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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

 

FORM 10-K

 

 

 

(Mark One)

 

 

o

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

x

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from  July 1, 2009 to December 31, 2009

 

Commission File Number 000-52988

 

Master Silicon Carbide Industries, Inc.

(Exact name of registrant as specified in its charter)

 

Nevada

 

01-0728141

(State or other jurisdiction of

 

(IRS Employer

incorporation or organization)

  

Identification No.)

 

558 Lime Rock Road, Lakeville, Connecticut 06039

(Address of principal executive offices)

 

Registrant’s telephone number, including area code   (860)-435-7000

 

Securities registered pursuant to Section 12(b) of the Act: None.

 

Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.001 par value.

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes  o  No þ

 

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  o No þ

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes  þ  No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate 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  o  No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or 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.

 

o  Large Accelerated filer

o  Accelerated filer

o  Non-accelerated filer

þ  Smaller reporting company

 

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

 

As of March 30, 2010, there was no established public market for the Registrant’s Common Stock. The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant (955,302 shares on March 30, 2010, based on an assumed market value per share of $1.0038) was $958,932. The Company is currently quoted on the Over-the-Counter Bulletin Board (“OTC-BB”) under the symbol “MAST.” The assumed market value of the shares is based on: (i) the price for shares of the registrant’s Series A Convertible Preferred Stock paid by an investor in a private placement consummated on September 2, 2008 and the rate at which our Series A Convertible Preferred Stock may be converted into our Common Stock; and (ii) the price for shares of the registrant’s Series B Convertible Preferred Stock paid by an investor in a private placement consummated on September 21, 2009, and the rate at which our Series B Convertible Preferred Stock may be converted into our Common Stock. In addition, for purposes of the computation of the aggregate market value of shares held by non-affiliates, all officers, directors, and 10% beneficial owners of the registrant are deemed to be affiliates. Such determination should not be deemed to be an admission that such officers, directors, or 10% beneficial owners are, in fact, affiliates of the registrant.

 

As of March 30, 2010, there were outstanding, 2,820,916 shares of the registrant’s Common Stock, par value $.001 per share.

 

 

 

 

 

 

Master Silicon Carbide Industries, Inc.

 

Form 10-K

 

Table of Contents

 

 

 

 

 

Page

PART I

 

 

 

 

 

 

 

 

 

Item 1.

 

Business

 

  3

Item 2.

 

Description of Properties

 

  10

Item 3.

 

Legal Proceedings

 

  10

Item 4.

 

Removed and Reserved

 

  10

 

 

 

 

 

PART II

 

 

 

 

 

 

 

 

 

Item 5.

 

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

  10

Item 6.

 

Selected Financial Data

 

  12

Item 7.

 

Management's Discussion and Analysis of Financial Condition and Results of Operations

 

  12

Item 7A

 

Quantitative and Qualitative Disclosures About Market Risk

 

  24

Item 8.

 

Financial Statements and Supplementary Data

 

24

Item 9.

 

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

 

 24

Item 9A(T).

 

Controls and Procedures

 

  24

Item 9B.

 

Other Information

 

  26

 

 

 

 

 

PART III

 

 

 

 

 

 

 

 

 

Item 10.

 

Directors, Executive Officers and Corporate Governance

 

  26

Item 11.

 

Executive Compensation

 

  29

Item 12.

 

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

 

  31

Item 13.

 

Certain Relationships and Related Transactions, and Director Independence

 

  33

Item 14.

 

Principal Accounting Fees and Services

 

  34

 

 

 

 

 

PART IV

 

 

 

 

 

 

 

 

 

Item 15.

 

Exhibits, Financial Statement Schedules

 

  34

 

 

 

 

 

Signatures

 

 36

 

 

2

 

 

 

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

The following discussion should be read in conjunction with the financial statements and related notes contained elsewhere in this Transition Report on Form 10-K. Certain statements made in this discussion are "forward-looking statements." Forward-looking statements can be identified by terminology such as "may", "will", "should", "expects", "intends", "anticipates", "believes", "estimates", "predicts", or "continue" or the negative of these terms or other comparable terminology and include, without limitation, statements below regarding: the Company's intended business plans; expectations as to continuing in business; and belief as to the sufficiency of cash reserves. Because forward-looking statements involve risks and uncertainties, there are important factors that could cause actual results to differ materially from those expressed or implied by these forward-looking statements. These factors include, but are not limited to, the Company's inability to continue operations; the Company's inability to obtain necessary financing; the effect of a going concern statement by the Company's auditors; the competitive environment generally and in the Company's specific market areas; changes in technology; the availability of and the terms of financing; inflation; changes in costs and availability of goods and services; economic conditions in general and in the Company's specific market areas; demographic changes; changes in federal, state, provincial, and /or local government law and regulations affecting the technology; changes in operating strategy or development plans; and the ability of the Company to attract and retain qualified personnel for its operations. Although the Company believes that expectations reflected in the forward-looking statements are reasonable, it cannot guarantee future results, performance or achievements. Moreover, neither the Company nor any other person assumes responsibility for the accuracy and completeness of these forward-looking statements. The Company is under no duty to update any forward-looking statements after the date of this report to conform such statements to actual results.

 

The "Company", "we," "us," and "our," refer to (i) Master Silicon Carbide Industries, Inc. (formerly Paragon SemiTech USA, Inc.); (ii) Yili Carborundum USA, Inc. (“ Yili US ”); (iii) C3 Capital, Limited (“ C3 Capital ”); and (iv) Yili Master Carborundum Production Co., Ltd. (“ Yili China ”).

