Acting Anti-Inflammation Capsule, and Legalon Capsule.

Most of these drugs target widespread diseases and conditions affecting all ages, are sold in local pharmacies and hospitals in China, are included in the National Essential Medicines List and in most cases, are covered by personal health insurance.

Market for Our Products

Based on data that we have compiled from the business intelligence service DataMonitor, over the past decade, the Chinese medicine and pharmaceutical industry has developed at an annual growth rate of over 16%, making it one of the fastest growing industries in the Chinese economy. The PRC is among the ten largest medicine manufacturing countries and medical raw materials exporting countries in the world.

With approximately one-fifth of the world's population and a fast-growing gross domestic product, the PRC presents significant potential for the pharmaceutical industry. We believe that the burgeoning market provides many business opportunities for us. We are pursuing opportunities in several sectors that we believe will experience high growth and that we can address with our manufacturing and distribution expertise. The following is a brief overview of these potential sectors:

Hepatitis

We estimate that there are approximately 120 million hepatitis patients in the PRC. Currently, the most common way to establish an effective treatment protocol is through a doctor or hospital. As many patients have chronic HBV, ailments are prevalent and typically become more severe if not properly treated. However, HBV patients in the PRC also bear substantial psychological pressure, since it is very contagious. Infected patients are often fearful that their relatives, friends and coworkers will become aware of their circumstances and wind up soliciting treatment in secret, if at all. (Source: www.mdcn.com.cn) In addition to producing a medicine to treat HBV, we have launched CHIH, an internet portal designed to promote our product while providing HBV patients with current and relevant treatment information at the same time.  We are positioning ourselves as a leader in HBV treatment.
 
 
Coronary Disease
 
According to the World Heart Federation, cardiovascular disease is the leading cause of death in the developing world (with the exception of sub-Saharan Africa). Its rise is linked to the increase in prevalence of risk factors such as tobacco use and relative lack of access to interventions to managing the ensuing disease. In the PRC, annual direct costs are estimated at (euro) 30.76 billion or 4% percent of gross national income. The PRC is facing an increase in cardiac disease on two fronts. We believe that in urban and upscale areas, heart disease is on the rise as the prevailing lifestyles have appeared to result in higher incidents of stress, poorer nutrition, decreased physical activity and increase in tobacco use. Within the rural provinces, we believe that impoverishment is also contributing to the rise in coronary disease as most villages have no or limited access to medical help. Our Danshen Granule has been accepted as an effective product for the treatment of coronary heart disease, myocarditis and angina pectoris and we are marketing the product aggressively within the rural and urban markets.
 
Dysmenorrhe

There are an estimated 400 million "pre-menopausal" women in the PRC. (Source: www.women.org.cn) As the PRC continues to develop, the demand by women for products to treat their health concerns will continue to rise.  We believe that our Tianqi Dysmenorrhea Capsule is positioned to take a leading role in this sector.
 
Influenza

Influenza is one of the most common recurring diseases in the PRC. It has been estimated that there is an annual market of $6.25 billion for flu-related healthcare in the PRC, 85% of which is in the form of OTC consumption (source: www.pharmatech.org.cn). Some of our pharmaceutical and nutrient products are designed to relieve symptoms associated with the flu.
 
The Rural Market

Modern medicine is not yet established in much of rural PRC. Frequently-occurring respiratory, digestive, and infectious diseases (such as hepatitis) often result in far more severe symptoms than would occur with proper treatment. Patients in remote areas are often lucky to be tended to by a technical school graduate at a village "clinic" with treatments passed down from generation to generation; professional doctors are few and far between. According to a Hai Tong Securities Industry Research report, median family incomes in many parts of western PRC are less than $100 per year, yet a day in the hospital can cost $25 and when medicines, procedures and other services are added this can exceed $50.

As the PRC government works to improve the overall health of its population, the rural markets represent a significant opportunity for growth. This sector has typically been neglected by the PRC's pharmaceutical and medicine industry, as there is minimal healthcare infrastructure or standardized health care service in much of rural PRC. As part of a strategy to improve rural healthcare, the PRC's central government has initiated and launched its "New Rural Medical Care Cooperative Program" since 2008, with the intention of achieving full coverage of all rural citizens by 2010. With an estimated 900 million rural farmers throughout the nation, the implementation of this program provides substantial opportunity for market expansion in this sector, where expenditures are estimated at nearly $5.6 billion in the 3 years ending 2011 - with 80% of that budget to be paid by the regional provincial governments in mid and western PRC. Of these rural markets the provinces of Shaanxi, Sichuan, Chongqing, Gansu, Henan, Hubei, and Hunan are expected to comprise 30% of the market, or $1.7 billion. (Source: China State Council Rules of Rural Cooperative Medical System). We believe that we are well established within the rural marketplace and have developed a targeted, aggressive sales and marketing campaign designed to expand our presence of all of our products in this sector.

Pediatric Medicine

Increased access to information through education programs and the general promotion of good health within the PRC are helping to generate demand for products designed specifically for children. Furthermore, as the PRC continues to advocate the one child per family policy, parents' demands for quality children's medicines are increasing, as is the interest in brand differentiation. However, at present, few manufacturing plants specialize in pediatric medicine and there is no leading national brand. Approximately 90% of general pharmaceuticals and medicines utilized in the PRC have no corresponding pediatric formula for their drugs, leaving substantial opportunity for growth.  We plan to introduce new products to address these issues.  In particular, we plan to enhance production of our pediatric medicines and market our pediatric cough medication.
 
 
Respiratory Disease
 
With the aggravation of air pollution and worsening environmental conditions, the incidence of respiratory diseases remains high in the PRC. Influenza is one of the most common diseases in the PRC, and according to the Ministry of Health of the PRC, an estimated 75% of the population suffers from influenza every year and 5.5% suffer from tracheitis caused by influenza. This rate is more than 15% for senior citizens, who often suffer from influenza more than 3 times per year.
 
As is shown in the related statistics in the National Health Care Department in the PRC, the percentage of the population suffering from some form of respiratory diseases in the PRC is approximately 6.94%, or approximately 80,000,000 people suffering from respiratory diseases every year.

The four common respiratory diseases - acute nasopharyngitis, influenza, tonsillar tracheitis, and chronic bronchitis - account for 80% of the respiratory diseases in the PRC (Source: http://www.301hospital.com.cn/web/shownews/jbyf/655.html). 

Our Taohuasan Pediatrics Medicine is used to treat respiratory disease in children.
 
Industry Consolidation
 
In 2003, the Chinese government issued “The Medicine Management Law”, “Pharmaceutical Manufacturing Quality Management Specifications” and implemented the Good Manufacturing Practices (“GMP”). This action has, and will continue to result in, industry consolidation as those companies without GMP certificates and without qualified facilities, capital or management expertise necessary to secure approval are forced to find strategic alternatives or cease operations.

Since 2003, the number of pharmaceutical companies in the PRC has decreased rather significantly, from 6,700 to approximately 3,600 (Source: Research and Markets, “China Pharmaceutical Industry Report (Merger and Reorganization)”). This trend has also resulted in significant opportunity for us, as we plan to identify companies that have similar products or other assets, but an inability to bring them to market.
 
Our Customers
 
Our top ten customers accounted for 42%, 36% and 37% of our total sales in Fiscal 2012, 2011 and 2010, respectively. One of our top ten customers accounted for more than 10% of our total sales in Fiscal 2012. Shanxi Huikang Pharmaceutical Co., Ltd. accounted for approximately 16.5% of our sales for the year ended December 31, 2012. No customer accounts for 10% or more of our total sales for Fiscal 2011 and 2010.
  
Competition

The pharmaceutical industry both within the PRC and globally is intensely competitive and is characterized by rapid and significant technological progress.  Our competitors, both domestic and international, include large pharmaceutical companies, universities, and public and private research institutions that currently engage in or may engage in efforts related to the discovery and development of new pharmaceuticals. Many of these entities have substantially greater research and development capabilities and financial, scientific, manufacturing, marketing and sales resources than us, as well as more experience in research and development, clinical trials, regulatory matters, manufacturing, marketing and sales.
 
 
The following table lists the primary competitors for each of our current product offerings as well as the nutrient products that we are licensed to produce:
 
Products
Competitors
Xin Ao Xing Oleanlic Acid Capsule
Wulanhaote Zhong Meng pharmaceutical Co., Ltd., Yang Ling Mai Di Sen Pharmaceutical Co., Ltd. and other suppliers of prescription medicines that are used for hepatitis treatment
Ganwang Compound Paracetamol & Amantadine Hydrochloride Capsule
Jiang Xi Ren He Pharmaceuticals, Inc. and Hainan Asia Pharmaceuticals, Inc.
Danshen Granule
Yun Nan Yong An Pharmaceuticals, Inc. and Hai Nan Min Hai Pharmaceuticals, Ltd.
Taohuasan Pediatric Medicine
Shandong Bai Cao Pharmaceuticals, Ltd., and Chang Chun Ren Min Pharmaceuticals, Ltd.
Tianqi Dysmenorrhea Capsule
Yun Nan Yu Xi City Wei He Pharmaceutical, Ltd., and Shandong Phoenix Pharmaceuticals, Ltd.
Nutrient Products
Wulanhaote Zhong Meng Pharmaceutical Co., Ltd.,Yang Ling Mai Di Sen Pharmaceutical Co., Ltd. and other traditional Chinese medicine suppliers

Of these companies, our three major competitors are Wulanhaote Zhong Meng Pharmaceutical Co., Ltd., Yang Ling Mai Di Sen Pharmaceutical Co., Ltd., and Inner Mongolia Ku Lun Pharmaceutical, Co., Ltd. because some of their products are sold in the same markets as ours.  Additionally, only Shan Dong Phoenix Pharmaceutical Inc., Yun Nan Yu Xi Wei He Pharmaceutical, Ltd., Yang Ling Mai Di Sen Pharmaceutical Co., Ltd., and Yun Nan Yong An Pharmaceuticals, Co., Ltd. hold GMP certificates.

Sources and Availability of Raw Materials and Principal Suppliers

Our principal raw materials are the active ingredients for each of our products. We currently have the ability to source part of the Danshen raw materials internally, while the remaining part of the Danshan raw materials and other raw materials, as well as packaging materials, are sourced from various independent suppliers in the PRC.

Third party vendors are selected based on a number of factors, including quality, timely delivery, cost and technical capability. Management also conducts periodic onsite reviews of our suppliers’ facilities. The vast majority of our raw material needs are readily available.  We try to maintain relationships with at least two vendors for each major raw material in order to ensure a reliable supply at reasonable prices.
  
We rely on a number of suppliers for our raw materials and packaging materials. In Fiscal 2012, Xianyang Wenlin Color Printing Co., Ltd. (“Wenlin”), Xi’an Chinese Medicine and Herbs Factory (“Xi’an Chinese Medicine”), and Zhejiang Honghui Capsule Co., Ltd.  (“Honghui”) accounted for approximately 15%, 34% and 6% of our total raw material purchase, respectively. In Fiscal 2011, Wenlin, Xi’an Chinese Medicine and Honghui accounted for approximately 17%, 49% and 10% of our total raw material purchase, respectively. In Fiscal 2010, Wenlin, Xi’an Chinese Medicine and Xi’an Shengxing Chinese Medicine Factory accounted for approximately 19%, 41% and 12% of our total raw material purchase, respectively.

We have also been cultivating herbs since October 2008, including salvia miltiorrhiza, priclklyash peel, eucommia bark, gingko, honeysuckle, shizandra berry, scutellaeria baicalensis georgi, milk veteh and radix codonopsitis. Once completed, we will be able to process these herbs into raw materials for our products. In Fiscal 2012, we started to harvest and use Danshen which accounted for 4.7% of the Danshen we use as raw material. We estimate there is an annual increase of 10% to 20% in production of Danshen in the coming years. Other herbs will be ready for harvest in three years. We will also be able to sell excesses on the market as raw materials.
 

