Table of Contents

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 


 

FORM 20-F


 

(Mark One)

 

o

REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(g) OF THE SECURITIES ACT OF 1934

 

 

OR

 

 

x

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2020

 

 

OR

 

 

o

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

 

 

OR

 

 

o

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

 

Date of event requiring this shell company report: . . . . . . . . . . . . . . . . . . .

 

For the transition period from                       to                        

 

Commission file number: 001-39088

 

Aesthetic Medical International Holdings Group Limited

(Exact name of Registrant as specified in its charter)

 

N/A

(Translation of Registrant’s name into English)

 

Cayman Islands

(Jurisdiction of incorporation)

 

1122 Nanshan Boulevard

Nanshan District, Shenzhen

Guangdong Province, China 518052

(Address of principal executive offices)

 

Wu Guanhua, Chief Financial Officer

E-mail: toby@pengai.com.cn

1122 Nanshan Boulevard

Nanshan District, Shenzhen

Guangdong Province, China 518052

Telephone: +86 (755) 2559 8065

(Name, Telephone, E-mail and/or Facsimile number and Address of Company Contact Person)

 

Securities registered or to be registered, pursuant to Section 12(b) of the Act

 

Title of each class

 

Trading Symbol(s)

 

Name of each exchange on which registered

American depositary shares, each

representing three ordinary shares

 

AIH

 

The NASDAQ Stock Market LLC

Ordinary shares, par value US$0.001 per share*

 

 

 

The NASDAQ Stock Market LLC

 


*

Not for trading, but only in connection with the listing of the American depositary shares on The NASDAQ Stock Market LLC.

 

Securities registered or to be registered pursuant to Section 12(g) of the Act.

 

None

(Title of Class)

 


Table of Contents

 

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act.

 

None

(Title of Class)

 


 

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report:

 

As of December 31, 2020, there were 70,793,671 ordinary shares issued and outstanding.

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

o Yes   x No

 

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

o Yes   x No

 

Note — Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 from their obligations under those Sections.

 

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.

x Yes   o No

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

x Yes   o No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer o

 

Accelerated filer o

 

Non-accelerated filer x

 

Emerging growth company x

 

If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards† provided pursuant to Section 13(a) of the Exchange Act. o

 

The term “new or revised financial accounting standard” refers to any update issued by the Financial Accounting Standards Board to its Accounting Standards Codification after April 5, 2012.

 

Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report.

o Yes  x  No

 

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:

 

U.S. GAAP o

 

International Financial Reporting Standards as issued
by the International Accounting Standards Board
x

 

Other o

 

If “Other” has been checked in response to the previous question indicate by check mark which financial statement item the registrant has elected to follow.

o Item 17   o Item 18

 

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

o Yes   x No

 

(APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PAST FIVE YEARS)

 

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.

 

o Yes   o No

 


Table of Contents

 

TABLE OF CONTENTS

 

 

 

 

Page

INTRODUCTION

 

ii

FORWARD-LOOKING INFORMATION

 

iv

PART I.

 

 

1

Item 1.

Identity of Directors, Senior Management and Advisers

 

1

Item 2.

Offer Statistics and Expected Timetable

 

1

Item 3.

Key Information

 

1

Item 4.

Information on the Company

 

53

Item 4.A.

Unresolved Staff Comments

 

102

Item 5.

Operating and Financial Review and Prospects

 

102

Item 6.

Directors, Senior Management and Employees

 

123

Item 7.

Major Shareholders and Related Party Transactions

 

137

Item 8.

Financial Information

 

140

Item 9.

The Offer and Listing

 

141

Item 10.

Additional Information

 

141

Item 11.

Quantitative and Qualitative Disclosures About Market Risk

 

156

Item 12.

Description of Securities Other Than Equity Securities

 

158

PART II.

 

 

161

Item 13.

Defaults, Dividend Arrearages and Delinquencies

 

161

Item 14.

Material Modifications to the Rights of Security Holders and Use of Proceeds

 

161

Item 15.

Controls and Procedures

 

161

Item 16.A.

Audit Committee Financial Expert

 

163

Item 16.B.

Code of Ethics

 

163

Item 16.C.

Principal Accountant Fees and Services

 

163

Item 16.D.

Exemptions from the Listing Standards for Audit Committees

 

164

Item 16.E.

Purchases of Equity Securities by the Issuer and Affiliated Purchasers

 

164

Item 16.F.

Change in Registrant’s Certifying Accountant

 

164

Item 16.G.

Corporate Governance

 

164

Item 16.H.

Mine Safety Disclosure

 

164

PART III.

 

 

165

Item 17.

Financial Statements

 

165

Item 18.

Financial Statements

 

165

Item 19.

Exhibits

 

165

 

i


Table of Contents

 

INTRODUCTION

 

Unless otherwise indicated or the context otherwise requires, references in this annual report to:

 

·                  “ADSs” are to our American depositary shares, each of which represents three of our ordinary shares;

 

·                  “ADV” are to Peak Asia Investment Holdings V Limited and/or its affiliates as the case may be;

 

·                  “China” or the “PRC” are to the People’s Republic of China, excluding, for the purposes of this annual report only, Hong Kong, Macau and Taiwan;

 

·                  “Contractual Arrangements” are to a series of contractual arrangements entered into by us with Dr. Zhou Pengwu, Shenzhen Pengai Hospital Investment Management Co., Ltd., the Relevant Subsidiaries and Ms. Ding Wenting in 2018, 2019, 2020 and 2021 with respect to the Target Equity Interests, as detailed in “Item 4. Information on the Company—4.A. History and Development of the Company—Contractual Arrangements with respect to Target Equity Interests”;

 

·                  “IDG” are to IDG Technology Venture Investment IV, L.P., IDG-ACCEL China Growth Fund III L.P., IDG-ACCEL China III Investors L.P. (or collectively, IDG Funds) and/or their respective affiliates as the case may be;

 

·                  “Relevant Subsidiaries” are to, collectively, Yantai Pengai Jiayan Cosmetic Surgery Hospital Co., Ltd., Hangzhou Pengai Aesthetic Medical Clinic Co., Ltd., Chongqing Pengai Aesthetic Medical Hospital Co., Ltd., Changsha Pengai Aesthetic Medical Hospital Co., Ltd., Shanghai Pengai Aesthetic Medical Clinic Co., Ltd., Shenzhen Pengai Xiuqi Aesthetic Medical Hospital, Guangzhou Pengai Aesthetic Medical Hospital Co., Ltd., Jinan Pengai Cosmetic Surgery Hospital Co., Ltd., Jiangsu Liangyan Hospital Management Co., Ltd., and Beijing AomeiYixin Investment Consultant Co., Ltd., which were held by Dr. Zhou Pengwu as to 24.0%, 30%, 30.0%, 19.0%, 15.0%, 22.0%, 26.0%, 25%, 10% and 25%, respectively, as of April 30 2021 except for Jiangsu Liangyan Hospital Management Co., Ltd. and Beijing AomeiYixin Investment ConsultantCo., Ltd., which are subject to the completion of registration of share transfer to Dr. Zhou and the equity pledge;

 

·                  “RMB” and “renminbi” are to the legal currency of China;

 

·                  “shares” or “ordinary shares” are to our ordinary shares, par value US$0.001 per share;

 

·                  “Target Equity Interests” are to these equity interests held by Dr. Zhou Pengwu in the Relevant Subsidiaries, which constitute all of Dr. Zhou Pengwu’s shareholdings in the Relevant Subsidiaries as of April 30 2021 except for Jiangsu Liangyan Hospital Management Co., Ltd. and Beijing AomeiYixin Investment ConsultantCo., Ltd., which are subject to the completion of registration of share transfer to Dr. Zhou and the equity pledge;

 

·                  “US$,” “U.S. dollars,” “$,” and “dollars” are to the legal currency of the United States; and

 

·                  “We,” “us,” “our company,” “the Company” and “our” are to Aesthetic Medical International Holdings Group Limited, its subsidiaries and its consolidated affiliated entities.

 

We present our financial results in RMB. We make no representation that any RMB or U.S. dollar amounts could have been, or could be, converted into U.S. dollars or RMB, as the case may be, at any particular rate, or at all. The PRC government imposes control over its foreign currency reserves in part through direct regulation of the conversion of RMB into foreign exchange and through restrictions on foreign trade. This annual report contains translations of certain foreign currency amounts into U.S. dollars for the convenience of the reader. Unless otherwise specified, all translations of renminbi amounts into U.S. dollar amounts in this press release are made at RMB6.5250 to US$1.00, which was the U.S. dollars middle rate announced by the Board of Governors of the Federal Reserve System of the United States in effect as of December 31, 2020.

 

ii


Table of Contents

 

We completed an initial public offering of our ADSs at an initial offering price of US$12.00 per ADS on October 29, 2019. The ADSs, each representing three of our ordinary shares, par value US$0.001 per share, are traded on the Nasdaq Global Market under the symbol “AIH.”

 

iii


Table of Contents

 

FORWARD-LOOKING INFORMATION

 

This annual report contains forward-looking statements that reflect our current expectations and views of future events. All statements other than statements of current or historical facts are forward-looking statements. These forward-looking statements are made under the “safe harbor” provisions of the U.S. Private Securities Litigations Reform Act of 1995.

 

You can identify some of these forward-looking statements by words or phrases such as “may,” “will,” “expect,” “anticipate,” “aim,” “estimate,” “intend,” “plan,” “believe,” “is/are likely to,” “potential,” “continue” or other similar expressions. We have based these forward-looking statements largely on our current expectations and projections about future events that we believe may affect our financial condition, results of operations, business strategy and financial needs. These forward-looking statements include statements relating to:

 

·                  our business prospects, trends and conditions in the industry and markets in which we operate;

 

·                  the potential impact of an infectious disease caused by a novel coronavirus (“COVID-19”) to our business operations and the economy in China and elsewhere generally;

 

·                  our goals, business strategies and plans to achieve these strategies;

 

·                  our expected growth in, and market size of, our services in the markets we operate;

 

·                  expected changes in our revenue, costs and expenditures;

 

·                  our ability to offer new services in the markets and the industry we operate;

 

·                  our ability to continue to develop new technologies and/or update our existing technologies;

 

·                  growth of and trends of competition in our industry;

 

·                  general economic, political and business conditions in the markets in which we operate;

 

·                  changes to the regulatory environment and general outlook in the industry and markets in which we operate;

 

·                  the performance of the global financial markets, including changes in our ability to access the capital markets and changes in the levels of interest rates;

 

·                  our liquidity and financial condition;

 

·                  our relationship with, and other conditions affecting, our customers;

 

·                  our expectation regarding the use of the remainder of proceeds from our initial public offering;

 

·                  our dividend policy; and

 

·                  other factors beyond our control.