 

Unless otherwise noted, all currency figures in this filing are in U.S. dollars. References to "yuan" or "RMB" are to the Chinese yuan (also known as the renminbi). According to the currency exchange website www.xe.com, as of March 30, 2010, US$1.00 = 6.827 yuan; 1 yuan=US$0.146477.

 

PART I

 

ITEM 1. BUSINESS

 

Our History

 

The Company was originally incorporated on May 21, 2007, in the State of Delaware, as Paragon SemiTech USA, Inc. and later changed its name into “Master Silicon Carbide Industries, Inc.” on November 12, 2008. It was reincorporated to the State of Nevada on November 2, 2009. The Company is currently quoted on the OTC-BB under the symbol “MAST.” Through a series of transactions in 2008 described immediately below, the Company acquired substantially the business and assets of Yili Master Carborundum Production Co., Ltd.(“ Yili China ”), a manufacturer of silicon carbide in People’s Republic of China (the “PRC”).

 

Our current corporate structure following the Dissolution is set forth in the following chart:

 

* On August 7, 2008, C3 Capital entered into an agreement to purchase 90% of the equity interests in Ehe China from Mr. Zhigang Gao for RMB900,000.  Such purchase price has not been paid as of the date of this Annual Report.

 

 

3

 

 

 

 On September 21, 2009, for the consideration of $10,000,000, the Company sold to The China Hand Fund I, LLC and/or its successors and assigns, an accredited investor (the “ Investor ”) a convertible promissory note, which was automatically converted into 920,267 shares of Series B Convertible Preferred Stock, par value $0.001 per share (the “ Series B Stock ”) after the effectiveness of the Reincorporation on November 12, 2009 (the “ 2009 Private Placement ”). The Certificate of Designation, Preferences and Rights of Series B Convertible Preferred Stock was filed with the State of Nevada on November 12, 2009, a form of which is incorporated by reference to our Current Report on Form 8-K filed with the Securities and Exchange Commission on October 27, 2009.

 

The proceeds of this 2009 Private Placement will be used to complete the three furnaces of the Yili Project and to acquire 90% equity interest of Xinjiang Paragon Master Mining Co., Ltd (“ Quartz Mine China ”) from Mr. Zhigang Gao, one of our directors. We are entitled to an option to purchase Quartz Mine China, pursuant to a Memorandum of Understanding, among C3 Capital, Mr. Zhigang Gao and Mr. Ping Li, dated August 25, 2008. Through Quartz Mine China, we will purchase the mining rights for a quartz mine in Wenquan County of Xinjiang Uygur Autonomous Region of the PRC.

 

Business Operations

 

Overview

 

Through our indirectly wholly-owned operating subsidiary Yili Master Carborundum Production Co., Ltd. (“Yili China”), we manufacture and sell in China high quality “green” silicon carbide and lower-quality “black” silicon carbide (together, hereinafter referred to as “ SiC ”), a non-metallic compound that is widely used in industries such as semiconductors, solar energy, ceramics, abrasives and optoelectronics, etc.

 

Yili China was formed in April 2005 and commenced production in January 2006. Its present SiC production capacity is 11,500 tons per annum. The Company, through Yili China, sold an aggregate of 498 tons of green SiC and 489 tons of black SiC during the period of six months ended December 31, 2009, compared to an aggregate of 763 tons green SiC and 20 tons of black SiC during the period of six months ended December 31, 2008. With the addition of the facilities expected to be constructed in Yili and Ehe by 2013, the details of which will be discussed below, the Company’s management anticipates the Company will achieve an annual production capacity of 85,000 tons.

 

Our Products

 

SiC is an extremely hard, chemically inert, and heat-resistant substance which has high thermal conductivity, resistance to abrasion, and strength at high temperatures. It is a  non-metallic compound that has special chemical properties and a level of hardness that is similar to diamonds, is produced by smelting (the process of extracting a metal from its ore) quartz sand and refinery coke at temperatures ranging from approximately 1,600 to 2,500 degrees centigrade in a graphite electric resistance furnace.

 

Because of these characteristics, SiC is widely used in many growing industries in China. For example, pure SiC is a natural semiconductor and thus efforts are underway to explore the possibility of replacing silicon with SiC in the semiconductor industry. SiC is most widely utilized in the solar energy (photovoltaic) industry, where it is used in precision cutting, pressure blasting, wire-sawing, and surface preparation, in addition to other processes. SiC is also used in many other industries, including the production of refractory materials and industrial ceramics as well as in the automobile, electronics, steel and nuclear industries. China’s current annual demand for SiC is approximately 300,000 tons and currently available supply is less than 300,000 tons. We believe that as the industries requiring SiC continue to grow, demand should continue to rise.

 

 

4

 

 

 

Manufacturing Process

 

Although a small amount of SiC can be found naturally, the vast majority of the substance is man-made. SiC is produced by smelting (the process of extracting a metal from its ore) quartz sand and refinery coke at temperatures ranging from approximately 1,600 to 2,500 degrees centigrade in a graphite electric resistance furnace. The material formed in the furnace varies in purity, according to the distance from the graphite resistor heat source. Colorless, pale yellow and green crystals (“green” SiC) have the highest purity and are found closest to the heat source. The color changes to blue and black at greater distance from the resistor and the darker crystals are less pure (“black” SiC). After initial processing, SiC crystals can be crushed into grains with granulation equipment and filtered using vibrating sieve machines. The material can be further processed into fine powders so that it can be used in the production of industrial ceramic products. Most of the Company’s revenues come from the sale of green SiC.