 
Intellectual Property

We rely on a combination of trademark, patent and trade secret protection laws in the PRC, as well as confidentiality procedures and contractual provisions to protect our intellectual property. We also require our employees to execute confidentiality and trade secret agreements.

We currently hold one patent for the production method of our Aoxing Ganbao product, with two additional patents pending approval, and 9 registered trademarks in the PRC, and own the rights to the internet domain names www.biostarpharmaceuticals.com and www.aoxing-group.com. Our patent, patent number ZL2007100180930, was approved on September 16, 2009, and is valid for twenty years.
 
Below is a list of our trademarks, all registered with Trademark Bureau of SAIC (State Administration of Industry and Commerce) by Aoxing Pharmaceutical.
 
Trade Mark
Term
“Yi Wen Ling” & device (Certificate: No. 1008816)
May 21, 2007 to May 20, 2017
“Zhong Ao” & device. (Certificate: No. 1728599)
March 14, 2012 to March 13, 2022
“Xin Tai Ke” & device (Certificate No. 1908333)
September 28, 2012 to September 27, 2022
“Gan Wang” & device, (Certificate No. 3001006)
November 14, 2012 to November 13, 2022
“Hei Gen” (Certificate: No. 3168882)
July 7, 2003 to July 6, 2013
“Shi Li Ming” (Certificate: No. 3180355)
August 7, 2003 to August 6, 2013
“Aoxing No.1” (Certificate: No. 3168883)
February 21, 2004 to February 20, 2014
“Cha Ge De ” & device (Certificate: No. 4770095)
December 21, 2008 to December 20, 2108
“Cha Ge De Ri” & device (Certificate: No. 1624463)
August 28, 2011 to August 27, 2021
“Ao Xing Xin Le” & device (Certificate: No. 4319027)
November 28, 2007 to November 27, 2017
“Yin Shi” & device (Certificate: No. 3650168)
November 21, 2005 to November 20, 2015
“Kangbinzhu” & device (Certificate: No. 3832841)
April 14, 2006 to April 13, 2016
“Shabinjun & device (Certificate: No. 3832844)
April 14, 2006 to April 13, 2016
“Kangbinzhu” & device (Certificate: No. 7858678)
January 14, 2011 to January 13, 2021
“Xinlao No.1” (Certificate: No. 3619525)
October 14, 2005 to October 13, 2015
“Baoertong” & device (Certificate: No. 3829856)
June 14, 2006 to June 13, 2016
 
Bio-pharmaceutical companies are at times involved in litigation based on allegations of infringement or other violations of intellectual property rights. Furthermore, the application of laws governing intellectual property rights in China and abroad is uncertain and evolving and could involve substantial risks to us.
 
Government Regulation

The testing, approval, manufacturing, labeling, advertising and marketing, post-approval safety reporting, and export of our products are extensively regulated by governmental authorities in the PRC.  We are also subject to the Drug Administration Law of the PRC, which governs the licensing, manufacturing, marketing and distribution of pharmaceutical products in the PRC and sets penalties for violations of the law. We are also subject to various other regulations and permit systems by the Chinese government. These regulations and their impact on our business are set forth in more detail below.
  
 
Drug Administration Law of the PRC was promulgated by the Standing Committee of National People’s Congress on February 28, 2001 and effective as of December 1, 2001, and its implementing guidelines were promulgated by the State Council on August 4, 2004 and effective as of September 15, 2002. According to Drug Administration Law of the PRC and its implementing guidelines, a pharmaceutical manufacturer is required to obtain a Pharmaceutical Manufacturing Permit and Drug Approval Number for each manufactured drug from the relevant SFDA’s provincial branch, which will be valid for five years and is renewable upon application before expiration. Accordingly, we are required to apply for these approvals and any extensions thereof for each of our products.
 
 
 
Administration Regulations for Drug Registration was promulgated by the SFDA on July 10, 2007, and was effective as of October 1, 2007.  The Administration Regulations for Drug Registration specifies the requirements and procedure for obtaining a Drug Approval Number for a new drug.  It includes the requirements for clinical trial of new drugs, procedure for registering imported medicine and reporting and approval procedure for generic medicine. The Drug Approval Number is valid for five years and can be re-registered upon expiration. We are required to obtain a Drug Approval Number for each of our new drugs and reapply for an extension prior to the expiration date the drugs.

 
Good Manufacturing Practices (GMP) for Pharmaceutical Products, as revised in 1998 was promulgated by the SFDA on June 18, 1999 and became effective as of August 1, 1999, and the Authentication Regulations for Drug GMP was promulgated by the SFDA on September 7, 2005 and became effective on October 1, 2005.  A pharmaceutical manufacturer must meet the GMP standards and obtain the GMP Certificate with a five-year validity period from SFDA. Before the GMP Certification expires, the pharmaceutical manufacturer must apply again and complete the relevant procedures, which may take about 120 working days, to obtain a new GMP Certificate. On October 24, 2007, the SFDA issued new guidelines for authentication standards of GMP, effective as of January 1, 2008. The new guideline may result in a rise of cost for a pharmaceutical manufacturer to meet the new standards in order to maintain the GMP qualification. If a pharmaceutical manufacturer fails to obtain or maintain GMP Certification and still carries on production of its drugs, it will be fined and its Pharmaceutical Manufacturing Permit may be revoked under serious circumstances. We are required to apply for a GMP certificate for each of our products and reapply prior to the expiration date and maintain our Pharmaceutical Manufacturing Permit.

 
Administration Regulations for Drug Call-back was promulgated by the SFDA on December 10, 2007 and effective on the same day. According to the Administration Regulations for Drug Call-back, the pharmaceutical manufacturer should establish a drug call-back system and collect information regarding the drug safety. If a manufacturer discovers any unreasonable danger of drug that threatens people’s safety and health, it should immediately stop the manufacturing and sale of such drug, notify the distributors and report to the branch of the SFDA. This regulation also stipulates the procedures of drug call-back and danger valuation standards established and maintain a drug call back system in conformance the regulations.
 
 
Administration Regulations for Drug Instructions and Labels was promulgated by the SFDA on March 15, 2006 and was effective as of June 1, 2006. According to Administration Regulations for Drug Instructions and Labels, the contents of instructions and labels of each drug must be approved by the SFDA, and the smallest packing unit of drug shall be attached with instruction.  We have developed, received approval and maintain drug labeling in conformance with the regulations for our existing products and must do so for new products.
 
 
Supervision Administration Regulations for Drug Distribution was promulgated by the SFDA on January 31, 2007 and effective as of May 1, 2007. According to Supervision Administration Regulations for Drug Distribution, a pharmaceutical manufacturer can only sell drugs produced by itself, and it shall not sell drugs produced by other manufacturers or produced by itself but for commissioning manufacturing purposes. We do not resell drugs from any other pharmaceutical manufacturers.
 
 
Regulations for Drug Advertisement Censoring was promulgated by the SFDA and State Administration for Industry and Commerce (the “SAIC”) on March 13, 2007 and effective as of May 1, 2007. The Standards for Drug Advertisement Censoring and Publication was promulgated by the SFDA and the SAIC on March 3, 2007 and made effective as of May 1, 2007. According to Regulations for Drug Advertisement Censoring, a pharmaceutical manufacturer must obtain a Drug Advertisement Approval Number from the provincial branch of the SFDA which is valid period of one year if the drug advertisement describes the functions or benefits of a drug. However, if an over the counter drug advertisement in any media, or a prescription drug advertisement in professional medical magazine, only refers to the name of the drug, including the general name and commercial name, without any other addition promotional information, the advertisement does not need to be censored or approved.  We have obtained a Drug Advertisement Approval Number for all our drugs and review all of our OTC drug advertisements so that they are in conformance with the regulations relating to advertising these products.
   
 
Food Hygiene Law and Rules on Food Hygiene Certification mandates that a distributor of nutritional supplements and other food products must obtain a food hygiene certificate from relevant provincial or local health regulatory authorities. The grant of such certificate is subject to an inspection of the distributor’s facilities, warehouses, hygienic environment, quality control systems, personnel and equipment. The food hygiene certificate is valid for four years, and the holder must apply for renewal of the certificate within six months prior to its expiration.
 
We have enjoyed a sound, cooperative working relationship with the Shaanxi People's Government and related government departments since our founding. Adjustments to our operating strategies and long-term business plans have been unanimously approved by relevant departments and by provincial-level government entities.
 
 
The SFDA

The application and approval procedure in the PRC for a newly developed drug has numerous steps. For each new product, we prepare documentation covering pharmacological, toxicity, pharmacokinetics and drug metabolism studies in addition to providing samples of the drug. The documentation and samples are then submitted to the provincial SFDA. This process typically takes approximately three months. After the documentation and samples have been approved by the provincial SFDA, the provincial administration submits the approved documentation and samples to the SFDA. The SFDA examines the documentation and tests the samples and presents the findings to the New Drug Examination Committee for approval. If the application is approved by the SFDA, the SFDA will issue a clinical trial license to the applicant for clinical trials. This clinical trial license approval typically takes one year, followed by approximately two years of trials, depending on the category and class of the new drug. The SFDA then examines the documentation from the trial and, if approved, issues the new drug license to the applicant. This process usually takes eight months. The entire process takes anywhere from three to four years.

The SFDA and the China Traditional Medicine Administration Bureau regulate the process for new drug approval and licensing in the PRC, which can involve many levels of authority, lacking in transparency, and presents one of the greatest obstacles for companies to introduce new drugs into the market. One of the preliminary aspects of the application process involves a review of the Chinese market's need for a particular drug. If the SFDA determines that the market niche for a particular drug is saturated, the drug will not receive further consideration and the licensing application will be denied. According to industry analysts, eighty-five percent of applications for new drugs licensing is determined by SFDA to be in saturated markets and thus are not considered for approval. Only fifteen percent of new-to-market drug applications are considered for approval by the SFDA.

Furthermore, only companies that meet the GMP standard may apply for new drug approvals with the SFDA. The SFDA estimates that less than 20% out of the 6,000 pharmaceutical companies in the PRC currently meet the GMP standard.
 
We estimate that the cost to receive approval from the SFDA for a new product will range from RMB 1.1 million (approximately $174,000) to RMB 4.15 million (approximately $659,000).

Our receipt of a GMP certificate and approval by the SFDA of our prescription and OTC drugs represent a significant competitive advantage as these approvals present a significant barrier to entry by new companies hoping to enter the pharmaceutical drug industry.
 
Nevertheless, the new drugs we seek to bring to market are regulated by the SFDA and the China Traditional Medicine Administration Bureau and are estimated to now cost between RMB 1.1 million (approximately $174,000) to RMB 4.15 million (approximately $659,000) per product which must be provided through our cash flow or from financing activities as new products are introduced. In addition, our new products may not pass the clinical review and testing process which can negatively affect our cash flow and income.
 
We are subject to possible administrative and legal proceedings and actions by these various regulatory bodies. Such actions may include product recalls, seizures and other civil and criminal sanctions which could have a materially adverse effect on our prospects.
 
Environmental Regulation

Our operations and facilities are subject to environmental laws and regulations stipulated by the national and the local environment protection bureaus in the PRC. Relevant laws and regulations include provisions governing air emissions, water discharge and the management and disposal of hazardous substances and wastes. The PRC regulatory authorities require pharmaceutical companies to carry out environmental impact studies before engaging in new construction projects to ensure that their production processes meet the required environmental standards.

We maintain controls at our production facilities to facilitate compliance with environmental rules and regulations. We are not aware of any investigations, prosecutions, disputes, claims or other proceedings in respect of environmental protection, nor have we been subject to any action by any environmental administration authorities of the PRC. To our knowledge, our operations meet or exceed the existing requirements of the PRC.
 