 

iv


Table of Contents

 

These factors should not be construed as exhaustive and should be read with the other cautionary statements in this annual report, including but not limited to those listed under “Item 3. Key Information—3.D. Risk Factors.”

 

These forward-looking statements involve various risks and uncertainties. Although we believe that our expectations expressed in these forward-looking statements are reasonable, our expectations may later be found to be incorrect. We operate in an evolving environment. New risk factors and uncertainties emerge from time to time and it is not possible for our management to predict all risk factors and uncertainties, nor can we assess the impact of all factors on our business. Our actual results could be materially different from our expectations. Important risks and factors that could cause our actual results to be materially different from our expectations are generally set forth in this annual report. You should read thoroughly this annual report and the documents that we refer to with the understanding that our actual future results may be materially different from and worse than what we expect. We qualify all of our forward-looking statements by these cautionary statements.

 

This annual report contains certain data and information that we obtained from various government and private publications. Statistical data in these publications also include projections based on a number of assumptions. Our industry may not grow at the rate projected by market data, or at all. Failure of this market to grow at the projected rate may have a material and adverse effect on our business and the market price of our ADSs. In addition, the rapidly evolving nature of our industry results in significant uncertainties for any projections or estimates relating to the growth prospects or future condition of our market. Furthermore, if any one or more of the assumptions underlying the market data are later found to be incorrect, actual results may differ from the projections based on these assumptions. You should not place undue reliance on these forward-looking statements.

 

You should not rely upon forward-looking statements as predictions of future events. The forward- looking statements made in this annual report relate only to events or information as of the date on which the statements are made in this annual report. Except as required by law, we undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise, after the date on which the statements are made or to reflect the occurrence of unanticipated events. You should read this annual report and the documents that we refer to in this annual report and have filed as exhibits to the registration statement, of which this annual report is a part, completely and with the understanding that our actual future results may be materially different from what we expect.

 

v


Table of Contents

 

PART I.

 

Item 1.                                 Identity of Directors, Senior Management and Advisers

 

Not applicable.

 

Item 2.                                 Offer Statistics and Expected Timetable

 

Not applicable.

 

Item 3.                                 Key Information

 

3.A.         Selected Financial Data

 

The following selected consolidated financial data for the years ended December 31, 2018, 2019 and 2020, and the selected financial position data as of December 31, 2019 and 2020, have been derived from our audited consolidated financial statements appearing elsewhere in this annual report. The following selected consolidated statement of comprehensive income data for the year ended December 31, 2016 and 2017, the selected consolidated financial position data as of December 31, 2017 and 2018 and the selected consolidated cash flow data for the year ended December 31, 2016 and 2017 have been derived from our audited consolidated financial statements not included in this annual report. Our consolidated financial statements appearing in this annual report have been prepared and presented in accordance with International Financial Reporting Standards, or IFRS, as issued by the International Accounting Standards Board, or the IASB.

 

Our historical results for any prior period are not necessarily indicative of results to be expected in any future period. The following information should be read in conjunction with our consolidated financial statements and related notes, “—3.D. Risk Factors” and “Item 5. Operating and Financial Review and Prospects” included elsewhere in this annual report.

 

Consolidated statement of comprehensive income data

 

 

 

For the year ended December 31

 

 

 

2016

 

2017

 

2018

 

2019

 

2020(3)

 

 

 

RMB

 

RMB

 

RMB

 

RMB

 

RMB

 

US$

 

 

 

(in thousands, except for share and per share data)

 

Revenue

 

584,857

 

697,396

 

761,306

 

869,050

 

901,573

 

138,172

 

Cost of sales and services rendered

 

(217,339

)

(234,522

)

(258,567

)

(275,948

)

(356,796

)

(54,681

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross profit

 

367,518

 

462,874

 

502,739

 

593,102

 

544,777

 

83,491

 

Selling expenses

 

(231,229

)

(300,362

)

(333,526

)

(413,068

)

(510,608

)

(78,255

)

General and administrative expenses

 

(121,763

)

(92,836

)

(115,485

)

(196,329

)

(230,646

)

(35,348

)

Finance income

 

309

 

868

 

322

 

388

 

1,185

 

182

 

Finance costs

 

(2,920

)

(6,581

)

(9,244

)

(24,293

)

(29,189

)

(4,473

)

Other gains, net

 

1,704

 

9,334

 

12,118

 

18,669

 

600

 

92

 

Fair value gain/(loss) of the convertible redeemable preferred shares

 

49,027

 

(85,461

)

(226,248

)

136,656

 

 

 

Fair value loss of convertible note

 

 

(1,283

)

(9,152

)

(5,193

)

(1,599

)

(245

)

Fair value (loss)/gain of exchangeable note liabilities

 

 

(38,307

)

(56,925

)

45,274

 

 

 

Fair value gain/(loss) of derivative financial instrument

 

 

 

(301

)

301

 

 

 

Impairment of non-current assets

 

 

 

 

(1,405

)

(32,969

)

(5,053

)

Share of profit/(losses) of investments accounted for using the equity method

 

1,594

 

(1,415

)

1,730

 

(1,738

)

(1,043

)

(160

)

Profit/(loss) before income tax

 

64,240

 

(53,169

)

(233,972

)

152,364

 

(259,492

)

(39,769

)

Income tax expense

 

(13,713

)

(19,260

)

(18,508

)

(14,036

)

12,587

 

1,929

 

Profit/(loss) for the year

 

50,527

 

(72,429

)

(252,480

)

138,328

 

(246,905

)

(37,840

)

Earnings/(loss) per share for profit/(loss) attributable to owners of the Company

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

1.23

 

(1.87

)

(6.22

)

2.96

 

(3.61

)

(0.55

)

Diluted

 

0.02

 

(1.87

)

(6.22

)

(0.78

)

(3.61

)

(0.55

)

Shares used in profit/(loss) per share computation:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

41,000,000

 

41,000,000

 

41,060,255

 

46,097,963

 

65,297,485

 

10,007,277

 

Diluted

 

56,844,957

 

41,000,000

 

41,060,255

 

58,791,662

 

65,297,485

 

10,007,227

 

Non-IFRS Financial Measure:

 

 

 

 

 

 

 

 

 

 

 

 

 

EBITDA(1)

 

105,889

 

(17,477

)

(192,588

)

260,491

 

(123,898

)

(18,988

)

Adjusted EBITDA(1)

 

96,064

 

112,110

 

113,093

 

187,143

 

12,006

 

1,840

 

Adjusted profit/(loss)(2)

 

40,702

 

61,793

 

57,861

 

69,124

 

(111,001

)

(17,012

)

 

1


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Notes:

 

(1)         EBITDA represents our profit/(loss) before income tax, adjusted to exclude finance costs and amortization and depreciation. Adjusted EBITDA represents EBITDA, adjusted to exclude one-time compensatory expenses arising from the issuance of exchangeable note liabilities, fair value gain/(loss) of convertible redeemable preferred shares, fair value loss of convertible note, fair value gain/loss of derivative financial instruments, fair value gain/loss of exchangeable note liabilities, share-based compensation expense, and other one-off expenses.

 

(2)         Adjusted profit/(loss) represents profit/(loss) for the year, adjusted to exclude one-time compensatory expenses arising from the issuance of exchangeable note liabilities, fair value gain/(loss) of convertible redeemable preferred shares, fair value loss of convertible note, fair value gain/(loss) derivative financial instruments, fair value gain/(loss) of exchangeable note liabilities, interest expense on convertible note, share-based compensation and expense, other one-off expenses.

 

(3)         We entered into an agreement to purchase a 51% equity interest of Guangdong Hanfei Investment Management Co., Ltd. on July 14, 2020 but subsequently entered into an agreement to dispose of the 51% equity interest of Guangdong Hanfei Investment Management Co., Ltd. with the original shareholder on December 25, 2020. The disposal was due to the slower than expected recovery from COVID-19 and the overall less than satisfactory performance of Hanfei during the post-acquisition period. As we obtained control over Hanfei from August 4, 2020 to December 25, 2020, we consolidated the results of Guangdong Hanfei Investment Management Co., Ltd. during such period.

 

EBITDA, adjusted EBITDA and adjusted profit/(loss) are non-IFRS financial measures. You should not consider EBITDA, adjusted EBITDA and adjusted profit/(loss) as a substitute for or superior to net income prepared in accordance with IFRS. Furthermore, because non-IFRS measures are not determined in accordance with IFRS, they are susceptible to varying calculations and may not be comparable to other similarly titled measures presented by other companies. You are encouraged to review our financial information in its entirety and not rely on a single financial measure. We present EBITDA, adjusted EBITDA and adjusted profit/(loss) as supplemental performance measures because we believe that such measures provide useful information to the investors in understanding and evaluating our results of operations, and facilitate operating performance comparisons from period to period and company to company.