 

Yili China currently owns and operates a set of SiC production lines of transformer capacity of 4,600 kilovolt-ampere with corollary established production equipment and infrastructure at Yining County, Kazak Autonomous Prefecture, Xinjiang Uygur Autonomous Region of the PRC.

 

The Company is currently developing three new 8,500-ton production lines with an aggregate production capacity of SiC of 25,500 tons per year in Yili Hasake Autonomous State of Xinjiang Autonomous Region (the “ Yili New Project ”). The construction of the first and second production lines was finished in November 2009 and March 2010, respectively, and we anticipate the third production line will be installed by the end of June 2010. Subject to further approval of the Board of Directors of the Company, we may plan to construct a powder production line and a granulation workshop in Yili after the completion of the Yili New Project.

 

In addition, the Company is planning a 34,000-ton green SiC project with four furnaces in Ehe of the Aletai Area of Xinjiang Uygur Autonomous Region of the PRC pending governmental permissions and approvals (the “ Ehe New Project ”). The Company selected the site for the project because of its proximity to sources of electricity, petroleum coke and quartz. We will need further financing to commence the Ehe New Project and the Company plans to finish the construction of Ehe New Project by the year 2012.

 

Principal Suppliers and Sources of Raw Materials

 

The manufacturing of our product requires these main three components as raw materials: quartz, petroleum coke and electricity. We believe that we have ready access to sufficient sources of the mentioned raw materials, and we believe that we will not in the future be required to rely on any single supplier to operate.

 

Silicon, the main component required to produce SiC, is usually abstracted from silica sand or quartz. The individual suppliers (generally farmers and peasants) are the Company’s suppliers of silicon. The individual suppliers collect quartz-silicon pebbles on the river bed of the Erchis River in Xinjiang. Such pebbles contain very high levels of silicon. We then turn the pebbles into sand with silicon. While the ownership of the pebbles belongs to the PRC government, to date, the PRC government has not charged the Company or its suppliers for the collection of such pebbles. In addition to the supply source from the individual suppliers, the Company anticipates that by July of 2010 it will complete the purchase of the equity interests of Quartz Mine China, an entity to be formed which will seek and expects to obtain from the PRC government the exploration and mining rights to a property in Aletai in Xinjiang Uygur Autonomous Region which contains confirmed reserves of 667,800 tons of quartz and has additional estimated reserves of 554,300 tons of quartz. If such rights are obtained and the Company completes the purchase, the Company intends to construct a mine to recover quartz from the property commencing around December 2010. It currently costs approximately $10 for mining 1 ton of quartz. Our management estimates that the mine can satisfy the Company’s raw material needs for quartz for the next ten years.

 

 

5

 

 

 

Petroleum coke is provided to the Company by China National Petroleum Corporation, through its various refineries and branches as well as China Petroleum and Chemical Corporation. Our production facility and smelters are located very close to the Karamai oilfield, one of the four major oil fields in China, with approximately 5 million tons of petroleum coke annual output, which far exceeds the Company’s needs for petroleum coke for its SiC production. Therefore, the Company has access to a cost-effective supply of petroleum coke and pays minimal transportation costs.

 

The Company’s source of electricity is the Hydropower Center of the Yili River Construction and Management Bureau of the Xinjiang Water Department. The hydropower production may be reduced by approximately 50% in the winter drought season. However, based on the Company’s past experience and its relationships with its supplier, the Company anticipates that its supplier will be able to, and will, supply to the Company all of the Company’s requirements for electricity throughout all seasons of the year. The Company believes that it has a competitive advantage because most of its competitors rely on electricity generated by coal burning power plants, whereas the electricity supply for the Company’s production is supported by hydropower plants, which is less costly and more environmentally friendly. The average price to the Company for electricity is approximately 0.23RMB/kwh for hydropower, while the average cost for coal-generated electricity paid by the Company’s competitors is not less than 0.38RMB/kwh.

 

Principal Customers

 

The following table sets forth our five largest customers, in terms of revenues of the aggregate of green SiC and black SiC; we sold to them during the six months ended December 31, 2009 and 2008. Our five largest customers accounted for an aggregate of 68.0% and 64.0% in the products we sold, respectively.

 

Six months ended December 31, 2009:

 

Customer’s Name

 

Revenues

 

 

Percent in 

Total Products

We Sold

 

Urumqi Tianlide Industry and Trading Co., Ltd.

 

 

213,929

 

 

 

27.4

%

Shangyu Dongshun Grinding Co., Ltd.

 

 

133,511

 

 

 

17.1

%

Shangyu Zili new materials Co., Ltd.

 

 

74,173

 

 

 

9.5

%

Zhoucun Shuanglong Grinding Co., Ltd.

 

 

63,461

 

 

 

8

%

Zaozhuang Longda Grinding Co., Ltd.

 

 

46,846

 

 

 

6

%

Total

 

 

531,920

 

 

 

68.0

%

 

Six months ended December 31, 2008:

 

Customer’s Name

 

Revenues 

 

 

Percent in 

Total Products

We Sold

 

Zhengzhou Sansen Grinding Co., Ltd.

 

 

109,493

 

 

 

18.3

%

Urumqi Tianlide Industry and Trading Co., Ltd.

 

 

98,125

 

 

 

16.4

%

Tengzhou Lijin Grinding Co., Ltd.