Advertising Laws

Advertisement Law of the People’s Republic of China and Rules of Medicine Advertisements Management from State Admission for Industry and Commerce, Regulations on Control of Advertisements (tentative) from State Council provide guidelines for advertising prescription and OTC drugs and nutrients. The rules limit where advertisements may be placed and govern the claims that may be made by the manufacturer.
 

Product Liability and Consumers Protection

Product liability claims may arise if the products sold have any harmful effect on the consumers. The injured party may make a claim for damages or compensation. The General Principles of the Civil Law of the PRC, which became effective in January 1987, state that manufacturers and sellers of defective products causing property damage or injury shall incur civil liabilities for such damage or injuries.

The Product Quality Law of the PRC was enacted in 1993 and amended in 2000 to strengthen the quality control of products and protect consumers’ rights and interests. Under this law, manufacturers and distributors who produce or sell defective products may be subject to confiscation of earnings from such sales, revocation of business licenses and imposition of fines, and in severe circumstances, may be subject to criminal liability.

The Law of the PRC on the Protection of the Rights and Interests of Consumers was promulgated on October 31, 1993 and became effective on January 1, 1994 to protect consumers’ rights when they purchase or use goods or services. All business operators must comply with this law when they manufacture or sell goods and/or provide services to customers. In extreme situations, pharmaceutical product manufacturers and distributors may be subject to criminal liability if their goods or services lead to the death or injuries of customers or other third parties.
 
Circular 106
 
On May 31, 2007, China’s State Administration of Foreign Exchange (“SAFE”) issued an official notice known as “Circular 106”, which requires the owners of any Chinese companies to obtain SAFE’s approval before establishing any offshore holding company structure in so-called “round-trip” investment transactions for foreign financing as well as subsequent acquisition matters in China. Likewise, the “Provisions on Acquisition of Domestic Enterprises by Foreign Investors”, issued jointly by Ministry of Commerce (“MOFCOM”), State-owned Assets Supervision and Administration Commission, State Taxation Bureau, State Administration for Industry and Commerce, China Securities Regulatory Commission and SAFE in September 2006, impose approval requirements from MOFCOM for “round-trip” investment transactions, including acquisitions in which equity was used as consideration.

 Dividend Distribution

The principal laws, rules and regulations governing dividends paid by our PRC affiliated entities include the Company Law of the PRC (1993), as amended in 2006, Wholly Foreign Owned Enterprise Law (1986), as amended in 2000, and Wholly Foreign Owned Enterprise Law Implementation Rules (1990), as amended in 2001. Under these laws and regulations, each of our consolidated PRC entities, including wholly foreign owned enterprises, or WFOEs, and domestic companies in China may pay dividends only out of their accumulated profits, if any, determined in accordance with PRC accounting standards and regulations. In addition, each of our consolidated PRC entities, including WFOEs and domestic companies, is required to set aside at least 10% of its after-tax profit based on PRC accounting standards each year to its statutory surplus reserve fund until the accumulative amount of such reserve reaches 50% of its respective registered capital. These reserves are not distributable as cash dividends. As of December 31, 2012, the accumulated balance of our statutory reserve funds reserves amounted to RMB 51.3 million (approximately $6.7 million) and the accumulated profits of our consolidated PRC entities that were available for dividend distribution amounted to RMB 238.1 million (approximately $33.1 million).
 
Foreign Exchange Regulation
 
The ability of our PRC affiliated entities to make dividends and other payments to the Company may also be restricted by changes in applicable foreign exchange and other laws and regulations.
 
Foreign currency exchange regulation in the PRC is primarily governed by the following rules:
 
·  
Foreign Exchange Administration Rules (1996), as amended in August 2008, or the Exchange Rules;
·  
Administration Rules of the Settlement, Sale and Payment of Foreign Exchange (1996), or the Administration Rules.
 
Currently, under the Administration Rules, Renminbi is freely convertible for current account items, including the distribution of dividends, interest payments, trade and service related foreign exchange transactions, but not for capital account items, such as direct investments, loans, repatriation of investments and investments in securities outside of the PRC, unless the prior approval of the State Administration of Foreign Exchange (the “SAFE”) is obtained and prior registration with the SAFE is made. Foreign-invested enterprises like Shaanxi Biostar  that need foreign exchange for the distribution of profits to its shareholders may effect payment from their foreign exchange accounts or purchase and pay foreign exchange rates at the designated foreign exchange banks to their foreign shareholders by producing board resolutions for such profit distribution. Based on their needs, foreign-invested enterprises are permitted to open foreign exchange settlement accounts for current account receipts and payments of foreign exchange along with specialized accounts for capital account receipts and payments of foreign exchange at certain designated foreign exchange banks.
 
Although the current Exchange Rules allow the convertibility of Chinese Renminbi into foreign currency for current account items, conversion of Chinese Renminbi into foreign exchange for capital items, such as foreign direct investment, loans or securities, requires the approval of SAFE, which is under the authority of the People’s Bank of China. These approvals, however, do not guarantee the availability of foreign currency conversion. The Company cannot be sure that it will be able to obtain all required conversion approvals for its operations or the Chinese regulatory authorities will not impose greater restrictions on the convertibility of Chinese Renminbi in the future. Currently, most of the Company’s retained earnings are generated in Renminbi. Any future restrictions on currency exchanges may limit the Company’s ability to use its retained earnings generated in Renminbi to make dividends or other payments in U.S. dollars or fund possible business activities outside China.
 
 
Taxation

The PRC Enterprise Income Tax Law, or the EIT Law provides that enterprises established outside of China whose “de facto management bodies” are located in China are considered “resident enterprises” and are generally subject to the uniform 25% enterprise income tax rate as to their worldwide income. Under the implementation regulations for the EIT Law, “de facto management body” is defined as a body that has material and overall management and control over the manufacturing and business operations, personnel and human resources, finances and treasury, and acquisition and disposition of properties and other assets of an enterprise. Although substantially all of our operational management is currently based in the PRC, it is unclear whether PRC tax authorities would treat us as a PRC resident enterprise.
 
Under the EIT Law and implementation regulations, PRC income tax at the rate of 10% is applicable to dividends payable to investors that are “non-resident enterprises,” which do not have an establishment or place of business in the PRC, or which have such establishment or place of business but the relevant income is not effectively connected with the establishment or place of business, to the extent such dividends are derived from sources within the PRC. Similarly, any gain realized on the transfer of shares by such investors is also subject to 10% PRC income tax if such gain is regarded as income derived from sources within the PRC. If we are considered a PRC “resident enterprise,” it is unclear whether dividends we pay with respect to our common shares, or the gain you may realize from the transfer of our common shares, would be treated as income derived from sources within the PRC and be subject to PRC income tax. It is also unclear whether, if we are considered a PRC “resident enterprise,” holders of our common shares might be able to claim the benefit of income tax treaties entered into between China and other countries.
 
Price Controls

The retail prices of some pharmaceutical products sold in China, primarily those included in the national and provincial medical insurance catalogs and those pharmaceutical products whose production or distribution are deemed to constitute monopolies, are subject to price controls in the form of fixed prices (for non-profit medical institutions) or price ceilings. Manufacturers or distributors cannot freely set or change the retail price for any price-controlled product above the applicable price ceiling or deviate from the applicable fixed price imposed by the PRC government. The prices of medicines that are not subject to price controls are determined freely at the discretion of the respective pharmaceutical companies, subject to notification to the provincial pricing authorities.
 
The retail prices of medicines that are subject to price controls are administered by the Price Control Office of the National Development and Reform Commission (“NDRC”), and provincial and regional price control authorities. The retail price, once set, also effectively determines the wholesale price of that medicine. From time to time, the NDRC publishes and updates a list of medicines that are subject to price control. Fixed prices and price ceilings on medicine are determined based on profit margins that the relevant government authorities deem reasonable, the type and quality of the medicine, its production costs, the prices of substitute medicine and the extent of the manufacturer’s compliance with the applicable Good Manufacturing Practice (“GMP”) standards. The NDRC directly regulates the pricing of a portion of the medicine on the list, and delegates to provincial and regional price control authorities the authority to regulate the pricing of the rest of the medicine on the list. Provincial and regional price control authorities have discretion to authorize price adjustments based on the local conditions and the level of local economic development. Currently, approximately 2,014 pharmaceutical products are subject to price controls. The price controls of all of those pharmaceutical products are administered by the NDRC.

Only the manufacturer of a medicine may apply for an increase in the retail price of the medicine, and it must either apply to the provincial price control authorities in the province where it is incorporated, if the medicine is provincially regulated, or to the NDRC, if the medicine is NDRC regulated. For a provincially regulated medicine, in cases where provincial price control authorities approve an application, manufacturers must file the newly approved price with the NDRC for record and thereafter the newly approved price will become binding and enforceable across China.

Since May 1998, the PRC government has been ordering reductions in the retail prices of various pharmaceutical products. The latest price reduction occurred in October 2008. As of December 31, 2011, only one of our pharmaceutical products was subject to price controls. Price controls, however, have had no significant impact on our operations as our price points have historically been substantially below such government-imposed ceilings.

The NDRC may grant premium pricing status to certain pharmaceutical products that are under price control. The NDRC may set the retail prices of pharmaceutical products that have obtained premium pricing status at a level that is significantly higher than comparable products.

Research and Development

We currently have seven potential products in the research and development pipeline. Identified compounds are currently being tested for indications related to neoplastic disease, central nervous system disease, an anti-infection medicine, kidney tonifying medicine and sterility. We anticipate we will be able to introduce three to five new products to market each year.  

In addition to the work being done in our in-house research department, we are working with prestigious Chinese universities and research institutes in the PRC to develop effective, high margin products. Specifically:

Starting from 2006, Aoxing Pharmaceutical entered into a technological cooperation agreement with Shaanxi University of Science and Technology (“Shaanxi University”) under which Shaanxi University agreed to provide interns to assist with our product development for payment from us of RMB 600 per month to the interns. Additionally, Shaanxi University agreed to provide advisory educational services to improve our pharmaceutical production techniques. We are authorized to use the education material in our production process but do not own the educational materials. Shaanxi University also agreed to assist us in developing improved production techniques for new drugs, the ownership of which shall be held by Aoxing Pharmaceutical. The fees to be paid to Shaanxi University for new drug development will be made under a separate agreement, although there is currently no funding requirement.
 
 
Starting from 2006, Aoxing Pharmaceuticals entered into a technological cooperation agreement with the College of Life Sciences of Northwest University (“Northwest University”), pursuant to which we agreed to make our facilities available for practical studies for interns from Northwest University. In return, Northwest University agreed to assign its personnel to teach our staff various agricultural sciences associated with growing plants and herbs used in traditional Chinese medicines (“TCM”). We are authorized to use the education material in our production process but do not own the educational materials. In addition, the parties agreed to cooperate on the development of new TCM, the ownership of which will be held by us. The fees to be paid Northwest University for new drug development were made under a separate agreement, although we have currently not entered into any such agreement.
 
On January 5, 2007, Aoxing Pharmaceutical entered into a cooperation agreement with Xianyang Material Medical Institute (“Xianyang Institute”) for the development of a new drug called Zenbaowan Capsule. Under the agreement, Xianyang Institute is responsible for the research and development of the new drug in compliance with the PRC Drug Administration Law and the Administration Regulations for Drug Registration, as well as the SFDA application process for, the new drug. In addition, the parties agreed to long term technical cooperation on products mutually identified in the future under the terms of separate agreements. Any product developed by Xianyang Institute under this agreement, and the intellectual property rights related thereto, will be owned by us. We agreed to pre-pay all application expenses and to pay Xianyang Institute the aggregate consideration of RMB 180,000 (approximately $24,290), of which 50% will be paid on the first day that Zenbaowan Capsule passes the first materials and production site examinations by the SFDA, and 50% upon accreditation and receipt of the drug approval number from the SFDA. The agreement can be terminated by either party without notice. No payments have been made to date.
 