 

Selected consolidated financial position data

 

 

 

As of December 31,

 

 

 

2017

 

2018

 

2019

 

2020

 

 

 

RMB

 

RMB

 

RMB

 

RMB

 

US$

 

 

 

(in thousands)

 

Cash and cash equivalents

 

105,345

 

101,886

 

154,490

 

44,384

 

6,802

 

Total current assets

 

227,698

 

282,967

 

264,694

 

206,164

 

31,596

 

Total non-current assets

 

350,286

 

393,572

 

782,441

 

831,922

 

127,498

 

Total assets

 

577,984

 

676,539

 

1,047,135

 

1,038,086

 

159,094

 

Total equity/(deficit)

 

(22,240

)

(249,356

)

590,598

 

425,736

 

65,247

 

Total current liabilities

 

133,466

 

171,292

 

265,302

 

301,688

 

46,236

 

Total non-current liabilities

 

466,758

 

754,603

 

191,235

 

310,662

 

47,611

 

Total liabilities

 

600,224

 

925,895

 

456,537

 

612,350

 

93,847

 

Total equity and liabilities

 

577,984

 

676,539

 

1,047,135

 

1,038,086

 

159,094

 

Share capital (41,000,000, 41,798,219, 70,838,671 and 70,838,671 shares issued and outstanding as of December 31, 2017, 2018, 2019 and 2020, respectively)

 

259

 

265

 

469

 

469

 

72

 

 

2


Table of Contents

 

Selected consolidated cash flow data

 

 

 

For the year ended December 31,

 

 

 

2016

 

2017

 

2018

 

2019

 

2020

 

 

 

RMB

 

RMB

 

RMB

 

RMB

 

RMB

 

US$

 

 

 

(in thousands)

 

Net cash generated from operating activities

 

52,084

 

76,979

 

4,894

 

86,761

 

(843

)

(129

)

Net cash used in investing activities

 

(38,865

)

(69,195

)

(76,182

)

(114,172

)

(127,368

)

(19,520

)

Net cash generated from/(used in) financing activities

 

58,626

 

(28,187

)

66,741

 

79,561

 

17,697

 

2,712

 

Net increase/(decrease) in cash and cash equivalents

 

71,845

 

(20,403

)

(4,547

)

52,150

 

(110,514

)

(16,937

)

Cash and cash equivalents at beginning of the year

 

60,465

 

129,626

 

106,006

 

101,886

 

154,490

 

23,677

 

Cash and cash equivalents at the end of the year

 

129,626

 

106,006

 

102,547

 

154,490

 

44,384

 

6,802

 

 

The following table reconciles EBITDA and adjusted EBITDA to profit/(loss) for the years ended December 31, 2016, 2017, 2018, 2019 and 2020:

 

 

 

For the year ended December 31,

 

 

 

2016

 

2017

 

2018

 

2019

 

2020

 

 

 

RMB

 

RMB

 

RMB

 

RMB

 

RMB

 

US$

 

 

 

(in thousands)

 

Profit/(loss) before income tax

 

64,240

 

(53,169

)

(233,972

)

152,364

 

(259,492

)

(39,769

)

Add: Finance Costs

 

2,920

 

6,581

 

9,244

 

24,293

 

29,189

 

4,473

 

Add: Amortization and depreciation

 

38,729

 

29,111

 

32,140

 

83,834

 

106,405

 

16,308

 

EBITDA

 

105,889

 

(17,477

)

(192,588

)

260,491

 

(123,898

)

(18,988

)

Add: One-time compensatory expenses arising from the issuance of exchangeable note liabilities

 

39,202

 

 

 

 

 

 

Add: Fair value (gain)/loss of convertible redeemable preferred shares

 

(49,027

)

85,461

 

226,248

 

(136,656

)

 

 

Add: Fair value loss of convertible note

 

 

1,283

 

9,152

 

5,193

 

1,599

 

245

 

Add: Fair value (gain)/loss of exchangeable note liabilities

 

 

38,307

 

56,925

 

(45,274

)

 

 

Add: Fair value of (gain)/loss of derivative financial instrument

 

 

 

301

 

(301

)

 

 

Add: Share-based compensation expenses

 

 

 

 

47,788

 

78,967

 

12,102

 

Add: Other one-off expenses(1)

 

 

4,536

 

13,055

 

55,902

 

55,338

 

8,481

 

Adjusted EBITDA

 

96,064

 

112,110

 

113,093

 

187,143

 

12,006

 

1,840

 

 

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Note:

 

(1)         Other one-off expenses include (1) professional fees in relation to our financing activities but are not capitalized; (2) IT-related expenses paid to a related party pursuant to a service agreement, which has expired in June 2019; (3) roadshow and marketing expenses incurred for IPO; (4) impairment of non-current assets; (5) loss on disposal of Wuhan Pengai; (6) exchange loss; (7) loss on disposal of subsidiaries; (8) loss on disposal of an associate; and (9) donation.

 

The following table reconciles adjusted profit to profit/(loss) for the years ended December 31, 2016, 2017, 2018, 2019 and 2020:

 

 

 

For the year ended December 31,

 

 

 

2016

 

2017

 

2018

 

2019

 

2020

 

 

 

RMB

 

RMB

 

RMB

 

RMB

 

RMB

 

US$

 

 

 

(in thousands)

 

(Loss)/profit for the period/year

 

50,527

 

(72,429

)

(252,480

)

138,328

 

(246,905

)

(37,840

)

Adjustments

 

 

 

 

 

 

 

 

 

 

 

 

 

Add: One-time compensatory expenses arising from the issuance of exchangeable note liabilities

 

39,202

 

 

 

 

 

 

Add: Fair value (gain)/loss of convertible redeemable preferred shares

 

(49,027

)

85,461

 

226,248

 

(136,656

)

 

 

Add: Fair value loss of convertible note

 

 

1,283

 

9,152

 

5,193

 

1,599

 

245

 

Add: Fair value (gain)/loss of derivative financial instruments

 

 

 

301

 

(301

)

 

 

Add: Fair value (gain)/loss of exchangeable note liabilities

 

 

38,307

 

56,925

 

(45,274

)

 

 

Add: Interest expense on convertible note

 

 

4,815

 

4,660

 

4,144

 

 

 

Add: Share-based compensation expense

 

 

 

 

 

 

47,788

 

78,967

 

12,102

 

Add: Professional fees

 

 

2,036

 

8,055

 

12,064

 

18,581

 

2,847

 

Add: IT-related expenses paid to a related party

 

 

2,500

 

5,000

 

3,020

 

 

 

Add: Roadshow and marketing expenses

 

 

 

 

32,220

 

 

 

Add: Impairment of non-current assets

 

 

 

 

1,405

 

32,969

 

5,053

 

Add: Loss on disposal of Wuhan Pengai

 

 

 

 

2,070

 

 

 

Add: Loss on disposal of subsidiaries

 

 

 

 

 

1,531

 

235

 

Add: Loss on disposal of an associate

 

 

 

 

 

927

 

142

 

Add: Donation

 

 

 

 

 

1,330

 

204

 

Add: Exchange loss

 

 

 

 

5,123

 

 

 

Adjusted Profit/(loss)

 

40,702

 

61,973

 

57,861

 

69,124

 

(111,001

)

(17,012

)

 

3.B.         Capitalization and Indebtedness

 

Not applicable.

 

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3.C.         Reasons for the Offer and Use of Proceeds

 

Not applicable.

 

3.D.         Risk Factors

 

Summary Risk Factors

 

Our business is subject to a number of risks, including risks that may prevent us from achieving our business objectives or may adversely affect our business, financial condition, results of operations, cash flows, and prospects. These risks are discussed more fully below and include, but are not limited to, risks related to:

 

Risks relating to our business and our industry

 

·                  any future occurrence of force majeure events, natural disasters or outbreaks of contagious diseases in the PRC;

 

·                  our ability to obtain sufficient funding for our expansion plans;

 

·                  any decrease in supply or fluctuation in the cost of supplies;

 

·                  our ability to maintain proper inventory levels for our operations;

 

·                  the strength of our brand and reputation;

 

·                  increasing ongoing compliance costs in a heavily regulated industry;

 

·                  our compliance with PRC laws and regulations on medical advertisement;

 

·                  possible non-compliance incidents;

 

·                  customer complaints, claims and legal proceedings in the regular course of our operations from time to time;

 

·                  our ability to recruit and retain an adequate number of managers, doctors, nurses, image consultants and other support staff in our treatment centers;

 

·                  our ability to maintain the quality of the pharmaceuticals, medical equipment, medical supplies, injection materials, skincare products, implants and consumables we use; and

 

·                                          unfavorable market perception of the overall aesthetic medical industry.

Risks relating to our corporate structure

 

·                  the Contractual Arrangements being compliant with PRC laws and regulations;

 

·                  the Contractual Arrangements being ineffective in providing control;

 

·                  potential conflicts of interest with Dr. Zhou Pengwu;

 

·                  the Contractual Arrangements being subject to scrutiny by the PRC tax authorities; and

 

·                  our PRC medical centers being deemed as “Sino-Foreign Equity Medical Institutions.”

 

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Risks relating to doing business in the PRC

 

·                  increased labor costs and potential non-compliance caused by the enforcement of the PRC Labor Contract Law;

 

·                  changes in the PRC’s economic, political and social conditions, as well as governmental policies;

 

·                  uncertainties with respect to the PRC legal system and changes in laws, regulations and policies in China;

 

·                  changes in international trade policies and barriers to trade or the emergence of a trade war;

 

·                  potential liabilities under the FCPA, Chinese anti-unfair competition laws and relevant tax laws;

 

·                  restrictions on currency exchange;

 

·                  potential liability or penalties and limitation on our ability to inject and capital into these subsidiaries due to PRC regulations relating to investments in offshore companies by PRC residents; and

 

·                  the risks related to the non-inspection by the PCAOB of our auditor and the recent enactment of the Holding Foreign Companies Accountable Act.

 

Risks relating to the ADSs

 

·                  our broad discretion to determine how to use the remaining net proceeds from our initial public offering;

 

·                  the ability by our chief executive officer and his spouse to control and exert significance influence over our company;

 

·                  provisions in our fourth amended and restated articles of association limiting your ability to influence corporate matters;

 

·                  our reliance on exemptions from certain corporate governance requirements due to our “controlled company” status; and

 

·                  an increased risk of securities class action litigation.

 

Risks relating to our business and our industry

 

Any future occurrence of force majeure events, natural disasters or outbreaks of contagious diseases in the PRC could prevent us from effectively serving our customers and thus adversely affect our results of operations.

 

Any occurrence of force majeure events, natural disasters or outbreaks of epidemics, including those caused by avian influenza or swine influenza, may restrict business activities in the areas affected and materially and adversely affect our business and results of operations. Since early 2013, there have been outbreaks of highly pathogenic avian flu, caused by the H7N9 virus, in certain parts of China, and in early 2009, there were reports of outbreaks of a highly pathogenic swine flu, caused by the H1N1 virus, in certain regions of Asia and Europe.