 

 

83,167

 

 

 

13.9

%

Guangdong Foshan Wanlihua Co., Ltd.

 

 

58,037

 

 

 

9.7

%

Zaozhuang Longda Grinding Co., Ltd.

 

 

34,104

 

 

 

5.7

%

Total

 

 

382,926

 

 

 

64.0

%

 

The following table sets forth our five largest customers, in terms of revenues of the aggregate of green SiC and black SiC; we sold to them during the fiscal year ended June 30, 2009. Our five largest customers accounted for an aggregate of 86.3% in the products we sold in year 2009.

 

 

6

 

 

 

Fiscal Year 2009:

 

Customer’s Name

 

Revenues

 

 

Percent in 

Total Products

We Sold

 

Tengzhou Lijin grinding Co., Ltd.

 

 

411,024

 

 

 

25.8

%

Urumqi Tianlide Industry and Trading Co., Ltd.

 

 

289,947

 

 

 

18.2

%

Guangdong Foshan Wanlihua Co., Ltd.

 

 

237,374

 

 

 

14.9

%

Zhengzhou Sansen grinding medium Co., Ltd.

 

 

224,629

 

 

 

14.1

%

Shuangyashan Poly silicon carbide Co., Ltd.

 

 

211,885

 

 

 

13.3

%

Total

 

 

1,374,859

 

 

 

86.3

%

 

Marketing

 

The Company established a marketing department after it began to expand its SiC production capacity since October 2008. The Company also has engaged an advertising agency to promote the Company’s products in the industry. In addition, the Company believes that it has a good reputation in the industry through its participation in the China Abrasives Industry Association, seminars, conferences and other contacts.

 

Seasonality of Business

 

The Company does not believe that its business is subject to seasonal trends.

 

Backlogs

 

As of December 31, 2009, the Company had no backlogs.

 

Competition

 

The Company believes that it has six competitors in Xinjiang province, five of which are manufacturing green SiC and the other manufacturing black SiC. The number of manufacturers of SiC in China is over 100. The Company believes that Gui Qiang Silicon Carbide Co., Ltd., located in the Qinghai province of the PRC, is the largest producer of green SiC in China, with approximately 35% of the market. The Company believes that upon the completion of the construction of all its SiC production facilities in Yili, the Company would become the largest producer of SiC in China by the year 2013.

 

As smelting is an important process to the production of different types of SiC, the construction of smelters becomes the key factor of defining the competitive position of a SiC manufacturer. Several fundamental issues will continue to constrain the construction of SiC smelters for the foreseeable future. First and foremost, the SiC production landscape in China is dominated by small and inefficient players. SiC smelters are large, expensive facilities that require a great deal of capital to construct. We believe that these small manufacturers lack the capital and scale necessary to rapidly construct smelters to meet the market demand for SiC. Secondly, the construction of incremental production facilities is restricted by another factor: due to the recent passage of environmental regulatory measures, government approval of new construction has become very difficult to obtain.

 

We believe that the SiC production is an industry of high entry barrier, and therefore relatively exclusive. The Company faces the challenges mainly from the competitors such as Gui Qiang Silicon Carbide Co., Ltd. The Company always positions itself as a strong player in the SiC industry with its unique competitive advantages which are described immediately below.

 

 

7

 

 

 

Cheap Raw Materials

 

The three main cost components of SiC production are, in descending order, petroleum coke, electricity, and quartz. Due to the close proximity of four major oil fields that annually produce approximately 5 million tons of petroleum coke, the Company has access to a cost-effective supply of petroleum coke and pays minimal transportation costs. The Company also has access to cheap electricity due to its proximity to local hydroelectric facilities. The Company’s cost of 0.23 RMB/kwh represents a 29% discount to that of the Company’s main competitor, Gui Qiang Silicon Carbide Co., Ltd., located in Qinghai Province. Lastly, the Company’s operating facility is located near properties in Aletai in Xinjiang Uygur Autonomous Region of the PRC, which has confirmed reserves of 667,800 tons of quartz and has additional estimated reserves of 554,300 tons of quartz based on a geographical report issued by Xinjiang Nonferrous Metal Geographical Survey Team Technology Commission on August 30, 2003. The Company has entered into a Memorandum of Understanding with Zhigang Gao and Ping Li for an option to purchase for $50,000 the equity interests of Quartz Mine China, an entity to be formed by them which will seek, and expects to obtain from the PRC government, exploration and mining rights to such property. The Company anticipates that if such rights are obtained (of which there can be no assurance) and the Company exercises its option to acquire the equity interests in Quartz Mine China, the Company will have sufficient quartz for its production of SiC for the next ten years.

 

Intellectual Capital / Technology

 

The Company has an experienced team of management and technical staff. The lead engineer of our research team has been working in the SiC industry since 1966. The staff also includes members who participated in the development and implementation of the first green SiC smelting process in China. As a result, the Company is currently regarded as the standard setter in the SiC industry.

 

Additionally, the Company has developed several proprietary techniques utilized in the smelting process. One such technique involves the use of the Company’s discoveries in carbon monoxide gas recovery technology - the Company can capture carbon monoxide created during the smelting process and use it to reduce its fuel costs. The Company intends to register this technology as a patent in the future.