On December 15, 2010, Aoxing Pharmaceutical entered into a product research and development agreement with Northwest University to jointly conduct the research, development and production of a medicine, Danshensu Borneol Ester (“DBZ”), for treatment of ischemic cerebrovascular disease. Pursuant to the agreement, Aoxing shall acquire a 60% equity interest in DBZ and shall be entitled to 60% of the after-tax profits after the product is put into production. Aoxing shall have the exclusive right to produce and sell the product in China and own the exclusive approval number. Northwest University shall not transfer the product to any third party in China. In consideration, Aoxing shall pay Northwest University an aggregate of RMB 72 million (approximately $11.5 million) for the research, development and approval of the product, payable in four installments. The first payment of RMB 15 million as deposit shall be paid within twenty business days after execution of this agreement; the second installment of RMB 20 million shall be prior to January 15, 2012 for the first and second phase clinical research; the third installment of RMB20 million shall be paid prior to January 15, 2013 for the third and fourth clinical research and the last installment of RMB 17 million shall be paid prior to January 15, 2013 for product approval. As of the date of this annual report, we have paid an aggregate of RMB 55 million (approximately $8.8 million) to Northwest University in connection with the agreement.
 
We spent approximately $36,000, $2,324,000 and $4,476,000 in fiscal years of 2010, 2011 and 2012, respectively, for research and development.  We anticipate spending approximately $3.5 million for research and development in fiscal year 2013.

Employees
 
As of April 12, 2013, we had a total of about 439 full time employees who receive labor insurance. These employees are organized into a union under the labor laws of the PRC and can bargain collectively with us. We maintain good relations with our employees.

We are required to contribute a portion of our employees' total salaries to the Chinese government's social insurance funds, including medical insurance, unemployment insurance and birth insurance and to purchase job injury insurance for employees, in accordance with relevant regulations. The government's social insurance funds account for 20% of employees' total salaries. The job injury insurance premium is about RMB 50 (approximately $7) per person. We expect the amount of our contributions to the government's social insurance funds and the cost related to job injury insurance to increase in the future as we expand our workforce and operations.

Seasonality of Sales
 
Sales in the first quarter are usually lower due to people traveling and taking vacations during the traditional Chinese New Year and Chinese Spring Festival holidays. Sales in the fourth quarter are usually the highest among quarters. Sales in the first and fourth quarters of fiscal 2010 approximately 15% and 35% of total sales for those period, respectively; approximately 17% and 28% for those periods in fiscal 2011, respectively and approximately 33 % and 32% for those periods in fiscal 2012, respectively. This reflects the seasonal nature of our sales.

ITEM 1A.  RISK FACTORS

Not applicable.
 
 
ITEM 1B. UNRESOLVED STAFF COMMENTS
 
Not applicable.
 
ITEM 2. DESCRIPTION OF PROPERTY

The table below provides a general description of our major offices and facilities:

Location
Principal Activities
Area(Sq meter)
LUR and Lease Term
No. 588 Shiji Xi Road, Xianyang, Shaanxi Province, PRC 712000
Headquarter, GMP Facility, R&D
19,036
50-year land use right expiring in June 2056
Wuquan Village Jiangcun Town Hu Country Xi'an City
Herb cultivation
343,983
40-year land lease expiring on  May 4, 2049
Weihua Road, Weinan City, Shaanxi, PRC
GMP Facility, R&D
63,851
50-year land use right expiring in August 2053

All land in the PRC is owned by the government and cannot be sold to any individual or entity. Instead, the government grants landholders a land use right in exchange for a purchase price for such right. The land use right allows its holder the right to use the land for a specified long-term period of time and enjoys all the incidents of ownership of the land.

The land use right for the site of our headquarters was acquired in 2006, including land confiscation fee, settlement compensation, ground structure compensation, city construction fitting fee, land reclamation fee, agriculture land fund, water construction fund, agricultural tax, land use fee, and land leasing fee. No additional payment will be needed to retain this right.
 
During the 4th quarter of 2011, following the protracted negotiations with the local government of Zouan Town, Xi’an City, the Company determined to give up the land use right for the construction of raw materials processing plant in Zouan Town. The land use right for the 34,803 square meter facility was acquired in 2009 in consideration for RMB 20 million (approximately $3.1 million). The Company’s determination was preceded by ongoing attempts to resolve a labor dispute with the local government relating to a previous paper mill labor force on this site to be retained by the Company following its acquisition of the property and business, which attempts yielded no positive results.  In March 2012, the Company reached an agreement with the local government whereby the government will refund part of the consideration paid for the land (RMB 12.5 million, approximately $1.9 million). The foregoing refund was recorded as “Other Receivable” in the fiscal year 2011.  During the year ended December 31, 2012, the Company has received amounts totaling approximately $1.77 million.
 
In December 2011, Xianyang Land Reserve Center, the governmental entity that holds the title to all land in the Shaanxi Province, reclaimed approximately a 33,228 square meter portion of the real estate (with carrying amount of RMB 28.5 million or approximately $4.5 million) at our Xianyang, Shaanxi Province headquarters, none of which have been used by our Company. We leased all 52,264 square meters of real estate in Xianyang under 50-year land use right expiring in June 2056. At the time of the lease commencement in 2006, all of the land was designated for industrial use; however, in 2011, the local Municipal Construction Planning Department repurposed a portion of the real estate for residential use. The Company has reached an agreement with the local government, whereby the Company will be reimbursed RMB 24.8 million (approximately $3.9 million) for the reclaimed portion of its building and land use right. As a result of the foregoing, the Company recorded approximately $3.9 million as Other Receivable, and recognized an impairment loss of approximately $0.6 million in Fiscal 2011. As at December 31, 2012, these amounts were still outstanding.
 
The land right for our cultivation site was acquired in 2009 for a total of RMB 8 million ($1.2 million).
 
The land use right of Weinan site was acquired in October 2011 when we made the acquisition of Shaanxi Weinan Huaren Pharmaceuticals, Ltd. at that time.

ITEM 3. LEGAL PROCEEDINGS

The Company may, from time to time, be involved in various legal matters arising out of its operations in the normal cause of business, none of which are expected, individually or in the aggregate, to have a material effect on the Company.
 
ITEM 4. MINE SAFETY DISCLOSURE

Not Applicable.
 

PART II

ITEM 5.  MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Market Information

The Company’s securities are currently trading on NASDAQ under the trading symbol “BSPM” (subject to the listing exception), which listing was approved in April 2010. Prior to that, our securities were quoted on the OTC BB.  The market for our common stock is limited and volatile.  Set forth below are the high and low closing sale prices for the common stock for each quarter in 2012 and 2011. The quotations reflect inter-dealer prices, without retail markup, markdown, or commissions, and may not represent actual transactions.
 
Quarter Ended
 
High
   
Low
 
December 31, 2011
 
$
2.73
   
$
1.53
 
September 30, 2011
 
$
4.23
   
$
2.04
 
June 30, 2011
 
$
6.09
   
$
3.20
 
March 31, 2011
 
$
8.19
   
$
5.52
 
                 
December 31, 2012
 
$
1.38
   
$
0.95
 
September 30, 2012
 
$
1.41
   
$
1.17
 
June 30, 2012
 
$
1.86
   
$
1.06
 
March 31, 2012
 
$
3.15
   
$
1.86
 
 
On April 12, 2013, the closing price of the Company’s common stock was $0.99.
 
Holders
 
As of April 12, 2013, we had 50 record holders of our common stock based upon a shareholder list provided by our transfer agent. Our transfer agent is Interwest Transfer Co., Inc. located at 1981 Murray Holladay Road, Suite 100, Salt Lake City, UT  84117, and their telephone number is 1-801-272-9294.
 
Dividends
 
We have not declared or paid any cash dividends on our common stock during either of our last two fiscal years. The payment of dividends, if any, is at the discretion of the Board of Directors and is contingent on the Company's revenue and earnings, capital requirements, financial conditions. We currently intend to retain all earnings, if any, for use in business operations. Accordingly, we do not anticipate declaring any dividends in the near future.
 
Securities Authorized for Issuance under Equity Compensation Plans

Please see the discussion in ITEM 12 titled “Equity Compensation Plan Information” below.

The Company issued no unregistered shares of Common stock during the three months ended December 31, 2012. The Company did not repurchase any of its equity securities during the quarter ended December 31, 2012.
 
 
ITEM 6.  SELECTED FINANCIAL DATA

Not applicable.

ITEM 7.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
The following discussion should be read in conjunction with our financial statements and the notes thereto which appear elsewhere in this report. The results shown herein are not necessarily indicative of the results to be expected in any future periods. This discussion contains forward-looking statements based on current expectations, which involve uncertainties. In some cases, you can identify forward-looking statements by terminology such as "anticipate," "estimate," "plan," "project," "predict," "potential," "continue," "ongoing," "expect," "believe," "intend," "may," "will," "should," "could," or the negative of these terms or other comparable terminology. All forward-looking statements included in this document are based on information available to the management on the date hereof.   Actual results and the timing of events could differ materially from the forward-looking statements as a result of a number of factors. Readers should also carefully review factors set forth in other reports or documents that we file from time to time with the Securities and Exchange Commission.

You should read the following discussion and analysis in conjunction with our audited financial statements, and the “Risk Factors” section in our filings we make with the SEC.  We undertake no obligation and do not intend to update, revise or otherwise publicly release any revisions to our forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of any unanticipated events.

Overview

Biostar Pharmaceuticals, Inc. (“we”, the “Company” or “Biostar”) was incorporated on March 27, 2007 in the State of Maryland. Our business operation is conducted in China primarily through our variable interest entity (“VIE”), Shaanxi Aoxing Pharmaceutical Co., Ltd. (“Aoxing Pharmaceutical”), which we control through contractual arrangements between Aoxing Pharmaceutical and our wholly owned subsidiary, Shaanxi Biostar Biotech Ltd. (“Shaanxi Biostar”).

On March 28, 2010, we, through Shaanxi Biostar, entered into an agreement to acquire the assets of Xi’an Meipude Bio-Technology Co., Ltd., a Xi’an-based medical equipment manufacturer (“Meipude”), for RMB7.85 million ($1.2 million), including certain assets registered to a family member of an original Meipude shareholder. We took control over the assets of Meipude on March 29, 2010. To facilitate the transfer of some of the assets, however, we were required to acquire all of the outstanding equity interests of Meipude, which we subsequently applied for deregistration on January 18, 2011.

In October 2011, Aoxing Pharmaceutical entered into a Share Transfer Agreement to acquire Shaanxi Weinan Huaren Pharmaceuticals, Ltd. (“Shaanxi Weinan”) from the holders of 100% of equity interests in Shaanxi Weinan. The aggregate purchase price is RMB 61 million (approximately $9.55 million), in cash and payable in several tranches.

Shaanxi Weinan owns drug approvals and permits for a portfolio of 86 drugs and one health product, all of which, were added to the Company’s current drug portfolio following the completion of this acquisition. The Company completed this acquisition on October 25, 2011, and the name of the acquired company changed to Shaanxi Weinan Aoxing Pharmaceuticals, LLC.  We are in the process of integrating the administration, operation and sales functions of Shaanxi Weinan with those of Aoxing Pharmaceutical.

We currently manufacture and sell six over-the-counter (“OTC”) medicines, ten prescription-based pharmaceuticals, six health products, and one medical device which are sold and distributed in over 25 provinces and provincial-level cities throughout China. We also have exclusive supply contract with a hospital to supply three pharmaceutical products.  Our best-selling product, Xin Ao Xing Oleanolic Acid Capsule (“Xin Ao Xing Capsule”), is a state-approved OTC drug for treatment of Hepatitis B.
 