 

An outbreak of COVID-19 continues to spread within the PRC and globally. The new strain of coronavirus is considered highly contagious and may pose a serious public health threat. On January 30, 2020, the World Health Organization reportedly declared this COVID-19 outbreak a health emergency of international concern. In March 2020, the World Health Organization declared the COVID-19 a pandemic. Since the COVID-19 outbreak, the PRC government has imposed various strict measures with the aim to contain the virus including, but not limited to, travel restrictions, mandatory quarantine requirements, and postponed resumption of business operations. In response to the outbreak of COVID-19, we postponed the resumption of operations of aesthetic treatment centers in China after the Chinese New Year holiday in 2020. During the temporary shutdown of our treatment centers, we could not carry out any business procedures. Since late February 2020, we have actively taken proper precautionary measures to contain the spread of the pandemic, and gradually re-opened our beauty treatment centers. By the end of March 2020, all of our aesthetic treatment centers had resumed their operations. We also adopted a thorough disease prevention scheme and implemented measures including, but not limited to, regularly sterilizing and ventilating our facilities, staggering employee lunch time, monitoring the body temperature of employees, and keeping track of the travel history and health condition of employees and their immediate family members. We also provided COVID-19 prevention training sessions to our employees and procured essential disease prevention supplies to ensure the safety of all employees, maintain the normal operation of our treatment centers, and protect the well being of our customers. We have applied these COVID-19 prevention measures consistently throughout 2020 and up till the date of this annual report.

 

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Although we are in compliance with the requirements of local governments and put health and safety in top priority, if any of our employees or visiting customers is, or is suspected to be, infected with the coronavirus, or exposed to confirmed patients of COVID-19, such person and the close contacts will be subject to quarantine requirements. This might expose our customers, employees and their families to health and safety risks, and might lead to shortage of qualified personnel, or even temporary suspension of operation of the relevant treatment center. While we continue to carry out one of our core strategies of identifying, acquiring and integrating treatment centers to enhance our footprint, our investment in new and existing treatment centers might not yield returns as planned, if at all, and our expansion may be halted due to the pandemic. In 2020, we acquired controlling equity interests in four treatment centers, excluding treatment centers from Hanfei, which added to our expenses and negatively affected our results of operations in 2020. In particular, we entered into an agreement to purchase a 51% equity interest of Guangdong Hanfei Investment Management Co., Ltd. (“Hanfei”) on July 14, 2020 but subsequently entered into an agreement to dispose of the 51% equity interest of Hanfei on December 25, 2020. The disposal was due to the slower than expected recovery from COVID-19 and the overall less than satisfactory performance of Hanfei during the post-acquisition period.

 

The COVID-19 pandemic has had a material adverse impact on our business, financial condition and results of operations. Our results of operations and overall operating conditions improved in the second half of the year as the COVID-19 pandemic was largely contained in China. Nonetheless, we expect the COVID-19 pandemic to continue to have an impact on our business, financial condition and results of operations given the uncertainties surrounding the COVID-19 pandemic. For example, regional outbreaks may occur from time to time, which may disrupt the operation of our treatment centers in adjacent cities. We musts stay on top of the disease prevention measures at all times, and in order to avoid crowdedness, we must stagger our customers’ waiting time and treatment time, and our performance is highly likely to be affected. We cannot assure you that the COVID-19 pandemic could be eliminated or fully contained in the near future, or that similar outbreaks would not occur at all. If COVID-19 and its resulting disruption to our business continue over an extended period of time, it could have a material adverse impact on our business, financial condition and results of operations in the long run.. For discussion on liquidity and capital resources, see “Item 5. Operating and Financial Review and Prospects—5.B. Liquidity and Capital Resources.”

 

As of the date of this annual report, the COVID-19 pandemic has been largely under control in China, although cases of infection still come up from time to time. However, the global spread of the COVID-19 pandemic still persists in many countries. We are closely monitoring the development of the COVID-19 pandemic and continuously evaluating any further potential impact on our business, results of operations and financial condition, which we believe will depend on the duration and degree of the pandemic. If the outbreak persists or escalates, we may be subject to further negative impact on our business operations and financial condition.

 

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Moreover, the PRC has experienced natural disasters like earthquakes, floods and droughts in the past few years. Any future occurrence of several natural disasters in the PRC may materially and adversely affect its economy and therefore our business. An outbreak of contagious diseases, and other adverse public health developments in China, would have a material adverse effect on our business operations. These could include restrictions on our ability to provide services to our customers, as well as cause temporary closure of our treatment centers. Such closures or service restrictions would severely disrupt our operations and adversely affect our financial condition and results of operations. We have not adopted any written preventive measures or contingency plans to combat any future occurrence of force majeure events, natural disasters or outbreaks of contagious diseases.

 

If we fail to obtain sufficient funding for our expansion plans, our business and growth prospects may be adversely affected.

 

We expect the COVID-19 pandemic to continue to subject us to uncertainties, which may negatively affect our future cash flow in to an extent that we cannot predict at this time, and we can only try our best to continue to maintain and improve our cash flow. For discussion of liquidity and capital resources, see “Item 5. Operating and Financial Review and Prospects—5.B. Liquidity and Capital Resources.” However, we have considered our cash flow from future operations and available borrowing facilities to conclude that we have sufficient financial resources to meet its financial obligations as and when they fall due in the coming 12 months. Given our current credit status and the current availability of capital, we believe that we will not encounter any major difficulties in obtaining additional borrowings. We may, however, require additional cash resources to finance our continued growth or other future developments, including any marketing initiatives or investments we may decide to pursue. The amount and timing of such additional financing needs will vary depending on the timing of our new treatment centers openings, investments in acquired treatment centers and the amount of cash flow from our operations. If our resources are insufficient to satisfy our cash requirements, we may seek additional financing. To the extent that we raise additional financing by selling additional equity, our shareholders may experience dilution. To the extent we engage in debt financing, the incurrence of indebtedness would result in increased debt service obligations and could result in operating and financing covenants that may, among other things, restrict our operations or our ability to pay dividends. Servicing such debt obligations could also be burdensome to our operations. If we fail to service the debt obligations or are unable to comply with such debt covenants, we could be in default under the relevant debt obligations and our liquidity and financial conditions may be materially and adversely affected.

 

Our ability to obtain additional capital on acceptable terms is subject to a variety of uncertainties, some of which are beyond our control, including general economic and capital market conditions, credit availability from banks or other lenders, the consents of our prior creditors, receipt of necessary PRC government approvals, investors’ confidence in us, the performance of the aesthetic medical treatment industry in general, and our operating and financial performance in particular. We cannot assure you that future financing will be available in amounts or on terms acceptable to us, if at all. In the event that financing is not available or is not available on terms acceptable to us, our business, results of operations and growth prospects may be adversely affected.

 

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We have not entered into any long-term supply agreements with our suppliers. A decrease in supply, or an increase in the cost, or quality supplies may adversely affect our business, financial condition and results of operations.

 

For the years ended December 31, 2018, 2019 and 2020, our cost of inventories and consumables amounted to RMB107.0 million, RMB112.6 million and RMB163.9 million (US$25.1 million), respectively, representing 42.0%, 40.8% and 45.8% of our total cost of sales and services rendered for the same periods, respectively. Consistent with industry practice, we have not entered into any long-term supply agreements with our suppliers and we cannot assure you that our suppliers will continue to supply to us on commercially reasonable terms, or at all. If any of our suppliers fail to supply sufficient quantities or experience fluctuations in market prices of the same, for example, due to temporary operation suspension caused by the outbreak of COVID-19, we may have to obtain replacements for such supplies from alternate suppliers. We cannot assure you that we will be able to do so in a timely manner at commercially reasonable terms. Any such disruption in supply may adversely affect the operations of our treatment centers, which may in turn adversely affect our business, results of operations, financial condition and prospects. In addition, should the prices of supplies increase significantly, we cannot assure you that we would be able to pass on any increase in purchase costs to our customers. Any substantial fluctuation in market prices of the supplies required in our operations may significantly increase our costs, resulting in us reducing, suspending or ceasing provision of certain types of services, thereby reducing our sales and profit.

 

Furthermore, we source BOTOX®, the only imported brand of botulinum toxin type A in China, from its exclusive licensed distributor in China. We experienced an increase of approximately 5.4% in the procurement price of BOTOX® from 2017 to 2020. We also source a domestic brand of botulinum toxin type A called Hengli. Although the price of Hengli historically remained flat, we cannot guarantee that a shortage of BOTOX® will not arise in the future, or our suppliers will not increase their prices. In the event that we are not able to source from these suppliers on commercially reasonable terms, or at all, our business, financial condition and results of operation will be adversely affected.

 

We may not be able to maintain proper inventory levels for our operations.

 

To ensure adequate inventory supply, we must forecast inventory needs and place orders with our suppliers based on our estimates of future demand for particular products. We may not be able to accurately forecast demand for supplies because of the difficulties of estimating the demand for our services. In 2018, 2019 and 2020, our average inventory turnover days were 32.2 days, 31.3 days and 30.4 days, respectively. The volatile economic environment and fast-evolving demands and preferences of our customers have made accurate projection of inventory levels increasingly challenging.

 

Inventory levels in excess of customer demand may result in inventory obsolescence, a decline in inventory values, inventory write-downs or write-offs, or expiration of products, which would cause our gross margin to suffer and could impair the strength of our brand. High inventory levels may also require us to commit substantial capital resources, preventing us from using them for other important business purposes. Conversely, if we underestimate customer demand or if our suppliers fail to provide supplies to us in a timely manner, we may experience inventory shortages. Such inventory shortages might result in unfilled customer needs, damage to our reputation, and have a negative impact on customer relationships and reduce our sales. We cannot assure you that we will be able to maintain proper inventory levels for our operations and such failure may have an adverse effect on our business, financial condition, results of operations and prospects.

 

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We depend significantly on the strength of our brand and reputation, and any damage to our brand or reputation could materially and adversely impact our business and results of operations.

 

Our brand and reputation are critical to our success in China’s rapidly growing aesthetic medical industry. We believe that our success and continued growth depends on the public perception of our brand name and our ability to protect and promote our brand name. Many factors which are important to help maintain and enhance our brand, are beyond our control and may negatively impact our brand and reputation. Such factors include:

 

·                  our ability to effectively control the quality of the services performed by our doctors and other medical staff, and to monitor the performance of such personnel as we continue to expand;

 

·                  our ability to maintain a convenient, standardized and reliable customer experience as customer preferences evolve and as we expand our service offerings; and

 

·                  our ability to increase brand awareness among existing and potential customers through various means of marketing and promotional activities.