 

Support from local government and businesses

 

Through Yili China the Company maintains a meaningful relationship with local government and business in Xinjiang Province, China. Yili China is the first business entity that operated in the Yining East Industrial Park of Xinjiang Uygur Autonomous Region of the PRC, and the Company’s management team has been closely working with the local government since 2005. The Company has received support and assistance from local businesses. Yili China has already obtained permission to construct its proposed SiC processing facility in Xinjiang. Furthermore, the Company’s relatively remote location in Xinjiang Province coupled with such province’s low population density reduces the risk of potential regulatory constraints impeding the Company’s further expansion in the future.

 

Intellectual Property

 

Patents

 

The Company believes that it has proprietary know-how regarding the construction and operation of furnaces that will enable it to reduce costs and increase productivity in the smelting process through waste heat recovery, effluent recycling and exhaust reduction techniques. The Company does not believe that it would be advantageous to it to disclose such technology and has therefore declined to apply for a patent or patents regarding such technology.

 

Trademarks

 

The Company presently does not have any trademarks, although it intends to apply for a trademark in the PRC regarding its name and logo.

 

 

8

 

 

 

Research and Development

 

Please refer to the “Intellectual Capital / Technology” under the Section “Competition” herein for details of the Company’s research and development activities. The Company has no expenses for its research and development for the six months ended December 31, 2009.

 

Government Regulation

 

The Company is or will be subject to laws, rules and regulations of the PRC and local governments regarding the discharge of waste materials into the environment, the operation of its mining operations and the quality of its products. SiC manufacturing is a restricted industry under the PRC Catalogue for the Guidance of Foreign Investment Industries and other relevant regulations. Annual production of SiC cannot exceed an approved amount.

 

Environmental Compliance

 

The Company always adopts an environmentally friendly strategy in its production and developments. The Company’s production of SiC is supported by hydropower plants, which are more cost-effective and less pollutant than most of the coal burning power plants. The Company has also developed  a technique that can capture carbon monoxide created during the smelting process and use it to reduce its fuel costs.

 

Our current production facilities have passed the environmental protection review by the Environmental Protection Bureau of Yining County of Yili Hasake Autonomous State of Xinjiang Uygur Autonomous Region (the “Yining Environmental Protection Bureau”) in October of 2007. The Yining Environmental Protection Bureau allocated certain permissible emission amounts of SO 2 (i.e. sulfur dioxide) and CODcr (i.e. chemical oxygen demand) to each of the manufacturers under its jurisdiction. So far, the Company has controlled its emission of SO 2 and CODcr far below the permission standard, and we do not have any violation of any environmental regulations.

 

We did not incur any expenses on environmental compliance for the period ended July 1 through December 31, 2009 or the previous two fiscal years.

 

Employees

As of March 30, 2010, we had 211 employees, of whom 59 are executive and administrative personnel and 152 are manufacturing personnel.

 

New SiC Projects

 

The Company is currently developing three new 8,500-ton production lines with an aggregate production capacity of SiC of 25,500 tons per year in Yili Hasake Autonomous State of Xinjiang Autonomous Region (the “ Yili New Project ”). The construction of the first and second production lines was finished in November 2009 and March 2010, respectively, and we anticipate the third production line will be installed by the end of June 2010. Subject to further approval of the Board of Directors of the Company, we may plan to construct a powder production line and a granulation workshop in Yili after the completion of the Yili New Project.

 

In addition, the Company is planning a 34,000-ton green SiC project with four furnaces in Ehe of the Aletai Area of Xinjiang Uygur Autonomous Region of the PRC pending governmental permissions and approvals (the “Ehe New Project”). The Company selected the site for the project because of its proximity to sources of electricity, petroleum coke and quartz. We will need further financing to commence the Ehe New Project and the Company plans to finish the construction of Ehe New Project by the year 2012.

 

 

9

 

 

 

ITEM 2. DESCRIPTION OF PROPERTIES

 

We lease our office space at both 558 Lime Rock Road, Lakeville, Connecticut and 420 Lexington Avenue, Suite 860, New York, NY from Kuhns Brothers, Inc. and its affiliates (“Kuhns Brothers”). Our Chairman and CEO Mr. Kuhns, is a controlling shareholder, President, CEO, a director and Chairman of Kuhns Brothers. The lease commenced on September 1, 2008 for a term of one year with a monthly rent of $7,500, and such lease is extended for a year with the same rate of rent after September 1, 2009.

 

Our operating facilities are located at Zone A, Industry Zone of Yining County of Yili Hasake Autonomous State under Xinjiang Uygur Autonomous Region of the PRC. On October 28, 2008, the Company paid $790,934 to obtain the land use right for fifty years for nearly 107,214 square meters of land where our operating facilities are located. On such property, we have constructed temporary factory buildings covering an area of approximately 2,600 square meters, as well as our office building of 350 square meters and an employee’s dormitory building with a construction area of 350 square meters. The land on which all the buildings are located has an area of approximately 33,333 square meters. The purchase of such land use right is to satisfy the need of our ongoing constructions of our new furnaces and to expand our operations.

 

ITEM 3. LEGAL PROCEEDINGS

 

The Company is not currently a party to any pending or threatened legal proceeding.

 

ITEM 4. REMOVED AND RESERVED

 

PART II

 

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

 

Market Information

 

We have three classes of equity securities: (i) Common Stock, par value $.001 per share, 2,820,916 shares of which are outstanding as of March 30, 2010; (ii) Series A Convertible Preferred Stock, par value $0.001 per share, 996,186 shares of which are outstanding as of March 30, 2010; and (iii) Series B Convertible Preferred Stock, par value $0.001 per share, 920,267 shares of which are outstanding as of  March 30, 2010. We also have warrants to purchase 24,904,605 shares of common stock issued and outstanding as of March 30, 2010. Our Common Stock was approved for quotation on the OTC-BB on September 1, 2009. Our Common Stock is currently quoted on the OTC-BB under the symbol “MAST.” However, since September 1, 2009 there has been no trading of our Common Stock.