Recent Developments

On March 11, 2013, Aoxing Pharmaceutical entered into a supplemental agreement to the Share Transfer Agreement with all the former equity holders of Shaanxi Weinan to acquire 13 drug approval numbers which were excluded from the Share Transfer Agreement due to incomplete reregistration.  Following the execution of the supplemental agreement, the Company will acquire the ownership of the 13 drug approval numbers for which reregistration has been completed. The aggregate purchase price is RMB 66 million (approximately $10.6 million) for the 13 drug approval numbers, of which RMB 30 million (approximately $4.8 million) was paid on November 26, 2012, RMB 25 million (approximately $4.0 million) was paid on December 31, 2012 and the balance of RMB 11 million (approximately $1.8 million) shall be paid in the Company’s common stock. Based on an agreed issuance price of $1.10 per share, RMB 11 million is equivalent to 1,602,564 shares of common stock of the Company. The Company completed this acquisition in April 2013.
 
 
Reverse Common Stock Split
 
On April 3, 2012, the Company effected a one-for-three reverse stock split of the issued and outstanding common stock of the Company (the “Reserve Split”). The Reverse Split was duly approved by the Board of Directors of the Company without shareholder approval, in accordance with the authority conferred by Section 2-309(e)(2) of the Maryland General Corporation Law. Holders of the Company’s common stock are deemed to hold one whole, post-split share of the Company’s common stock for every three whole, pre-split shares of the Company’s issued and outstanding common stock. Fractional share holdings are rounded up to the nearest whole number.  At the market opening on April 4, 2012, the Company’s common stock began trading on The NASDAQ Stock Market on a post-split adjusted basis. The Company’s common stock continues to trade under the symbol “BSPM,”, but is assigned a new CUSIP number.

Gel Capsule Related Developments (the “Capsule Incident”) and Effects on the Company’s Financial Position
 
In April 2012, PRC State Food and Drug Administration (SFDA) launched an investigation of several capsule manufacturers based in Zhejiang, Hebei and Jiangxi provinces into their use of industrial gelatin, which contained impermissibly high chromium content. On May 25, 2012, following a nationwide inspection, SFDA authorities reported that 669 batches of gel capsules from 254 drug manufacturers in 28 provinces were found to have high chromium levels. The results of this inspection were publicly distributed in China, including publication on SFDA’s website http://www.sda.gov.cn/WS01/CL0001. As a result, SFDA effectively suspended sales of gel capsules nationwide until the investigation was completed.
 
In May 2012, following an onsite inspection by the Xianyang State Food and Drug Administration (SFDA), samples from a batch of our Xin Aoxing capsules were found to contain chromium content higher than edible gelatin. Specifically, samples from a batch of 150 cases of the Xin Aoxing capsules (each of the 150 cases contains 8,000 capsules), representing Biostar sales of approximately RMB1,188,000 or approximately $188,000 were also found to contain high levels of chromium, which capsules, in the Company’s estimation, were sold in the market in mid-2011. The Company did not check the batch in question for the chromium levels at that time since PRC pharmaceutical companies were not required to test their gel capsule inventories and purchases for chromium levels in 2011.
 
As required by SFDA in April 2012, the Company purchased gel capsule inspection equipment to measure the chromium levels in gel capsules it used. The Company also undertook a thorough inspection of all samples of drugs sold and its current product inventory to ensure that all of the gel capsules it had purchased and currently uses comply with the SFDA chromium content requirements.  In addition, the Company conducted checks of every batch of raw materials it uses in every production category and, except as discussed above, found no violations of the chromium content requirements. Further, the Company recalled all such affected capsules as promptly and thoroughly as possible, and imposed heightened quality control and assurance measures going forward.
 
On July 30, 2012, the SFDA approved the Company’s resumption of sales of its gel capsules following a thorough inspection of raw materials used in every production category, all samples of drugs sold and the current product inventory. However, the suspension of sales of gel capsule products severely affected all China-based pharmaceutical companies that use gelatin capsules to manufacture their drugs.  The Company was not immune to the industry-wide losses and, as discussed below, the Company’s sales and overall results for the 2012 were similarly adversely affected.
 
As a result of the sales suspension of our capsule products, which accounted for 88.3% of our total sales in the year ended 2011, from April through July of 2012, and the negative publicity generated by the incident, we have experienced a decrease of 63.2% or $51.3 million of our total capsules sales.  Net sales of our capsule was $30.0 million during the year ended 2012, as compared to approximately $81.2 million.  Management has estimated that gross profit lost as a result of the incident amounts to approximately $34.5 million, after eliminating the effect of changes in sale price and cost of goods sold.  In addition, the Company paid an administrative penalty to the SFDA of approximately $1.6 million and compensations to our customers totaling approximately $8.0 million.  We also experienced a delay in the settlement of our account receivables as our customers were unable to resell our capsule products to consumers. Average accounts receivables turnover increased to 205 days for the years ended December 31, 2012 from 108 days for the year ended December 31, 2011.  Accordingly, we recognized an impairment to our account receivables totaling $3.5 million. Total measurable financial impact to the Company was estimated at a minimum of approximately $47.6 million.
 
The Company has been taking a number of steps to restart sales of gel capsule drugs immediately following the SFDA approval, including, among others, engaging its employees to work overtime, adding a second shift, launching an aggressive advertising campaign to help improve consumer confidence, establishing incentives for the sales force in all of the distribution offices nationwide, and launching an innovating B2C call center to take order and provide hands-on sales support.

 
Results of Operations

Net Sales

The following table illustrates our sales results for the years ended December 31, 2012 and 2011.
 
   
Year Ended December 31,
 
   
2012
   
2011
 
   
Sales
   
% of total sales
   
Sales
   
% of total sales
 
 Aoxing Pharmaceutical drugs and health products (capsule)
                       
 Xin Aoxing Oleanolic Acid Capsule
  $ 23,361,384       47.4 %   $ 60,483,422       65.8 %
 Ganwang Compund Paracetamol Capsule
    2,256,119       4.6 %     6,585,804       7.2 %
 Tianqi Dysmenorrhea Capsule
    2,534,147       5.1 %     6,543,902       7.1 %
 Tangning Capsule
    480,678       1.0 %     2,104,229       2.3 %
 Yizi Capsule
    964,714       2.0 %     4,527,489       4.9 %
 Shengjing Capsule
    297,918       0.6 %     950,256       1.0 %
 Subtotal
    29,894,960       60.6 %     81,195,102       88.3 %
                                 
 Aoxing Pharmaceutical drugs and health products (non-capsule)
                               
 Danshen Granule
    4,131,009       8.4 %     4,140,322       4.5 %
 Taohuasan Pediatrics Medicine
    4,138,307       8.4 %     5,453,031       5.9 %
 Aoxing Ointment
    134,063       0.3 %     309,866       0.3 %
 Subtotal
    8,403,379       17.0 %     9,903,219       10.8 %
                                 
 Shaanxi Weinan products (existing since 4th quarter 2011)
                               
 Zhitong Tougu Plaster
    1,352,454       2.7 %     518,256       0.6 %
 Jiakangling Capsule
    1,160,549       2.4 %     39,329       0.0 %
 Qianlietong Capsule
    809,947       1.6 %     98,886       0.1 %
 Huangyangning Tablet
    1,058,531       2.1 %     50,535       0.1 %
 Fosfomycin Calcium Capsule
    829,727       1.7 %     41,644       0.0 %
 Wenweishu Capsule
    955,817       1.9 %     22,687       0.0 %
 Erythromycin Estolate Granule
    169,598       0.3 %     15,462       0.0 %
 Chuzhangze Haifu Tablet
    1,092,168       2.2 %     47,513       0.1 %
 Subtotal
    7,428,791       15.1 %     834,312       0.9 %
 Medical device
                               
 Hernia belt
    22,920       0.0 %     30,806       0.0 %
                                 
 Shaanxi Weinan products (new)
                               
 Compound Paracetamol Tablet
    120,901       0.2 %     -       0.0 %
 Piracetam Tablet
    1,300       0.0 %     -       0.0 %
 Jin'gang Tablet
    292,215       0.6 %     -       0.0 %
 Danxiang Rhinitis Tablet
    135,417       0.3 %     -       0.0 %
 Erlong Tongqiao Pill
    48,154       0.1 %     -       0.0 %
 Yanlixiao Capsule
    89,782       0.2 %     -       0.0 %
 Subtotal
    687,769       1.4 %     -       0.0 %
                                 
 Hospital products (new)
                               
 Pharyngitis Granule
    1,359,543       2.8 %     -       0.0 %
 Gastritis Granule
    523,093       1.1 %     -       0.0 %
 Nasosinusitis Granule
    997,389       2.0 %     -       0.0 %
 Subtotal
    2,880,025       5.8 %     -       0.0 %
                                 
 Shaanxi Weinan products (discontinued)
                               
 Huaren Changweitong Capsule
    -       0.0 %     2,066       0.0 %
                                 
 Total Sales
  $ 49,317,844       100.0 %   $ 91,965,505       100.0 %
 
 
 For the year ended December 31, 2012, total net sales decreased by approximately $42.6 million or 46.4% compared to the year of 2011.  As discussed above sales of Aoxing Pharmaceutical’s capsule products were affected by the suspension of sale and negative publicity associated with the Capsule Incident.  Net sales of our capsule products decreased by approximately $51.3 million or 63.2%.  The sales of other Aoxing Pharmaceutical products were also affected by the negative publicity.  Net sales of these products decreased by approximately $1.5 million or 15.1%.

We acquired Shaanxi Weinan in the fourth quarter in 2011, and continued the sales of Weinan’s then existing products.  These products accounted for approximately $7.4 million or 15.1% of our total net sales in 2012.  We discontinued one product due to low sales volume and demand.  During 2012, we have reintroduced six of Weinan’s products, which accounted for approximately $0.7 million or 1.4% of our total net sales in 2012.

In 2012, we have also begun sales of three new products that were sold exclusively at a local hospital.  These products accounted for approximately $2.9 million or 5.8% of our total net sales in 2012.

As a result of the Capsule Incident, we expect the future sale of our capsule products, including the Xin Aoxing Oleanolic Acid Capsule, our flagship product, will continue to be negatively affected.  We have been taking a number of steps to restart sales of gel capsule drugs immediately following the SFDA approval. We expect the revenue from our capsule products to gradually improve.
 
Cost of sales

Compared to the fiscal year of 2011, cost of sales decreased by about $8.1 million or 29.4% for the year ended December 31, 2012.  This decrease is mainly due to the decrease in net sales.  The following table summarizes our cost of goods sold for the years ended December 31, 2012 and 2011:
 
   
Year Ended December 31,
 
   
2012
   
2011
 
   
Cost of sales
   
% of product sales
   
Cost of sales
   
% of product sales
 
 Aoxing Pharmaceutical drugs and health products (capsule)
                       
 Xin Aoxing Oleanolic Acid Capsule
  $ 4,452,466       19.1 %   $ 10,188,505       16.8 %
 Ganwang Compund Paracetamol Capsule
    1,219,631       54.1 %     3,494,768       53.1 %
 Tianqi Dysmenorrhea Capsule
    1,514,470       59.8 %     3,633,933       55.5 %
 Tangning Capsule
    154,167       32.1 %     673,504       32.0 %
 Yizi Capsule
    370,271       38.4 %     1,733,519       38.3 %
 Shengjing Capsule
    232,476       78.0 %     740,039       77.9 %
 Subtotal
    7,943,481       26.6 %     20,464,268       25.2 %
                                 
 Aoxing Pharmaceutical drugs and health products (non-capsule)
                               
 Danshen Granule
    3,731,595       90.3 %     3,510,363       84.8 %
 Taohuasan Pediatrics Medicine
    1,952,045       47.2 %     3,071,577       56.3 %
 Aoxing Ointment
    92,491       69.0 %     209,246       67.5 %
 Subtotal
    5,776,131       68.7 %     6,791,186       68.6 %
                                 
 Shaanxi Weinan products (existing since 4th quarter 2011)
    3,325,548       44.8 %     298,068       35.7 %
                                 
 Medical device
    15,786       68.9 %     23,898       77.6 %
                                 
 Shaanxi Weinan products (new)
    326,493       47.5 %     -       -  
                                 
 Hospital products (new)
    2,079,382       72.2 %     -       -  
                                 
 Shaanxi Weinan products (discontinued)
    -       -       1,021       49.4 %
                                 
 Total cost of sales
  $ 19,466,821       39.5 %   $ 27,578,441       30.0 %
 
 
As illustrated above, our overall cost of sales in 2012 was 39.5% of net sales, as compared with 30.0% for 2011. Cost of sales to sales ratio (“cost margin”) of Aoxing Pharmaceutical capsule products increased slightly, from 25.2% to 26.6%, which is attributable to products recall, and a 5.6% increase in the cost of capsules.  Cost margin of Aoxing Pharmaceutical’s non-capsule products remain relatively unchanged.
 