 

Our failure to develop, maintain and enhance our brand and reputation may materially and adversely affect the level of market recognition of, and trust in, our services, which could result in decreased sales and loss of customers leading to a material adverse effect on our results of operations and cash flows.

 

In addition, allegations against us have appeared in online forums and news articles. These allegations have included claims of medical malpractice, dissatisfaction with treatment results, inappropriate sales tactics, arbitrary treatment service prices and the use of illegal pharmaceuticals. Any negative review, comment or allegation regarding our company, treatment centers or services by the media, our customers, our former employees or the public in the media or on online social networks may harm our brand, public image and reputation, which in turn may result in a loss of customers and business partners and have a material adverse effect on our business, financial condition, results of operations and prospects.

 

Furthermore, our customers may have expectations regarding the degree of improvement of their physical appearance resulting from our services. However, we cannot guarantee the results of our services since results vary depending on factors such as the medical history of our customers, their adherence to our pre-procedure and post-procedure instructions, their respective responses to procedures, unknown allergies and other factors beyond our control. It is also an inherent risk that the results of our services may lead to undesirable or unexpected outcomes, such as complications and injuries, or otherwise fail to meet our customers’ expectations. Such undesirable or unexpected outcomes may result in customer dissatisfaction, requests for refunds, or complaints, claims or legal actions against us, which may lead to negative publicity. Any negative publicity may adversely harm our brand image and reputation and cause a deterioration in the level of market recognition of and trust in our services, thereby resulting in decreased sales and potential loss of customers and business partners as well as physicians and staff, and therefore have a material adverse effect on our business, results of operations, financial condition and prospects.

 

We conduct our business in a heavily regulated industry and incur ongoing compliance costs as well as face penalties for non-compliance.

 

We conduct our business in a heavily regulated industry. The rules and regulations relate mainly to the licensing of treatment centers, the quality and the licensing of medical facilities, equipment and services, the pricing, procurement and usage of pharmaceuticals, and the licensing, practice and number of medical professionals. For more details, please see the section headed “Item 4. Information on the Company—4.B. Business Overview” in this annual report. Accordingly, our treatment centers are subject to periodic licensing renewal requirements and inspections by various government agencies and departments at the provincial and municipal level. In addition, any changes in laws and regulations could require us to obtain additional licenses, permits, approvals or certificates, impose additional conditions or requirements for the renewal of the licenses of the treatment centers, or result in the invalidation of our currently owned licenses.

 

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In the past, some of our treatment centers were subject to administrative warnings and penalties due to certain non-compliance incidents. Although we took measures to improve the internal control on the procurement of medical facilities, as a result of the growth in our operations and the increasing number of treatment centers we manage, as well as the tightened PRC laws for consumer protection, we have experienced, and will continue to experience, non-compliance incidents. For instance, several of our treatment centers were subject to administrative penalties due to their failure to comply with certain regulations on medical advertisements, and several of our treatment centers were subject to administrative penalties due to the medical professionals’ malpractice, operation beyond the permitted scope of licenses or without licenses, use of unqualified medical facilities or pharmaceuticals, use of expired disinfectant, non-compliance with regulations on disposal of medical waste, failure to evaluate occupational hazards, non-compliance with statistic regulations, non-compliance with fire protection regulations, failure to timely file the required annual report of certain treatment centers to the relevant local branch of the State Administration of Market Regulation, failure to meet standards of hygiene, failure to fulfill inspection requirements of the licensing and medical facilities, and non-compliance with tax regulations, failure to meet the standard of drafting and preservation of medical case record, non-compliance with regulations on prevention and handling of medical disputes and non-compliance with regulations on publicity of service items and fees. In addition, certain of our treatment centers may be subject to administrative penalties due to failure to comply with fire code and environmental regulations. Failure to comply with fire protection design review and inspection requirements could lead to the temporary closure of certain treatment centers. Also, certain information concerning some foreign doctors was published on the website of one of our treatment centers, which could have inadvertently created the impression that those foreign doctors were employed by us.

 

In addition, we have experienced incidents of non-compliance which did not result in administrative warnings or penalties but could adversely impact our reputation, create additional compliance costs for us or otherwise impair our business and operations. For example, while we require that all human placenta extract products procured and used in our treatment centers are domestically produced, registered by the China Food and Drug Administration, or the CFDA, and legally compliant, we have had instances in the past where certain of our treatment centers used imported human placenta extract products that were unregistered with the CFDA.

 

Furthermore, private healthcare facilities providing certain specialized medical procedures are subject to licensing requirement in Hong Kong. We may expand the scope of services offered in our clinic in Hong Kong and may be required to apply for a license in the future to continue such operations .

 

In June 2018, the business license of our treatment center in Shanghai was temporarily suspended for performing dental implants without the appropriate license, which we promptly rectified.

 

We cannot guarantee that any future incidents of non-compliance would not result in temporary or permanent suspension of any of the licenses, permits, approvals and certificates necessary for our business. If we fail to obtain or renew any necessary licenses, permits, approvals and certificates, or are found to be non-compliant with any of these laws, regulations or rules, we may be unable to provide relevant medical services, suffer reputational harm, face penalties, suspension of operations or even revocation of operating licenses or criminal liability, depending on the nature of the findings, any of which could materially and adversely affect our business, financial condition and results of operations.

 

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If we are unable to fully comply with PRC laws and regulations on medical advertisement, our brand image, results of operations and financial conditions could suffer significantly.

 

As a medical aesthetic service provider, we must comply with the PRC Advertisement Law, the PRC Administrative Measures on Medical Advertisement and other relevant advertising laws and regulations and constantly monitor our advertising content. According to the Administrative Measures on Medical Advertisement and the Notice on Further Strengthening the Administrative Measures on Medical Advertisement, or the Administrative Measures on Medical Advertisement, we must obtain a medical advertisement approval certificate before publishing any medical advertisement. The content in the published advertisement shall be consistent with what has been approved and recorded in the medical advertisement approval certificate. In addition, the Administrative Measures on Medical Advertisement explicitly stipulate that such medical advertisements shall not include any specific treatment method, any guarantees of the treatment, any name or image of any patient, any particular medical professional, nor use any medical research institution or its personnel or any public association or organization to suggest any treatment is valid. For violations of these laws and regulations, the PRC competent health administrative authority and Chinese medicine administrative authority may issue warnings and require remediation. If the violations are more severe, they may impose measures such as suspension of business until the violations have been remedied, revocation of the license for operating a particular medical department, or even revocation of the Medical Institution Practicing License. In addition, the competent administration for industry and commerce (now known as the administration for market regulation) may also suspend the business and the business licenses of institutions that are repetitive and serious offenders in accordance with the PRC Advertisement Law. See “Item 4. Information on the Company—4.B. Business Overview—Regulation—Regulations on medical advertising in the PRC.”

 

In the past, some of our treatment centers have received administrative penalties for non-compliance with these laws and regulations. For instance, several of our treatment centers have been penalized for publishing medical advertisements without having obtained relevant medical advertisement approval certificates, not strictly following the scope and manners as approved and recorded in the relevant medical advertisement approval certificates, and publishing medical advertisements with expressions explicitly prohibited by these laws and regulations, publishing medical advertisements without showing the relevant licensing number on the relevant medical advertisement approval certificate, or publishing medical advertisements with untrue or misleading expressions. The results of such non-compliance actions ranged from warnings, fines, deduction of medical institution practice points, suspension of publication of advertisements, remediation, reduction of adverse impact and withdrawal of advertisement, among other things. Any violation of these laws and regulations on medical advertisements, if material or not rectified, may subject us to administrative penalties, impair our brand image, and materially and adversely impact our business, financial condition, results of operations and prospects.

 

Our internal control system and compliance team may not be able to prevent all possible non-compliance incidents.

 

We are subject to a number of regulations pertaining to the licensing of our treatment centers, the quality and the licensing of medical facilities, equipment and services, the pricing and procurement and usage of pharmaceuticals, and the licensing, conduct and number of medical professionals. We have established internal control process intended to ensure all of our employees and contractors comply with the relevant laws and regulations applicable to us. However, we cannot assure you that such controls will be effective to prevent all instances of non-compliance. Any failure of our internal controls could have a material adverse effect on our business, financial condition and results of operations.

 

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We are subject to customer complaints, claims and legal proceedings in the regular course of our operations from time to time, which could result in significant costs and materially and adversely affect our brand image, reputation and results of operations.

 

We rely on our doctors and other medical staff in our treatment centers to make appropriate decisions regarding the treatment of our customers. However, we cannot assure you that every employee at our treatment centers will always act in accordance with the appropriate professional standard of care. Any deviation from the appropriate standard of care by our doctors and other medical staff, or any failure to properly manage our treatment centers’ activities, may result in unsatisfactory treatment outcomes, patient injuries or, in extreme cases, deaths. Given the nature of the aesthetic medical industry and subjectiveness of the level of satisfaction with services provided, we are also susceptible to other types of complaints associated with our services from time to time. These include claims relating to (i) dissatisfaction with our customer service, (ii) disputes over charges, (iii) over-promising of treatment outcome, (iv) dissatisfaction with post-treatment recovery periods, and (v) general dissatisfaction with treatment results. In addition, due to the fact that the number of procedures we performed has increased over the years as part of our growth, the absolute number of such complaints, allegations and other claims, regardless of merits, has increased and may continue to increase. Such complains, allegations and claims, if not managed properly, could have a material adverse effect on our reputation, business, results of operations, financial condition and prospects.