 

Holders

 

As of March 30, 2010, there are approximately 45 holders of record of our Common Stock. The Company is not aware of any persons or entities who hold our common stock in nominee or “street” name through brokerage firms.

 

 

10

 

 

 

Dividends

 

Common Stock

 

We have never paid dividends on our Common Stock. We plan to retain future earnings, if any, for use in our business, and do not anticipate paying dividends on our Common Stock in the foreseeable future.

 

Series A Convertible Preferred Stock

 

Pursuant to the Certificate of Designation, Preferences and Rights of Series A Convertible Preferred Stock, dated August 29, 2008 (“Certificate of Designation of Series A Stock”), the holders of our Series A Stock are entitled to dividends payable at the rate of six percent (6%) per annum of the then effective liquidation preference of the Series A Stock. Dividends begin to accrue on the date of issuance of the Series A Stock and are payable quarterly in arrears, on January 1, April 1, July 1 and October 1 of each year. The Certificate of Designation of Series A Stock is incorporated herein by reference to Exhibit 3.1 to our Current Report on Form 8-K filed with the Securities and Exchange Commission on September 8, 2008.

 

As of December 31, 2009, we issued to the Series A Stock holders a total of 645,883 shares of our Common Stock. As of the date of this Report, the Company has issued an aggregate of 795,316 shares of Common Stock as dividends (the “Dividend Shares”) to the holders of Series A Stock.

 

Series B Convertible Preferred Stock

 

 Holders of our Series B Stock are not entitled to dividends pursuant to the Certificate of Designations of Series B Stock.

 

Shares Authorized for Issuance under Equity Compensation Plans

 

The Company does not have any equity compensation plans under which our securities may be issued as of the date of this Report.

 

Recent Sales of Unregistered Securities; Use of Proceeds from Unregistered Securities.

 

From September 30 through December 31, 2009, the Company has issued to the holders of Series A Stock an aggregate of 149,433 shares of Common Stock as Dividend Shares, the details of which are discussed in the subsection “Dividends” above. During the six-month period ended December 31, 2009, we had issued to the Series A Stock holders a total of 298,866 Dividend Shares. An additional 149,433 shares were issued as Dividend Shares on January 1, 2010.

 

The above referenced issuances of the Company’s securities were effectuated pursuant to the exemption from the registration requirements of the Securities Act of 1933 (the “Act”), as amended, provided by Section 4(2) of the Act and/or Regulation D, and Regulation S promulgated thereunder.

 

Transfer Agent

 

The Company's stock transfer agent is Island Stock Transfer located at 100 Second Avenue South, Suite 705S, St. Petersburg, Florida 33701. Its telephone number is 727-289-0010 and facsimile number is 727-290-3961.

 

Penny Stock Regulations

 

The SEC has adopted regulations which generally define a “penny stock” to be an equity security that has a market price of less than $5.00 per share. Our Common Stock falls within the definition of penny stock and is subject to rules that impose additional sales practice requirements on broker-dealers who sell such securities to persons other than established customers and accredited investors (generally those with assets in excess of $1,000,000, or annual incomes exceeding $200,000 or $300,000, together with their spouse).

 

 

11

 

 

 

For transactions covered by these rules, the broker-dealer must make a special suitability determination for the purchase of such securities and have received the purchaser’s prior written consent to the transaction. Additionally, for any transaction, other than exempt transactions, involving a penny stock, the rules require the delivery, prior to the transaction, of a risk disclosure document mandated by the Commission relating to the penny stock market. The broker-dealer also must disclose the commissions payable to both the broker-dealer and the registered representative, current quotations for the securities and, if the broker-dealer is the sole market-maker, the broker-dealer must disclose this fact and the broker-dealer’s presumed control over the market. Finally, monthly statements must be sent disclosing recent price information for the penny stock held in the account and information on the limited market in penny stocks. Consequently, the “penny stock” rules may restrict the ability of broker-dealers to sell our Common Stock and may affect the ability of investors to sell their Common Stock in the secondary market.

 

ITEM 6.

SELECTED FINANCIAL DATA

 

Not applicable

 

ITEM 7.

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

The following discussion of our financial condition and results of operations should be read in conjunction with our audited consolidated financial statements and the notes to those financial statements appearing elsewhere in this Transition Report on Form 10-K.

 

Certain statements in this Report, and the documents incorporated by reference herein, constitute forward-looking statements. Such forward-looking statements include statements, which involve risks and uncertainties, regarding, among other things, (a) our projected sales, profitability, and cash flows, (b) our growth strategy, (c) anticipated trends in our industry, (d) our future financing plans, and (e) our anticipated needs for, and use of, working capital. They are generally identifiable by use of the words “may,” “will,” “should,” “anticipate,” “estimate,” “plan,” “potential,” “project,” “continuing,” “ongoing,” “expects,” “management believes,” “we believe,” “we intend,” or the negative of these words or other variations on these words or comparable terminology. In light of these risks and uncertainties, there can be no assurance that the forward-looking statements contained in this filing will in fact occur. You should not place undue reliance on these forward-looking statements.

 

The forward-looking statements speak only as of the date on which they are made, and, except to the extent required by federal securities laws, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date on which the statements are made or to reflect the occurrence of unanticipated events.