Cost margin of Shaanxi Weinan’s existing product was 44.8% in 2012, as compared to 35.7% in 2011.  We have lowered the selling price of these products in order to generate higher sales volume.  The increase in cost margin is consistent with the change in pricing strategy. Cost margin of Shaanxi Weinan’s new products were 47.5%.  As we have recently introduced these products, we are still determining our pricing and sales strategy for these products.

Our new hospital products’ cost margin was 72.2%.  Management believes that we may lower the average cost of these products as we increase our sales and utilize economy of scale.
 
Gross Profit

Gross profit decreased by approximately $34.5 million or 53.6% for the year ended December 31, 2012, as compared to the year of 2011. The decrease in gross profit was due primarily to the decrease in sales volume.  As discussed above, the suspension of sales of our capsule products and the negative publicity associated with the Capsule Incident contributed to an estimated $34.5 million loss in gross profit (after eliminating effect of changes in price and costs of sales).
 
   
Year Ended December 31,
 
   
2012
   
2011
 
   
Gross Profit
   
Product Gross Margin %
   
% of Total Gross Profit
   
Gross Profit
   
Product Gross Margin %
   
% of Total Gross Profit
 
 Aoxing Pharmaceutical drugs and health products (capsule)
                                   
 Xin Aoxing Oleanolic Acid Capsule
  $ 18,908,918       80.9 %     63.3 %   $ 50,294,917       83.2 %     78.1 %
 Ganwang Compund Paracetamol Capsule
    1,036,488       45.9 %     3.5 %     3,091,036       46.9 %     4.8 %
 Tianqi Dysmenorrhea Capsule
    1,019,677       40.2 %     3.4 %     2,909,969       44.5 %     4.5 %
 Tangning Capsule
    326,511       67.9 %     1.1 %     1,430,725       68.0 %     2.2 %
 Yizi Capsule
    594,443       61.6 %     2.0 %     2,793,970       61.7 %     4.3 %
 Shengjing Capsule
    65,442       22.0 %     0.2 %     210,217       22.1 %     0.3 %
 Subtotal
    21,951,479       73.4 %     73.5 %     60,730,834       74.8 %     94.3 %
                                                 
 Aoxing Pharmaceutical drugs and health products (non-capsule)
                                               
 Danshen Granule
    399,414       9.7 %     1.3 %     629,959       15.2 %     1.0 %
 Taohuasan Pediatrics Medicine
    2,186,262       52.8 %     7.3 %     2,381,454       43.7 %     3.7 %
 Aoxing Ointment
    41,572       31.0 %     0.1 %     100,620       32.5 %     0.2 %
 Subtotal
    2,627,248       31.3 %     8.8 %     3,112,033       31.4 %     4.8 %
                                                 
 Shaanxi Weinan products (existing since 4th quarter 2011)
    4,103,243       55.2 %     13.7 %     536,244       64.3 %     0.8 %
                                                 
 Medical device
    7,134       31.1 %     0.0 %     6,908       22.4 %     0.0 %
                                                 
 Shaanxi Weinan products (new)
    361,276       52.5 %     1.2 %     -                  
                                                 
 Hospital products (new)
    800,643       27.8 %     2.7 %     -                  
                                                 
 Shaanxi Weinan products (discontinued)
    -                       1,045                  
                                                 
 Total gross profit
  $ 29,851,023       60.5 %     100.0 %   $ 64,387,064       70.0 %     100.0 %


The overall gross profit margin decreased to 60.5% for the fiscal year of 2012 from 70.0% for 2011 mainly because of the increase in the cost of labour and raw material for the year ended December 31, 2012.  The decrease is also due to significant change in the sales of our products mix.  Xin Aoxing Oleanolic Acid Capsule, our highest gross profit margin product (2012: 80.9%; 2011: 83.2%), contributed 63% to total gross profit in 2012, as compared to 78% in 2011.

Operating Expenses

   
Year Ended December 31,
       
   
2012
   
2011
       
   
Operating expenses
   
% of net sales
   
Operating expenses
   
% of net sales
   
% change
 
Advertising expenses
  $ 14,154,879       28.7 %   $ 21,234,426       23.1 %     (33.3 %)
Selling expenses
    13,734,910       27.8 %     16,992,936       18.5 %     (19.2 %)
General and administrative expenses
    5,951,322       12.1 %     5,676,652       6.2 %     4.8 %
Provision for doubtful account
    3,674,905       7.5 %     -       -       100.0 %
Compensation paid
    8,044,249       16.3 %     -       -       100.0 %
Administrative penalty
    1,601,012       3.2 %     -       -       100.0 %
Research and development expenses
    4,475,806       9.1 %     2,323,996       2.5 %     92.6 %
Total operating expenses
  $ 51,637,083       104.7 %   $ 46,228,010       50.3 %     11.7 %

Total operating expense increased by approximately $5.4 million or 11.7% for the fiscal year of 2012, as compared to 2011.  The increase is attributable to an administrative penalty imposed by the SFDA and compensation paid to our customers in connection with the Capsule Incident, increase in research and development expense and increase in provision for doubtful account.
 
Advertising expenses accounted for 28.7% and 23.1% of our total net sales for the years ended December 31, 2012 and 2011, respectively.  The overall decrease of approximately $7.1 million or 33.3% is consistent with the temporary suspension of our sales of capsule products.  We incurred less advertising expenses from April to July of 2012 when the sales of our capsule products were suspended by the SFDA. We increased our advertising activities when the sales of these products resumed in August, 2012.

Selling expenses consist mostly of sales salaries, commission and other selling expenses.  Overall decrease was approximately $3.3 million or 19.2%.  The decrease is consistent with the decrease in our sales in 2012.

General and administrative expenses consist of salaries and wages, amortization and depreciation, stock based compensation and other general and administrative expenses.  There was an overall increase of approximately $0.27 million or 4.8%.  Salaries and wages increased as we acquired more employees as a result of the acquisition of Shaanxi Weinan in October 2011.  Amortization and depreciation increased as we acquired more property and equipment and intangibles as a result of the acquisition of Shaanxi Weinan in October 2011.  Stock based compensation expenses were approximately $0.8 million and $1.7 million for the years ended December 31, 2012 and 2011, respectively.  Other general and administrative expenses increased slightly as we expanded more resources in dealing with the SFDA concerning our product safety.
 
Provision for doubtful accounts was approximately $3.7 million for the year ended December 31, 2012.  There was no provision for doubtful accounts for the year ended December 31, 2011, as most of our account receivables were received during our normal credit period of 90 days.  As a result of the suspension of our capsule sales from May to August 2012, our customers were unable to resell our products to consumers.  Consequently, our customers delayed in settling our account receivables.  Average account receivables turnover increased to 205 days for the year ended December 31, 2012, from 108 days for the year ended December 31, 2011.  In light of this delay, management decided to increase our allowance for doubtful accounts to approximately $3.6 million in as at December 31, 2012 from approximately $0.1 million as at December 31, 2011.
 
In connection with the Capsule Incident that led to the suspension of our capsule sales, we were imposed a onetime, non-appealable administrative penalty of approximately $1.6 million by the SFDA.  We also paid a total of approximately $8.0 million as compensation to our customer in connection with the Capsule Incident.  Most of our customers are retail pharmacies, and were unable to resell our products to consumers as a result of the sales suspension. We compensated these customers with approximately $6.7 million in cash and approximately $1.3 million as credits to accounts receivables, for their cost of holding our products in their warehouse, and portions of their lost profits, during the sales suspension.
 
We make periodical assessments as to the progress of our research and development projects, and charge to expense as appropriate, as these projects reach different stages or project milestones.  We incurred a total of approximately $4.5 million and $2.3 million in research and development expenses for the years ended December 31, 2012 and 2011, respectively.  The increase was approximately $2.2 million or 92.6%.   Our current research developments are in connection with three ongoing clinical trials for two new products and one existing products, and a joint development of a new drug with a research institution.

 
Provision for Income Taxes
 
For the year ended December 31, 2012, we had an income tax recovery of approximately $1.6 million, which is due to our operating loss during the year.  For the year ended December 31, 2011, our provision for income taxes was approximately $5.8 million.  The effective tax rates, taking into consideration differences in allowable deductions, and changes in valuation allowances, were Nil and 33%, for the years ended December 31, 2012 and 2011 respectively. The uniform corporate income tax rate is 25% in China. The calculation of effective tax rate include the operating results of all our subsidiaries, including the U.S. corporate company.  As a result of our net operating loss during the year ended December 31, 2012, which may be used to offset future net operating income, we have recorded a deferred tax asset of approximately $3.7 million.

Liquidity and Capital Resources

As of December 31, 2012, we had cash and cash equivalents of approximately $1.8 million and net working capital of approximately $29.3 million.  We expect to generate sufficient cash and cash equivalents from the realization of our accounts receivables.  We suffered a delay in the receipt of our accounts receivables as a result of the Capsule Incident; however, the situation has improved recently as we expanded more resources on collection of accounts receivables.  For the interim period ended March 31, 2013, cash generated from realization of accounts receivables was approximately $11.5 million.  We anticipate that more of our accounts receivables totaling approximately $21.8 million, as at December 31, 2012, will be received in the second quarter of 2013. We believe our existing cash and cash equivalents and net working capital as at December 31, 2012, as well as net cash inflows during the first and second quarters in 2013 will be sufficient to maintain our operations at present level for at least the next twelve months.

As at December 31, 2012, cash and cash equivalents were mainly denominated in RMB and were deposited with banks in the PRC.  These cash and cash equivalents may not be freely convertible into foreign currencies and the remittance of these funds out of the PRC may be subjected to exchange control restrictions imposed by the PRC government.

On an on-going basis, we take steps to identify and plan our needs for liquidity and capital resources, to fund our operations and day to day business operations. Our future capital expenditures will include, among others, expanding product lines, research and development capabilities, and making acquisitions as deemed appropriate.
 
Based on our current plans for the next 12 months, we anticipate that the sales of the Company’s pharmaceutical products will be the primary organic source of funds for future operating activities in 2013. However, to fund continued expansion of our operation and extend our reach to broader markets, and to acquire additional entities, as we may deem appropriate, we may rely on bank borrowing, if available, as well as capital raises. There is no assurance that we will find such funding on acceptable terms, if at all.  Currently, substantially all of our buildings, building improvements and land use rights are pledged against short-term bank loans with various due dates from October to December 2013, which may restrict our abilities to obtain further bank financing until these short-term loans are repaid.

Net cash used in operating activities for the year ended December 31, 2012 was approximately $3.6 million. This was primarily due to our net loss of approximately $20.0 million, adjusted by non-cash related expenses including depreciation and amortization of approximately $1.8 million, stock-based compensation of approximately $0.8 million, provision for doubtful accounts of approximately $3.7 million, and research and development expenses of approximately $4.5 million, offset by a non-cash increase in deferred tax assets of approximately $2.0 million and a net increase in working capital items of approximately $6.3 million. The net increase in working capital items was mainly due to decrease in accounts receivable resulting from decrease in sales and increase in accounts and other payables, offset by increase in prepaid expenses and tax receivables.