 

With respect to settlement of client complaints, customers generally accept complimentary gifts, refunds, services or supplemental operations at no additional cost to settle their complaints. However, we may also be required to pay monetary compensation to settle customer complaints and medical disputes. In 2016, we received a complaint from a customer who had received a hyaluronic acid injection treatment at one of our treatment centers and subsequently suffered from ocular ischemia syndrome and secondary retinal detachment in one eye. We entered into a settlement agreement with this customer in January 2017 and paid this customer RMB1.1 million in four monthly installments. In addition, we may be subject to third-party liability claims and may be required to pay compensation to patients who suffer from unexpected adverse reactions to treatment received in our treatment centers, even if we were not at fault. For example, one of our patients filed a complaint in connection with the patient falling into a state of prolonged unconsciousness after receiving a Botulinum Toxin Type A, or Botox, injection at one of our treatment centers and we were brought in as a third-party defendant. The court found that the primary cause of the incident was due to defects in the Botox, that there was no wrongdoing on our part, and that all the liabilities rested with the manufacturer of the Botox. Prior to the final court decision, we had voluntarily provided an aggregate of approximately RMB6.1 million as financial support for the patient out of concern for her well-being. We have filed a claim against the manufacturer to recover such amount and other losses incurred by us in connection with the incident, but the final verdict is yet to be delivered. In addition, as of the date of this annual report, we were named as the defendant in three ongoing litigations and 15 ongoing labor dispute arbitration in the PRC. While we believe many of the claims against us do not have merits, and plan to firmly defend our rights, we cannot assure that we will be able to achieve satisfactory outcome in those proceedings. The maximum amount of the damages claimed by the plaintiffs in those three proceedings in aggregate amounted to RMB9.8 million. Furthermore, some dissatisfied customers may even resort to extreme actions. For example, in 2012, a dissatisfied patient stabbed and injured several employees at our Pengcheng Hospital. To our knowledge, this patient was later convicted and imprisoned. We voluntarily paid approximately RMB150,000 for medical expenses and additional compensation to the injured employees.

 

We may be subject to similar customer complaints, serious incidents or lawsuits in the future and may not successfully prevent or address all customer complaints in the future. Any complaint, claim or legal proceeding, regardless of merit, if widely disseminated, could affect our corporate image and reputation in the industry, divert management resources and cause us to incur extra costs to handle these complaints and litigation matters. A settlement or successful claim against us can also result in significant costs, damages, compensation and reputational damage and adversely affect our business, results of operations and financial condition.

 

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If we are unable to recruit and retain an adequate number of managers, doctors, nurses, image consultants and other support staff in our treatment centers, our service quality and business strategy may suffer.

 

Our performance is largely dependent on the talent and efforts of highly skilled medical professionals. Our future success will in part depend on our ability to identify, hire and retain highly qualified medical professionals of all areas of our treatment centers. The recruitment of qualified physicians is competitive in the PRC due to their shortage. The near-term supply of specialist physicians is limited due to the length of training required, including academic study and clinical training, which can take more than eight years for certain medical specialties, as well as additional certification and licensing requirements for certain specialties. Competition for such qualified professionals is intense. We believe that physicians generally consider the following key factors when selecting medical institutions to join: reputation and culture, the efficiency of hospital management, the quality of facilities and support staff, the number of patient visits, compensation, training programs and location. Our treatment centers may not effectively compete with other aesthetic medical treatment centers or clinics in hiring qualified professionals. We use physicians who also practice at other hospitals or treatment centers, as PRC regulations allow licensed physicians to register and practice at multiple medical institutions in the same provincial administrative area. If the PRC government imposes restrictions on such practice in the future, we may not be able to retain our current base of multi-site practice physicians. If we are unable to successfully recruit or retain seasoned and qualified physicians, our business, financial condition and results of operations may be adversely affected.

 

Our success is also dependent on our ability to recruit and retain qualified medical institution administrators and medical professionals. It has become increasingly costly to recruit and retain medical professionals in recent years and there is no guarantee that we will be able to recruit and retain sufficient medical professionals in the future. If we do not succeed in attracting an appropriate number of qualified treatment center managers, nurses, image consultants or other support staff, our service quality and our ability to execute our business strategy may suffer. A shortage of skilled professionals could also require us to pay higher wages, which would reduce our profits and have a material and adverse effect on our operating results and financial performance.

 

If our physicians and other medical professionals do not obtain and maintain appropriate licenses, we may be subject to penalties against our treatment center, which could adversely affect our business.

 

Medical practice in China is strictly regulated. Physicians, nurses and medical technicians who practice at medical institutions must hold practicing licenses and may only practice within the scope of their licenses and at the specific medical institutions at which their licenses are registered. Please see “Item 4. Information on the Company—4.B. Business Overview—Regulation” for more details. In practice, it takes some time for physicians, nurses and medical technicians to transfer their licenses from one medical institution to another or add any further service scope or another medical institution to their permitted practicing institutions. From time to time, some of our physicians, nurses and other medical professionals could be required to make such amendments to their licenses due to changes to the location or nature of their work. We cannot assure you that all of our medical professionals have completed the transfer of their licenses and related government procedures in a timely manner or at all. In addition, we cannot assure you that our physicians, nurses and other medical professionals will always strictly follow the requirements and will not practice outside the permitted scope of their respective licenses. Our failure to properly manage the employment of our physicians, nurses and other medical professionals may subject us to administrative penalties against our treatment centers, which could adversely affect our business.

 

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We may fail to maintain the quality of the pharmaceuticals, medical equipment, medical supplies, injection materials, skincare products, implants and consumables we use. If these products do not meet the required standards, we could be exposed to liabilities and our business operations and reputation could suffer.

 

Although we have adopted a series of measures for selecting suppliers, such as maintaining and updating a list of qualified suppliers, we cannot guarantee that all of the pharmaceuticals, medical equipment, medical supplies, injection materials, skincare products, implants and consumables we use are free of defects or substantially meet the relevant quality standards. We were involved in a lawsuit related to one of our patients who suffered severe complications after receiving a Botox injection at one of our treatment centers. Although the court found that all liability rested with the manufacturer, we cannot assure you that similar incidents will not occur in the future, or that such incidents will not materially and adversely affect us. Moreover, we launched new skincare products called The Four Beauty in January 2020, which are manufactured by a third party and sold in our treatment centers. If the products provided by our suppliers are defective, of poor quality, or cause any adverse drug reaction, we could be subject to liability claims, complaints or related adverse publicity that could result in the imposition of penalties or even suspension of licenses by relevant authorities or compensation awarded by courts against us. We may also need to find suitable replacement products, which may lower our profit margins and result in delays in services to our customers.

 

Our suppliers are also subject to extensive laws and regulations. If our suppliers violate applicable laws and regulations, our reputation or procurement may be materially and adversely affected. PRC laws and regulations require us to procure materials from qualified suppliers, with requisite licenses, permits or filings to operate their business. We cannot ensure that all of our suppliers maintain all the licenses required or the validity of their licenses at all times. We have been fined with insignificant amounts by regulators in the past for failure to maintain proper records of our suppliers’ qualification expiration dates. It is possible we may in the future fail to comply with this requirement if, for example, our suppliers lose appropriate qualifications without our knowledge, which could result in penalties and fines. See “Item 4. Information on the Company—4.B. Business Overview—Regulation.” In addition, we may be exposed to reputational damage or even liabilities for defective goods provided by our suppliers or negative publicity associated with our suppliers, and our results of operations could suffer as a result.

 

Our business, financial condition, results of operations and prospects may be adversely affected by an unfavorable market perception of the overall aesthetic medical industry.

 

Aesthetic medical services have been gaining popularity in recent years. However, many consumers remain cautious about the risks inherent in aesthetic medical procedures. Media influences, peer perceptions, research indicating adverse health effects of aesthetic medical procedures or otherwise could lead to deterioration in the market perception of aesthetic medical treatments and to less demand for aesthetic medical services. In addition, if any allegation surfaces in the media or in social media forums of any accident, ineffectiveness of treatment, poor service standards or mishandling of sensitive personal information by any operator of aesthetic medical services, regardless of merit, the entire aesthetic medical industry and any industry participant including us could experience reputational harm. Our business, financial condition, results of operations and prospects may be materially and adversely affected as a result.

 

We face intense competition, and if we do not compete successfully against new or existing competitors, we may lose our market share and our profitability may be adversely affected.

 

We compete with private aesthetic hospitals and clinics and aesthetic medical departments in public general hospitals located in the same geographic areas as our treatment centers. We will also compete with future market entrants as the rapid growth of the aesthetic medical industry in the PRC may attract more domestic or international players to enter. Some of our existing and potential competitors may have competitive advantages, such as significantly greater financial, marketing or other resources and may be able to mimic and adopt our business model. We compete for customers primarily on the basis of location, price, the range and the quality of services that we offer and our brand name. We cannot assure you that we will be able to successfully compete against new or existing competitors. Any inability to successfully compete with new or existing competitors may prevent us from increasing or sustaining our revenue and profitability level and result in a loss of market share.

 

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If we are unable to adapt to changing aesthetic medical trends and our customers’ changing needs, we will not be able to compete effectively, which may materially and adversely affect our business, financial condition and results of operations.

 

The aesthetic medical market requires us to closely monitor the trends in the market and the needs of our customers, which may require us to introduce new products, technologies, devices, solutions, service categories and treatment procedures and enhance our existing services and procedures. We have active dialogue and exchange of information with experts from well-respected aesthetic medical institutions overseas such as the United States, Europe, Singapore, Japan and South Korea to learn and adopt aesthetic medical solutions, standards and technologies. We must maintain strong relationships with leading overseas aesthetic medical institutions to ensure that we are accessing the latest technology and quickly and cost-effectively responding to our customers’ changing needs. We may be required to incur development and acquisition costs to keep pace with new technologies, implement technological innovations or to replace obsolete technologies. If we fail to identify, develop and introduce new products, solutions, service categories, features, enhancements and technologies on a timely and cost-effective basis, demand for our services may decrease and we may not be able to compete effectively or attract customers, which may materially and adversely affect our business and results of operations.

 

Our revenue is particularly sensitive to changes in economic conditions.

 

Demand for our aesthetic medical services and the resulting spending by our customers are particularly sensitive to changes in general economic conditions and our customers’ disposable incomes. We cannot assure you that the local economy in the places where we operate can sustain stable growth in consumer spending. In response to an actual or perceived economic downturn, people may reduce their spending on aesthetic medical services, which may materially and adversely affect our ability to generate revenue from these services, and our financial condition and results of operations.

 

If we are unable to manage our growth effectively, we may not be able to capitalize on new business opportunities and our business and financial results may be materially and adversely affected.