 

The "Company", "we," "us," and "our," refer to (i) Master Silicon Carbide Industries, Inc. (formerly Paragon SemiTech USA, Inc.); (ii) Yili Carborundum USA, Inc. (“ Yili US ”); (iii) C3 Capital, Limited (“ C3 Capital ”); and (iv) Yili Master Carborundum Production Co., Ltd. (“ Yili China ”).

 

Overview

 

Through our indirectly wholly-owned operating subsidiary Yili China, we produce and sell in China high quality “green” silicon carbide and lower-quality “black” silicon carbide (together, hereinafter referred to as “ SiC ”). SiC is a  non-metallic compound that has special chemical properties and a level of hardness that is similar to diamonds, is produced by smelting (the process of extracting a metal from its ore) quartz sand and refinery coke at temperatures ranging from approximately 1,600 to 2,500 degrees centigrade in a graphite electric resistance furnace.

 

The Company’s present SiC production capacity is 11,500 tons per annum. It is anticipated that our production capacity can reach 28,500 tons per year by the end of June 2010, when the contemplated construction of three new 8,500-ton furnaces of carborundum metallurgy is finished.

 

The Company has developed several proprietary techniques utilized during the smelting process of SiC. The carbon monoxide gas recovery technology, among other things that were developed by the Company can collect the waste carbon monoxide gas created during the smelting process and reuse it to produce heat which reduces energy costs. The Company plans to patent this technique in the future.

 

The Company is planning a 34,000 ton green SiC project in the Aletai Area of Xinjiang Uygur Autonomous Region of the PRC pending governmental approvals. The Company selected the site at Aletai for the project because of its proximity to sources of electricity, petroleum and quartz.

 

 

12

 

 

 

Recent Development

 

On November 2, 2009, the Company completed the reincorporation from Delaware to Nevada by a merger with its then wholly-owned subsidiary in Nevada: Master Silicon Carbide Industries, Inc. (the “ Reincorporation ”).

 

In order to prevent disruption to the construction of our new production lines at Yili, we have applied for loans of an aggregate amount of approximately RMB 30,000,000 (or $4,387,960) from local banks in China. As of the date of this Transition Report, the Company received the first loan of RMB 10,000,000 (or $1,464,500) from Bank of China on October 23, 2009 and the second loan of RMB 20,000,000 (or $2,923,460) from Bank of China on January 4, 2010. These bank loans by Bank of China are for a term of three years with a yearly interest rate of 6.48%, and Bank of China has security interest on certain property, facilities and equipment of Yili China.

 

On September 21, 2009, for the consideration of $10,000,000, the Company sold to The China Hand Fund I, LLC and/or its successors and assigns, an accredited investor (the “ Investor ”) a convertible promissory note, which was automatically converted into 920,267 shares of Series B Convertible Preferred Stock, par value $0.001 per share (the “Series B Preferred Stock”) after the effectiveness of the Reincorporation on November 12, 2009 (the “ 2009 Private Placement ”). The Certificate of Designation, Preferences and Rights of Series B Convertible Preferred Stock was filed with the State of Nevada on November 12, 2009, a form of which is incorporated by reference to our Current Report on Form 8-K filed with the Securities and Exchange Commission on October 27, 2009.

 

Results of Operations for the Six Months ended December 31, 2009 and 2008

 

The following tables and analysis show the operating results of the Company for the six months ended December 31, 2009 and December 31, 2008.  The financial results for the six months ended December 31, 2008 include approximately four months of the operating results of Yili China, since the acquisition of Yili China by the Company was closed on September 4, 2008.

 

 

13

 

 

 

 

 

Six Months Ended

 

 

Six Months Ended

 

 

Percentage

 

 

 

December 31, 2009

 

 

December 31, 2008

 

 

change

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenues

 

$

780,764

 

 

$

598,322

 

 

 

30

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenues

 

 

948,089

 

 

 

488,584

 

 

 

94

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross (loss) profit

 

 

(167,325

)

 

 

109,738

 

 

 

-252

%

 

 

 

 

 

 

 

 

 

 

 

 

 

General and administrative expenses

 

 

890,046

 

 

 

451,598

 

 

 

97

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses

 

 

890,046

 

 

 

451,598

 

 

 

97

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Loss from operations

 

 

(1,057,371

)

 

 

(341,860

)

 

 

209

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest ( income )

 

 

(34,973

)

 

 

(23,769

)

 

 

47

%

Other expenses (income)

 

 

(60,744

)

 

 

(60,700

)

 

 

0.1

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Total other (income) expense

 

 

(95,717

)

 

 

(84,469

)

 

 

13

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Loss before income taxes

 

 

(961,654

)

 

 

(257,391

)

 

 

274

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Income tax provision

 

 

4,136

 

 

 

-

 

 

 

N/A

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

$

(965,790

)

 

$

(257,391

)

 

 

275

%

 

Net Revenues

 

We generated sales revenues of $780,764 for the six months ended December 31, 2009. The total revenues include the following:

 

 

 

Six Months Ended

 

 

Six Months Ended

 

 

Percentage

 

Item

 

December 31, 2009

 

 

December 31, 2008

 

 

change

 

 

 

 

 

 

 

 

 

 

 

Green silicon:

 

 

 

 

 

 

 

 

 

Selling volume (ton)

 

 

498

 

 

 

489

 

 

 

2

%

Average price in US dollars

 

 

862.65

 

 

 

1,184.31

 

 

 

-27

%

Subtotal

 

 

429,600

 