Net cash used in investing activities for the year ended December 31, 2012 was approximately $17.3 million, primarily consisting of approximately $8.7 million paid as a deposit to acquire additional 13 drugs approvals from former equity holders of Shaanxi Weinan and a loan to a third party of approximately $9.5 million.  The loan of $9.5 million made to a third party was for the purpose of better utilization of cash and to increase interest income.
 
Net cash provided by financing activities for the year ended December 31, 2012 was approximately $5.5 million, consisting of proceeds from the three short-term bank loans obtained from a local bank in the PRC and an advance from a related party, offset by repayment of short term bank loans obtained in 2011.  
 
Critical Accounting Policies

We believe the following critical accounting policies, among others, affect management’s more significant judgments and estimates used in the preparation of the financial statements:
 

Allowance for Doubtful Accounts

We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. The allowance for doubtful accounts is based on specific identification of customer accounts and management’s best estimate of the likelihood of potential loss, taking into account such factors as the financial condition and payment history of major customers. Management evaluates the collectability of the receivables at least quarterly. If the financial condition of a customer was to deteriorate further, resulting in an impairment of their ability to make payments, additional allowances may be required.  Such differences could be material and could significantly impact cash flows from operating activities.

The following are steps the Company takes in collecting accounts receivable:

Step 1: After the payment term has been exceeded, the Company stops taking orders from the delinquent customer and allows the responsible sales person three to six months to collect the accounts receivable. Most of the accounts receivable will be collected in this step because the sales person’s compensation is tied to sales receipts. The Company’s normal sales term is 90 days credit period.

Step 2: If the sales person’s collection efforts are not successful, the Company hires a collection agent and allows the agent another three to six months to collect the accounts receivable.

Step 3: If the collection agent’s efforts are not successful, the Company will commence legal action to collect the accounts receivable.
 
Our policies for writing off the accounts receivable are as follows:

 
1.
If after taking legal action, it appears that an accounts receivable is not likely to become collectible, such accounts receivable will be written off if it is more than two years old.

 
2.
If during the collection period, the customer provides bankruptcy or other insolvency documentation, the corresponding accounts receivable will be written off.

 
3.
If we are no longer able to locate a particular customer in order for us to take any collection or legal actions, the accounts receivable for such customer will be written off if it is more than two years old.

Inventory

We write down our inventory for estimated obsolescence or unmarketable inventory equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand, future pricing and market conditions. If actual future demands, future pricing or market conditions are less favorable than those projected by management, additional inventory write-downs may be required and the differences could be material. Such differences might significantly impact cash flows from operating activities.
 
Property and Equipment
 
Property and equipment are stated at historical cost less accumulated depreciation and amortization. Depreciation is computed using the straight-line method over the estimated useful lives of the assets. Judgment is required to determine the estimated useful lives of assets, especially for computer equipment, including determining how long existing equipment can function and when new technologies will be introduced at cost-effective price points to replace existing equipment. Changes in these estimates and assumptions could materially impact the financial position and results of operations.

Stock-Based Compensation

Our stock-based compensation expense is estimated at the grant date based on the award’s fair value as calculated by the Black-Scholes-Merton (BSM) option-pricing model and is recognized as expense over the requisite service period. The BSM model requires various highly judgmental assumptions including expected volatility and option life. Changes in these assumptions could materially impact the financial position and results of operations.


Valuation of Intangibles

From time to time, we acquire intangible assets that are beneficial to our product development processes. Management periodically evaluates the carrying value of intangibles, including the related amortization periods. In evaluating acquired intangible assets, management determines whether there has been impairment by comparing the anticipated undiscounted cash flows from the operation and eventual disposition of the product line with its carrying value. If the undiscounted cash flows are less than the carrying value, the amount of the impairment, if any, will be determined by comparing the carrying value of each intangible asset with its fair value.  Fair value is generally based on either a discounted cash flows analysis or market analysis. Future operating income is based on various assumptions, including regulatory approvals, patents being granted, and the type and nature of competing products. If regulatory approvals or patents are not obtained or are substantially delayed, or other competing technologies are developed and obtain general market acceptance or market conditions otherwise change, our intangibles may have a substantially reduced value, which could be material.
 
Research and Development

The remuneration of the Company’s research and development staff, materials used in internal research and development activities, and payments made to third parties in connection with collaborative research and development arrangements, are all expensed as incurred.  Where the Company makes a payment to a third party to acquire the right to use a product formula which has received regulatory approval, that payment is accounted for as the acquisition of a license or patent and is capitalized as an intangible asset and amortized over the shorter of the remaining license period or patent life (See above “Intangible Assets”).

Income Taxes

We use the asset and liability method of accounting for income taxes. Under this method, income tax expense is recognized for the amount of taxes payable or refundable for the current year. In addition, deferred tax assets and liabilities are recognized for the expected future tax consequences of temporary differences between the financial reporting and tax bases of assets and liabilities and for operating losses and tax credit carry-forwards. Management must make assumptions, judgments and estimates to determine the current provision for income taxes and the deferred tax assets and liabilities and any valuation allowance to be recorded against a deferred tax asset. Management’s judgments, assumptions and estimates relative to the current provision for income tax take into account current tax laws, management’s interpretation of current tax laws and possible outcomes of current and future audits conducted by foreign and domestic tax authorities. Changes in tax law or management’s interpretation of tax laws and the resolution of current and future tax audits could significantly impact the amounts provided for income taxes in the financial statements. Management’s assumptions, judgments and estimates relative to the value of a deferred tax asset take into account predictions of the amount and category of future taxable income, such as income from operations. Actual operating results and the underlying amount and category of income in future years could render management’s current assumptions, judgments and estimates of recoverable net deferred taxes inaccurate. Any of the assumptions, judgments and estimates mentioned above could cause our actual income tax obligations to differ from the estimates, thus materially impact the financial position and results of operations.
 
Foreign Currency

Our functional currency is the U.S. dollar, and our subsidiary and our VIE in China use their respective local currencies as their functional currencies, i.e. the RMB. An entity’s functional currency is the currency of the primary economic environment in which the entity operates. Management must use judgment in determining an entity’s functional currency, assessing economic factors including cash flow, sales price, sales market, expense, financing and inter-company transactions and arrangements. The impact from exchange rate changes related to transactions denominated in currencies other than the functional currency is recorded as a gain and loss in the statements of operations, while the impact from exchange rate changes related to translating a foreign entity’s financial statements from the functional currency to its reporting currency, the U.S. dollar, is disclosed and accumulated in a separate component under the equity section of the balance sheets. Different judgments or assumptions resulting in a change of functional currency may materially impact our financial position and results of operations.
  
Business Combinations
 
Business combinations are accounted for under the acquisition method of accounting in accordance with ASC 805, Business Combinations. Under the acquisition method the acquiring entity in a business combination recognizes 100 percent of the acquired assets and assumed liabilities, regardless of the percentage owned, at their estimated fair values as of the date of acquisition. Any excess of the purchase price over the fair value of net assets and other identifiable intangible assets acquired is recorded as goodwill. To the extent the fair value of net assets acquired, including other identifiable assets, exceed the purchase price, a bargain purchase gain is recognized. Assets acquired and liabilities assumed from contingencies must also be recognized at fair value, if the fair value can be determined during the measurement period. Results of operations of an acquired business are included in the statement of earnings from the date of acquisition. Acquisition-related costs, including conversion and restructuring charges, are expensed as incurred. We adopted this guidance as of January 1, 2010 and applied it to the Meipude and Shaanxi Weinan acquisitions.


Contractual Obligations

The following table sets forth our contractual obligations as of December 31, 2012:
 
   
Payments due by period
 
   
Total
   
Within 1 year
   
1-3 years
   
3-5 years
   
>5 years
 
Short-term bank loan
  $ 4,755,413     $ 4,755,413     $ -       -       -  
Due to related party
    1,585,138       1,585,138       -       -       -  
Research and development contracts
    3,504,819       810,085       2,694,734       -       -  
Total contractual obligations
  $ 9,845,370     $ 7,150,636     $ 2,694,734       -       -  

Inflation

Management believes that inflation has not had a material effect on our results of operations.

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements, as defined in Regulation S-K Section 303(a)(4).
 
ITEM 7A.  Quantitative and Qualitative Disclosures About Market Risk

We are a “smaller reporting company” as defined by Regulations S-K and as such, are not required to provide this information.
 
 
ITEM 8.  FINANCIAL STATEMENTS
 
BIOSTAR PHARMACEUTICALS, INC.
 
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
 
Contents
 

 
 
 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM



To the Board of Directors and Stockholders of
Biostar Pharmaceuticals, Inc. and Subsidiaries


We have audited the accompanying consolidated balance sheets of Biostar Pharmaceuticals, Inc. and Subsidiaries (the "Company") as of December 31, 2012, and the related consolidated statements of operations and other comprehensive loss, stockholders' equity and cash flows for the year then ended.  The Company's management is responsible for these consolidated financial statements. 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 financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, 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 Biostar Pharmaceuticals, Inc. and Subsidiaries as of December 31, 2012, and the results of their operations and their cash flows for the year then ended, in conformity with accounting principles generally accepted in the United States of America.

The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern, which contemplates the realisation of assets and liquidation of liabilities in the normal course of business.  As more fully explained on the incident occurred during the year which is set out on page F-6, under the note “Going concern and recent development”, there is uncertainty on whether the Company is able to continue as a going concern as it depends on (1) whether the Company is able to re-establish customer confidence and to generate sales to a sustainable level and (2) the Company’s ability to collect outstanding accounts receivables. Management has already taken appropriate measures as described in that note.  These consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
 

/s/ Clement C.W. Chan & Co.              
Clement C. W. Chan & Co.
Certified Public Accountants

3/F., & 5/F., Heng Shan Centre, 145 Queen’s Road East, Wanchai, Hong Kong
April 11, 2013
 
 
Report of Independent Registered Public Accounting Firm

To the Audit Committee, Board of Directors and Stockholders
 
Biostar Pharmaceuticals, Inc


We have audited the accompanying consolidated balance sheet of Biostar Pharmaceuticals, Inc. (“Biostar”) and its subsidiaries / variable interest entities (the “Company”) as of December 31, 2011 and the related consolidated statement of operations, consolidated statement of stockholders’ equity and consolidated statement of cash flows for the year 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 audits.

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 audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing auditing procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. Our audits also included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2011, and the results of its operations and its cash flows for the year then ended in conformity with accounting principles generally accepted in the United States of America.



/s/ Mazars CPA Limited                 
Mazars CPA Limited
Certified Public Accountants
Hong Kong
March 27, 2012, except for Note 6 to the consolidated financial statements which is as of April 11, 2013
 
 
BIOSTAR PHARMACEUTICALS, INC.
CONSOLIDATED BALANCE SHEETS

 
December 31,
 
 
2012
 
2011
 
             
ASSETS
 
             
Current Assets
           
Cash and cash equivalents
  $ 1,759,078     $ 16,971,789  
Accounts receivable, net of allowance for doubtful accounts of $3,645,817 (2011: $143,928)
    21,851,412       35,033,650  
Inventories - note 2)
    847,135       1,373,459  
Deposits and other receivables - note 3)
   
7,740,673
      7,129,911  
Income tax recoverable
    265,007       -  
Loan receivables - note 4)
    9,510,826       -  
Total Current Assets
   
41,974,131
      60,508,809  
                 
Non-current Assets
               
Deposit - note 3)
   
8,718,258
      3,148,466  
Deferred tax assets - note 7)
    3,665,951       1,617,688  
Property and equipment, net - note 2)
    6,980,521       7,379,982  
Intangible assets, net - note 2)
    9,136,439       10,406,931  
                 
Total Assets
  $ 70,475,300     $ 83,061,876  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY
 
                 
Current Liabilities
               
Accounts and other payables
  $ 5,732,329     $ 3,334,418  
Short-term bank loans - note 5)
    4,755,413       787,116  
Due to a related party - note 13)
    1,585,138       -  
Value-added tax payable
    629,672       895,487  
Income tax payable
    -       1,643,155  
Total Current Liabilities
    12,702,552       6,660,176  
                 
Commitment and contingencies- note 12)
               
                 
Stockholders' Equity
               
Common stock, $0.001 par value, 100,000,000 shares authorized, 9,993,549 and 9,400,216 shares issued and outstanding as at December 31, 2012 and 2011 - note 6)
    9,993       9,400  
Additional paid-in capital
    23,266,776       22,445,660  
Statutory reserve - note 8)
    6,737,368       6,490,600  
Retained earnings
    23,229,743       43,473,834  
Accumulated other comprehensive income - note 9)
    4,528,868       3,982,206  
Total Stockholders' Equity
    57,772,748       76,401,700  
                 
Total Liabilities and Stockholders' Equity
  $ 70,475,300     $ 83,061,876  
 
The accompanying notes are an integral part of these financial statements.
 