 

We have significantly expanded our business in the past few years. Out of our existing network of 28 treatment centers, we have established 11 treatment centers, acquired 11 treatment centers, and obtained minority stakes in one treatment center since January 2014. Our organization may become larger and more complex with the addition of treatment centers in the future. Our expansion may require a significant amount of time from our management and substantial operational, financial and other resources.

 

To manage our growth and expansion, and to attain and maintain profitability, we will continue to place significant demands on our management and on our administrative, operational and financial personnel and infrastructure. Our success also depends on our ability to recruit, train and retain additional qualified management personnel and professionals as well as other administrative, sales and marketing personnel. To accommodate our growth, we need to continue managing our relationships with our suppliers and customers. All of these endeavors will require substantial management attention and effort and significant additional expenditure. We cannot assure you that we will be able to manage any future growth effectively and efficiently, and any failure to do so may materially and adversely affect our ability to capitalize on new business opportunities, which in turn may have a material adverse effect on our business and financial results.

 

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We have operations outside of China and intend to expand our international operations, which exposes us to significant risks.

 

We currently have operations throughout China and our network also covers Hong Kong and Singapore. Our business strategy includes further expanding our operations into new markets outside of China. Our company may become larger and more complex with our intended plans to expand into new geographic areas, through a combination of acquisitions and organic growth. The success of our business therefore depends, in large part, on our ability to operate successfully from geographically disparate locations and to further expand our international operations and sales. Operating in international markets requires significant resources and management attention and subjects us to regulatory, economic and political risks that are different from those that we face in the China. We cannot assure you that further international expansion will be successful. For example, we entered into an agreement in February 2019 for an investment in LZP Holding, Inc., or LZP, which owns and operates five plastic surgery centers in California. Under the terms of the agreement, we will invest US$5 million for a 20% equity stake in LZP consisting of US$4 million in cash for LZP’s shares and a further US$1 million in promissory notes secured against LZP’s shares, repayable either in shares or in cash. In addition, we have an option to acquire a further 20% equity stake under the same terms, subject to the completion of a re-financing of LZP. However, LZP failed to meet the closing conditions. Although LZP returned our prepayment after termination of the agreement and currently no dispute has arisen therefrom, this investment did not yield returns as we originally planned.

 

Among the risks we believe are most likely to affect us include:

 

·                  lack of control, difficulties, inefficiencies and costs associated with staffing and managing foreign operations;

 

·                  greater difficulty collecting accounts receivable and longer payment cycles;

 

·                  compliance with local laws and regulations and unexpected changes in regulatory requirements;

 

·                  reduced protection for intellectual property rights in some countries;

 

·                  the effectiveness of our policies and procedures designed to ensure compliance with similar anti-corruption, anti-money laundering, and sanction laws;

 

·                  potential distraction of management from our China operations;

 

·                  possible tariffs and trade restrictions;

 

·                  foreign taxes;

 

·                  fluctuations in currency exchange rates;

 

·                  natural disasters, contagious disease outbreaks, travel restrictions, and war or terrorist activities; and

 

·                  political and economic instability.

 

Our failure to manage any of these risks successfully could harm our operations, reduce our revenue, and have other adverse effects on our operating results.

 

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Execution of our strategies to grow our business depends on our ability to successfully expand into new geographic areas in a timely, cost-effective and non-disruptive manner.

 

Execution of our strategies to grow our business depends partly on our ability to expand into new geographic areas in a timely, cost-effective and non-disruptive manner, through a combination of acquisitions and organic growth. Our ability to successfully expand into new markets depends on many factors including, among others, our ability to:

 

·                  identify suitable geographic markets for the type of services we offer;

 

·                  identify local consumer preferences;

 

·                  address local market competition;

 

·                  negotiate acceptable lease terms, including desirable tenant allowances;

 

·                  hire, train and retain a growing workforce of doctors and other personnel;

 

·                  successfully integrate new treatment centers into our existing control structure and operations, including our information technology systems; and

 

·                  secure financing or maintain sufficient capital to invest in new treatment centers or making acquisitions.

 

If we fail to expand into new markets in a timely and cost-effective manner, whether through organic growth or through acquisitions, our overall business growth strategy and prospects could be materially and adversely affected.

 

We may be unable to identify or execute acquisition opportunities, businesses we acquire may have unknown or contingent liabilities, and we may not realize the benefits we anticipate from such acquisitions, which may materially and adversely affect our business, financial condition, results of operations and prospects.

 

Our success depends on our ability to continually enhance and broaden our service offerings in response to changing customer demands, competitive pressures and innovation. We may consider opportunities to partner with or acquire other businesses, products or technologies that may enhance our services platform or technology, expand the breadth of our operations or customer base or advance our business strategies. We may not be able to identify suitable targets for acquisition, or negotiate commercially acceptable terms for acquisitions. Even if we are able to identify suitable targets, such acquisitions can be difficult, time consuming and costly and we may not be able to secure necessary financing for the acquisitions. Businesses that we acquire may have unknown or contingent liabilities, including liabilities for failure to comply with relevant laws, rules and regulations. In acquiring the treatment centers, we typically require sellers to indemnify us for any claims and liabilities that are in connection with or arise from a time prior to our acquisitions.

 

However, we could suffer reputational harm for actual or alleged inferior service or harm that occurred at treatment centers prior to our acquisition and need to respond to claims initially as unsatisfied customers will likely pursue their claims against the treatment centers and us. Depending on the circumstances of the sellers, the indemnities we receive from them may not be sufficient or forthcoming, due to bankruptcy or disappearance of sellers or otherwise. Historically, certain entities we acquired failed to comply with certain regulations and the sellers did not provide sufficient indemnities. As a result, we may be liable for historical defects. Even if we have received indemnities, our reputation may be harmed because of the sellers’ historical defects. We maintain contact with the sellers of the treatment centers we acquired post acquisitions. Some of the sellers of our acquired treatment centers remain as minority shareholders of these subsidiaries. Moreover, any financial mitigation we receive from sellers of these treatment centers may not mitigate against any reputational harm we may suffer as a result of these claims. In addition, future acquisitions and subsequent integration of newly acquired assets and businesses into our own could be expensive and time-consuming, require significant attention from our management and could result in a diversion of resources from our existing business, which in turn could have an adverse effect on our business operations. Acquired assets or businesses may not generate the financial results we expect. If we are not able to identify, capture or execute opportunities to expand our operations successfully through acquisitions, or suffer reputational or financial harm caused by unknown or contingent liabilities of the treatment centers we acquire, our business, financial condition, results of operations and prospects could be materially and adversely affected.

 

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Newly opened and acquired treatment centers may not achieve operating results as anticipated, which could materially and adversely affect our results of operations.

 

It typically takes newly opened and acquired treatment centers a period of time to achieve a utilization rate comparable to our existing treatment centers, due to factors such as time needed to build customer awareness in the local community and to integrate new treatment centers’ operations into our existing infrastructure. The treatment centers we acquired did not or may not achieve the business or financial performance as we expect. The opening and acquisition of new treatment centers involve regulatory approvals and reviews by various authorities in China, including health authorities. We may not be able to obtain all the required approvals, permits or licenses for opening and acquisitions of treatment centers in a timely manner or at all. We may not be able to fully utilize the newly opened and acquired treatment centers as anticipated due to our inability or material delay in obtaining the required approvals, permits or licenses and any substantial increase in costs to ramp up operations and utilization. In addition, the operating results generated at the newly opened and acquired treatment centers may not be comparable to the operating results generated at any of our existing treatment centers. The treatment centers may even operate at a loss, which could materially and adversely affect our results of operations. We may elect to dispose of the acquired treatment centers subsequently and recognize losses. For example, we entered into an agreement to purchase a 51% equity interest of Hanfei on July 14, 2020 but subsequently entered into an agreement to dispose of the 51% equity interest of Hanfei on December 25, 2020. The disposal was due to the slower than expected recovery from COVID-19 and the overall less than satisfactory performance of Hanfei during the post-acquisition period. Please see “Item 5. Operating and Financial Review and Prospects—5.A. Operating Results—Factors affecting our results of operations—Our expansion through organic growth and acquisitions.” As a result, our results of operations may fluctuate from year to year. Therefore, period-to-period comparisons of our operating results may not be meaningful and you should not rely on them to predict our future performance or the price of our ADSs.

 

We are dependent on certain key members of our senior management and other key employees, and our business, financial condition, results of operations and prospects will suffer greatly if we lose their services.

 

We are dependent on certain key members of our senior management team, some of whom have been with us since our inception, to manage our current operations and meet future business challenges. In particular, we rely on the expertise, experience and leadership of Dr. Zhou Pengwu, our chairman and chief executive officer and Ms. Ding Wenting, our vice-chairwoman and spokesperson.

 

We do not maintain key personnel insurance. Competition for competent candidates in the industry is intense and the pool of competent candidates is limited. The loss of any key members of our senior management team could materially disrupt our operations and delay the implementation of our business strategies. In addition, we may not be able to locate suitable or qualified replacements, and may incur additional expenses to recruit and train new personnel, which could severely limit our business and growth. In addition, if any member of our senior management team or key employees joins a competitor or forms a competing business, we may lose know-how, trade secrets, customers and key professionals and staff. We have entered into employment agreements, confidentiality and non-compete agreements with all of the key members of our management team. We cannot assure you, however, the extent to which any of these agreements will be enforceable under the applicable laws. For more details, see “—Risks relating to doing business in the PRC—Uncertainties with respect to the PRC legal system and changes in laws, regulations and policies in China could materially and adversely affect us.” If, as a result of similar incidents, or events, we may lose the services of key members of our senior management, which could have a material adverse effect on our business, financial condition and results of operations.

 

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We may not be able to adequately protect our intellectual property rights, which could harm our brand and our business.

 

We believe our trademarks and other intellectual property rights are crucial to our success. Our principal intellectual property rights include our trademarks for the “Pengai” brand. Although we rely on the registration of trademarks and applicable laws to protect our intellectual property rights, these measures may not be sufficient to prevent misappropriation of our intellectual property rights. There is no assurance that third parties will not infringe on our intellectual property rights. Our efforts to enforce or defend our intellectual property rights may not be adequate, may require significant attention from our management and may be costly. We may have to initiate legal proceedings to defend the ownership of our trademarks or brand against any infringement by third parties, which may be costly and time-consuming, and we might be required to devote substantial management time and resources in an attempt to achieve a favorable outcome. Furthermore, the outcome of any legal actions to protect our intellectual property rights may be uncertain. If we are unable to adequately protect or safeguard our intellectual property rights, our business, financial condition, results of operations and prospects may be adversely affected.