 

 

579,130

 

 

 

-26

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Black silicon:

 

 

 

 

 

 

 

 

 

 

 

 

Selling volume (ton)

 

 

763

 

 

 

20

 

 

 

3715

%

Average price in US dollars

 

 

460.24

 

 

 

959.64

 

 

 

-52

%

Subtotal

 

 

351,164

 

 

 

19,192

 

 

 

1730

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

780,764

 

 

 

598,322

 

 

 

30

%

 

Compared to the same period last year, the market prices of green SiC and black SiC have decreased dramatically due to the impact of the global financial crisis on the silicon carbide industry. The market price of green SiC and black SiC decreased by 27% and 52% respectively, compared to the comparable period last year. However, the price of SiC began to rebound since September 2009.    The market prices of green SiC are $1,126 and $1,151 per ton in January and February of 2010, respectively. Based on this data, management believes that the pricing for SiC will be stable or slightly growing in 2010.

 

 

14

 

 

 

During the last six months of 2009, the Company sold nearly the same amount of green SiC and more black SiC than the comparable period of last year. This is mainly due to two reasons: firstly, the construction of new production lines had reduced the purity of raw materials therefore resulted in the production of less green SiC and more black SiC; and secondly, the Company conducted the technical experiment for existing furnaces, such as applying new raw material formula or operation processes, therefore reduced the operation efficiency and production quality of the furnaces, which resulted in the production of more black SiC. This technical experiment was completed by the end of October 2009 and incurred nearly $263,505 of extra costs to the Company.

 

Cost of Goods Sold

 

Cost of goods sold is primarily comprised of the costs of our raw materials and packaging materials, direct labor, manufacturing overhead expenses, depreciation, amortization, inventory count loss and freight charges. The raw materials include quartz, petrol coke and electricity power. These materials generally account for 8%, 60% and 32% of total raw material costs. Our cost of goods sold for the six months ended December 31, 2009 was $948,089.

 

Gross Loss

 

During the six months ended December 31, 2009, we had a gross loss of $167,325. In the same period last year, our gross profit margin was approximately 18%. The decrease of our profit is due to the following two reasons: firstly, the market prices for both green SiC and black SiC have decreased dramatically in 2009; and secondly, the market price of the black SiC is only 53% of that of the green SiC, yet the production costs of black SiC and green SiC are approximately the same. The Company produced more black SiC during the six-month period ended December 31, 2009 and we did not generate enough sales revenues to cover the manufacturing costs. Management believes that after our two new furnaces commence manufacturing in full capacity at the end of April 2010, our gross profit margin may reach approximately 20%.

 

General and Administrative Expenses

 

Our operating and administrative expenses consist primarily of rental expenses, related salaries, business development, depreciation and traveling expenses, legal and professional expenses. Operating and administrative expenses were $890,046 for the six months ended December 31, 2009, as compared to $451,598 for the six months ended December 31, 2008, an increase of $438,448. Since the acquisition of Yili China by the Company that was closed on September 4, 2008, only four months operating expenses of Yili China was included for the six months ended December 31, 2008. The increase of $438,448 was mainly incurred by the Company after the acquisition of Yili China, including certain expenses of outbound freight fee, salaries, office expenses and professional fees.

 

 

15

 

 

 

 

 

Six Months Ended

 

 

Six Months Ended

 

 

Percentage

 

 

 

December 31, 2009

 

 

December 31, 2008

 

 

change

 

 

 

 

 

 

 

 

 

 

 

G&A

 

 

 

 

 

 

 

 

 

 

 

Stock-based compensation

 

$

24,900

 

 

$

49,800

 

 

 

-50

%

Shipping and outbound freight fee

 

 

105,388

 

 

 

25,903

 

 

 

307

%

Professional fees

 

 

120,445

 

 

 

127,659

 

 

 

-6

%

Travel expenses

 

 

30,140

 

 

 

32,623

 

 

 

-8

%

Products tax and related taxes

 

 

98,554

 

 

 

1,687

 

 

 

5742

%

Welfare and benefits

 

 

219,222

 

 

 

125,815

 

 

 

74

%

Social insurance

 

 

16,683

 

 

 

1,607

 

 

 

938

%

Depreciation expenses

 

 

14,888

 

 

 

5,092

 

 

 

192

%

Amortization expenses

 

 

21,036

 

 

 

6,888

 

 

 

205

%

Entertainment

 

 

24,319

 

 

 

11,482

 

 

 

112

%

Motor car expenses

 

 

16,779

 

 

 

11,725

 

 

 

43

%

Office expenses

 

 

67,755

 

 

 

50,936

 

 

 

33

%

Training fee

 

 

58,009

 

 

 

-

 

 

 

N/A

 

Others

 

 

71,928

 

 

 

381

 

 

 

18779

%

Total

 

$

890,046

 

 

$

451,598

 

 

 

97

%

 

Operating Loss

 

Our operating loss is $1,057,371 for the six months ended December 31, 2009, as compared to a loss of $341,860 for the comparable period of 2008, an increase of $715,511. Our operating loss is mainly attributable to the relatively high amount of cost of goods sold and G&A expenses for the six months ended December 31, 2009.

 

Income Taxes

 

For the six months ended December 31, 2009, our business operations were solely conducted by our subsidiaries incorporated in the PRC and we were governed by the PRC Enterprise Income Tax Laws.  PRC enterprise income tax is calculated based on taxable income determined under PRC GAAP. In accordance with the Income Tax Laws, a PRC domestic


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