 
BIOSTAR PHARMACEUTICALS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE (LOSS) INCOME

   
Year Ended December 31,
 
   
2012
   
2011
 
             
Sales, net
  $ 49,317,844     $ 91,965,505  
Cost of sales
    19,466,821       27,578,441  
Gross profit
    29,851,023       64,387,064  
                 
Operating expenses:
               
Advertising expenses - note 2)
    14,154,879       21,234,426  
Selling expenses
    13,734,910       16,992,936  
General and administrative expenses
    5,951,322       5,676,652  
Provision for doubtful account
    3,674,905       -  
Compensation paid to customers - note 15)
    8,044,249       -  
Administrative penalty - note 15)
    1,601,012       -  
Research and development expenses
    4,475,806       2,323,996  
Total operating expenses
    51,637,083       46,228,010  
                 
(Loss) Income from operations
    (21,786,060 )     18,159,054  
                 
Other income (expense)
               
Interest income
    296,146       430,021  
Interest expense
    (84,387 )     (41,942 )
Other
    599       713  
Gain from bargain purchase
    -       1,299,063  
Impairment loss on land use right
    -       (1,784,072 )
Foreign exchange gain
    -       3,313  
      212,358       (92,904 )
                 
(Loss) Income before income taxes
    (21,573,702 )     18,066,150  
                 
Provision for income tax (recovery) - note 7)
    (1,576,379 )     5,892,637  
                 
Net (Loss) / Income
  $ (19,997,323 )   $ 12,173,513  
                 
Foreign currency translation adjustment - note 9)
    546,662       2,007,184  
                 
Comprehensive (Loss) / Income
  $ (19,450,661 )   $ 14,180,697  
                 
Net (loss) income per share
    Basic and diluted
  $ (2.09 )   $ 1.31  
                 
Weighted average number of common shares outstanding
    Basic and diluted
    9,570,901       9,298,074  
 
The accompanying notes are an integral part of these financial statements.
 
 
BIOSTAR PHARMACEUTICALS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
 
    Common Stock - note 6)    
Additional
Paid-in
    Statutory     Retained     Accumulated Other Comprehensive    
Total
Stockholders'
 
    Shares     Amount     Capital     Reserve     Earnings     Income     Equity  
                                           
Balance, December 31, 2010
    9,130,485     $ 9,130     $ 20,724,924     $ 4,666,381     $ 33,124,540     $ 1,975,022     $ 60,499,997  
Stock-based compensation
    269,731       270       1,720,736       -       -       -       1,721,006  
Transfer to statutory reserve
    -       -       -       1,824,219       (1,824,219 )     -       -  
Net Income
    -       -       -       -       12,173,513       -       12,173,513  
Foreign currency translation adjustment
    -       -       -       -       -       2,007,184       2,007,184  
Balance, December 31, 2011
    9,400,216       9,400       22,445,660       6,490,600       43,473,834       3,982,206       76,401,700  
Stock-based compensation - note 6)
    593,333       593       821,116       -       -       -       821,709  
Transfer to statutory reserve - note 8)
    -       -       -       246,768       (246,768 )     -       -  
Net (loss)
    -       -       -       -       (19,997,323 )     -       (19,997,323 )
Foreign currency translation adjustment - note 9)
    -       -       -       -       -       546,662       546,662  
Balance, December 31, 2012
    9,993,549     $ 9,993     $ 23,266,776     $ 6,737,368     $ 23,229,743     $ 4,528,868     $ 57,772,748  

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

BIOSTAR PHARMACEUTICALS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS

   
Year ended December 31,
 
   
2012
   
2011
 
CASH FLOWS FROM OPERATING ACTIVITIES
           
Net (loss) income
  $ (19,997,323 )   $ 12,173,513  
Adjustments to reconcile net (loss) income to net cash provided by operating activities:
               
Deferred tax assets
    (2,036,089 )     (299,960 )
Depreciation and amortization
    1,827,852       885,118  
Provision for doubtful accounts
    3,674,905       -  
Recognition of deferred research and development expenses
    4,475,805       2,332,681  
Credits to accounts receivable as compensation to customers - note 15)
    1,347,779       -  
Impairment loss on land use rights
    -       1,784,072  
Stock-based compensation
    821,709       1,721,006  
Gain from bargain purchase
    -       (1,299,063 )
Changes in operating assets and liabilities:
               
Accounts receivable
    6,629,264       (5,332,216 )
Inventories
    535,583       (609,967 )
Deposits and other receivables
    (1,870,286 )     (10,000 )
Accounts payable and accrued expenses
    3,197,628       (1,638,295 )
Value-added tax payable
    (271,889 )     (675,338 )
Income tax payable/recoverable
    (1,918,632 )     (528,792 )
Exchange difference
    -       270,488  
Net cash (used in) provided by operating activities
    (3,583,694 )     8,773,247  
                 
CASH FLOWS FROM INVESTING ACTIVITIES
               
Purchase of property and equipment
    (32,870 )     (110,585 )
Disposition of property and equipment
    21,788       -  
Payment for acquisition of Shaanxi Weinan
    (823,880 )     (4,037,700 )
Deposit paid for research and development
    -       (3,119,798 )
Refund of deposit paid for acquisition of business
    -       928,361  
Deposit paid to acquire drug approval numbers
    (8,714,114 )     -  
Compensation received for disposed land use right
    1,766,589       -  
Provision of loan
    (9,506,306 )     -  
Net cash (used in) investing activities
    (17,288,793 )     (6,339,722 )
                 
CASH FLOWS FROM FINANCING ACTIVITIES
               
Advance from a related party
    1,584,384       334,957  
Repayment to a related party
    -       (334,957 )
Proceeds from short-term bank loans
    4,753,153       787,116  
Repayment of short-term loans
    (792,192 )        
Net cash provided by financing activities
    5,545,345       787,116  
                 
Effective of exchange rate changes on cash and cash equivalents
    114,431       539,705  
                 
Net (decrease) increase in cash and cash equivalents
    (15,212,711 )     3,760,346  
                 
Cash and cash equivalents, beginning balance
    16,971,789       13,211,443  
Cash and cash equivalents, ending balance
  $ 1,759,078     $ 16,971,789  
                 
SUPPLEMENTAL DISCLOSURES:
               
Interest received
  $ 296,146     $ 430,021  
Interest payments
  $ (62,819 )   $ (41,942 )
Income tax payments
  $ (2,387,030 )   $ (6,699,145 )
                 
SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
               
Prior year deposit paid for acquisition of business
  $ -     $ 4,722,699  
Payable for acquisition of business
  $ -     $ 818,601  
Reclassification of land use rights to other receivables
  $ -     $ (5,821,168 )

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

 
BIOSTAR PHARMACEUTICALS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

GOING CONCERN AND RECENT PHARMACEUTICAL INDUSTRY DEVELOPMENT IN CHINA

The accompanying consolidated financial statements have been prepared assuming the Company will continue as a going concern. As shown in the accompanying consolidated financial statements, the Company incurred a net loss of $20 million for the year ended 2012.

During the year ended December 31, 2012, the whole pharmaceutical industry in PRC has been significantly impacted by an incident, in which, the PRC State Food and Drug Administration (SFDA) had effectively suspended all capsule products manufacturing and sales in PRC from April to July 2012.  As a result, the Company’s sales were affected as capsule products made up of a significant portion of the Company’s sales. The industry as a whole, also experienced delay in accounts receivables collection as customers, who are mostly retail pharmacies, were forbidden to resell capsule products to consumers.  The pharmaceutical industry in China, as a whole has not fully recovered from the incident, however,  since August 2012, pharmaceutical companies, including the Company, which comply with SFDA requirements received approval from the SFDA to resume sales of capsule products,

Whether the Company can continue as a going concern with business growth depends on (1) the Company’s ability to re-establish customer confidence to generate sufficient sales to a sustainable level and (2) the Company’s ability to collect outstanding accounts receivables. Management has taken appropriate measures to restore customer confidence and for collection of accounts receivable.  Additional measures and efforts may still be required to ensure the Company to continue as a going concern.

These consolidated financial statements do not include any adjustments that might be necessary if the Company is unable to continue as a going concern.

Note 1 - ORGANIZATION

Biostar Pharmaceuticals, Inc. (“Biostar” or the “Company”) was incorporated in the State of Maryland on March 27, 2007. On June 15, 2007, Biostar formed Shaanxi Biostar Biotech Ltd. (“Shaanxi Biostar”). Shaanxi Biostar is a wholly owned subsidiary of Biostar and a limited liability company organized under the laws of the People's Republic of China (the “PRC”).

On November 1, 2007, Shaanxi Biostar entered into a series of agreements including a Management Entrustment Agreement, a Shareholders’ Voting Proxy Agreement, an Exclusive Option Agreement and a Share Pledge Agreement (collectively the “Agreements”) with Shaanxi Aoxing Pharmaceutical Co., Ltd. (“Aoxing Pharmaceutical”) and its registered owners (the “Transaction”). Aoxing Pharmaceutical is a corporation formed under the laws of the PRC. According to these Agreements, Shaanxi Biostar acquired management control of Aoxing Pharmaceutical whereby Shaanxi Biostar is entitled to all of the net profits of Aoxing Pharmaceutical as a management fee and is obligated to fund Aoxing Pharmaceutical’s operations and pay all of the debts. In exchange for entering into the Agreements, on November 1, 2007, the Company issued 19,832,311 shares of its common stock to Aoxing Pharmaceutical’s registered owners, representing approximately 90% of the Company’s common stock outstanding immediately after the Transaction. Therefore, the Transaction is accounted for as a reverse acquisition, and Aoxing Pharmaceutical is deemed to be the accounting acquirer in the reverse acquisition.

On July 9, 2010, following to the change in registered owners of Aoxing Pharmaceutical, a set of new Agreements had been entered into with all the existing registered owners of Aoxing Pharmaceutical on the same day.

The Agreements dated July 9, 2010 are merely replacement of the Agreements dated November 1, 2007 and therefore, there is no significant change in the contractual terms between the Agreements dated July 9, 2010 and November 1, 2007. The existing registered owners of Aoxing Pharmaceutical, Shaanxi Biostar and Biostar had mutually agreed that no consideration would be paid / payable upon the execution of the Agreements on July 9, 2010. The interest of Biostar in Aoxing Pharmaceutical was not and would not be affected by the replacement for the Agreements.
 
The Agreements provide that Shaanxi Biostar has controlling interest in Aoxing Pharmaceutical as defined by Accounting Standards Codification (“ASC”) 810, Consolidation, an Interpretation of Accounting Research Bulletin (“ARB”) No. 51, included in the Codification as ASC 810, Consolidation, which requires Shaanxi Biostar to consolidate the financial statements of Aoxing Pharmaceutical and ultimately consolidate with its parent company, Biostar (see Note 2 “Principles of Consolidation”).

In October 2011, Aoxing Pharmaceutical entered into and completed a Share Transfer Agreement to acquire Shaanxi Weinan Huaren