 

In addition, as permitted by the PRC laws, other parties may register trademarks which may look similar to our registered trademarks under certain circumstances, which may cause confusion among consumers. We may not be able to prevent other parties from using trademarks that are similar to ours and our consumers may confuse our treatment centers with others using similar trademarks. In such case, the goodwill and value of our trademarks and the public perception of our brand and our image may be adversely affected. A negative perception of our brand and image could have a material and adverse effect on our sales, and therefore on our business, financial condition, results of operations and prospects.

 

Our business is subject to seasonality.

 

Our operating results are exposed to seasonal fluctuations in demand for our services. We usually experience relatively higher customer visits in the second half of each financial year, which is mainly because (1) customers tend to come to our treatment centers and receive our services in summer, which leads to an increased number of procedures performed in the second half of the year; and (2) we also experience a higher number of customer visits for the period from October to December, primarily due to the Chinese National Day holiday, Christmas, and in anticipation of the subsequent New Year and Chinese New Year holidays. As such, our revenue is usually slightly higher in the second half of the year.

 

Our historical financial and operating results may not be indicative of future performance, and we may not be able to achieve and sustain the historical level of revenue and profitability.

 

Our historical results may not be indicative of future performance. Our financial and operating results may not meet the expectations of public market analysts or investors, which could cause the price of the ADSs to decline. Our revenue, cost, expenses and operating results may vary from period to period in response to a variety of factors beyond our control, including general economic conditions, new trends in the aesthetic medical market and our ability to control costs and operating expenses. Our operations largely depend on our ability to retain current customers and attract new ones, encourage more spending by our customers, continue adopting innovative technologies and introducing new services in response to customer demand, increase brand awareness through marketing and promotional activities and take advantage of any growth in the relevant markets. We cannot assure you that we will achieve any of them in the future. We believe that period-to-period comparisons of our operating results in the past may not be indicative of our future performance and you should not rely on them to predict the future performance of our operating results or ADSs.

 

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Landlords’ lack of required permits, failure to renew leases, failure to fulfill the procedure of leasing or substantial increases in rents may materially and adversely affect our business and financial performance.

 

Most real estate for our treatment centers is leased. The availability of commercially attractive locations for our treatment centers is important to our business. Upon the expiry of each of the lease agreements, we have to negotiate terms of renewal with the relevant landlord. As there has been a general increase in rent for commercial properties in the PRC in recent years, and as a majority of our treatment centers are located on premises leased from independent third parties in central urban locations, there is no guarantee that we can renew the leases or negotiate new leases on similar or favorable terms (including, without limitation, on similar tenure and with similar rent) in the future, if at all, or that the leases will not be terminated early by the landlords. In the event that we are required to seek alternative locations for our treatment centers, there is no guarantee that we can secure comparable locations or negotiate leases on comparable terms. In addition, the use of certain of our leased buildings is inconsistent with the permitted use of such buildings or such land and some landlords or lessors did not obtain sufficient approvals, permits and registrations from the governmental authorities and the other third parties. If any challenge from any government authority or a third party arises, our lease agreement may be invalidated and we may also be required to relocate our operations. Furthermore, certain of our lease agreements have not been filed with the PRC authorities, which may subject us to fines if the relevant PRC authority requires us to rectify and we fail to do so within a specified period of time. In addition, certain of our leased properties are subject to mortgage. We may be forced to relocate in the event that the mortgagees are entitled to exercise their rights under the relevant mortgages. If we were forced to relocate, we might not be able to relocate to desirable locations in a timely and cost-effective manner. All these factors may have an adverse impact upon our business operation, financial position and our future potential growth.

 

We are not in full compliance with social insurance, housing provident funds and income tax contributions.

 

We are required to make social insurance, housing provident funds and income tax contributions for the benefit of employees of our PRC subsidiaries under PRC laws and regulations. Our PRC subsidiaries have not made social insurance, housing provident funds and income tax contributions in full for all of their employees. Companies operating in the PRC are also required to withhold individual income tax on employees’ salaries based on the actual salary of each employee upon payment. Our PRC subsidiaries have not fully withheld the individual income tax in accordance with the relevant PRC laws and regulations.

 

Under the relevant PRC laws and regulations, the relevant PRC authorities may determine that we need to make supplemental social insurance and housing fund contributions and that we are subject to fines, supplementary payment and legal sanctions in relation to our failure to make social insurance and housing fund contributions in full for our employees, in which case our business, financial position or operation may be adversely affected. With respect to the underwithheld individual income tax, we may be required by relevant PRC authorities to make up sufficient withholding and pay late fees and fines. In addition, some of our PRC subsidiaries make social insurance for employees of other PRC subsidiaries, in which case we are subject to fines and adverse record on our credit files. If so, our business, financial position or operation may be adversely affected.

 

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Our business is subject to professional and other liabilities for which we may not be insured.

 

We are exposed to potential liabilities that are inherent to the aesthetic medical and healthcare industries. Our treatment centers have been the subject of such claims in the past. As of the date of this annual report, we maintain professional malpractice liability insurance for key doctors and medical staff in most of our aesthetic medical treatment centers. However, we may face liabilities that exceed our available insurance coverage or arise from claims outside the scope of our insurance coverage. For example, although the scope of our insurance generally covers all of the treatments and services we provide, from time to time, we have commenced operations at new treatment centers before those centers were added to our group insurance coverage package. As a result, the operations at those centers temporarily exceeded the scope of our insurance coverage while we worked with our insurers to extend coverage to those centers. In 2018, 2019 and 2020, revenue generated from our operations at treatment centers while outside the scope of our insurance coverage amounted to 2.2%, 0.8% and 8.6% of our total revenue, respectively. In 2018, 2019 and 2020, we incurred costs of RMB1.5 million, RMB2.0 million and RMB0.6 million (US$0.1 million), respectively, in connection with settlements which were not covered by our insurance. Our insurance policies are subject to annual renewal and we may not be able to obtain malpractice insurance in the future on acceptable terms or at all. In addition, our insurance premiums could be subject to increases in the future, which may be material. If the coverage limits are inadequate to cover our liabilities or our insurance costs continue to increase as a result of liability claims or other litigation, then our business, financial condition and results of operations may be adversely affected.

 

We could be exposed to risks related to our management of customers’ medical data.

 

Our treatment centers collect and maintain medical data and treatment records of our customers. PRC laws and regulations generally require medical institutions and their medical personnel to protect the privacy of their customers and prohibit unauthorized disclosure of personal information. Such medical institutions and their medical personnel will be liable for damage caused by divulging the customers’ private or medical records without consent. We have taken measures to maintain the confidentiality of our customers’ medical records, including encrypting such information in our information technology system so that it cannot be viewed without proper authorization and setting internal rules requiring our employees to maintain the confidentiality of our customers’ medical records. However, these measures may not always be effective in protecting our customers’ medical records. Our information technology systems could be breached through hacking. Personal information could be leaked due to any theft or misuse of personal information due to misconduct or negligence. In addition, although we do not make the customers’ medical records available to the public, we use such data on an aggregated basis after redacting personally identifiable information for marketing purposes.

 

We are subject to governmental regulation and other legal obligations related to the protection of personal data, privacy and information security in the regions where we do business, and there has been and may continue to be a significant increase in such laws that restrict or control the use of personal data. See “Item 4. Information on the Company—B. Business Overview—Regulations—Overview of the Laws and Regulations Relating to Our Business and Operations in China—Regulations on Privacy.” In China, the Personal Information Security Specification, or China Specification, came into force on May 1, 2018.

 

On October 21, 2020, the Standing Committee of the National Peoples’ Congress issued a Draft Personal Information Protection Law, or the Draft Personal Information Protection Law, which integrates the scattered rules with respect to personal information rights and privacy protection.  The Draft Personal Information Protection Law aims at protecting the personal information rights and interests, regulating the processing of personal information, ensuring the orderly and free flow of personal information in accordance with the law and promoting the reasonable use of personal information. Personal information, as defined in the Draft Personal Information Protection Law, refers to information related to identified or identifiable natural persons and is recorded by electronic or other means but excluding the anonymized information. The Draft Personal Information Protection Law provides the circumstances under which a personal information processor could process personal information, which include but not limited to, where the consent of the individual concerned is obtained and where it is necessary for the conclusion or performance of a contract to which the individual is a contractual party. It also stipulates certain specific rules with respect to the obligations of a personal information processor, such as to inform the purpose and method of processing to the individuals, and the obligation of the third party who has access to the personal information by way of co-processing or delegation. The SCNPC is still soliciting comments on this draft and substantial uncertainties exist with respect to its enactment timetable, interpretation and implementation. Although we will continue to take measures to comply with requirements on protection of personal data, privacy and information security under laws and regulations promulgated in future from time to time, we cannot assure you that measures we have taken or will take in the future will be effective or fully satisfy the relevant regulatory authorities’ requirements, and any failure or perceived failure by us to comply with such laws and regulations may result in governmental investigations, fines and/or other sanctions on us. 

 

The relevant regulatory authorities in China continue to monitor the websites and apps in relation to the protection of personal data, privacy and information security, and may impose additional requirements from time to time. The relevant regulatory authorities also release, from time to time, their monitoring results and requires relevant enterprises listed in such notices to rectify their non-compliance. There are uncertainties as to the interpretation and application of laws in one jurisdiction which may be interpreted and applied in a manner inconsistent to another jurisdiction and may conflict with our current policies and practices or require changes to the features of our business and operation. If we are unable to address any information protection concerns, any compromise of security that results unauthorized disclosure or transfer of personal data, or to comply with the then applicable laws and regulations, we may incur additional costs and liability and result in governmental enforcement actions, litigation, fines and penalties or adverse publicity and could cause our users and clients to lose trust in us, which could have a material adverse effect on our business, results of operations, financial condition and prospects. We may also be subject to new laws, regulations or standards or new interpretations of existing laws, regulations or standards, including those in the areas of data security and data privacy, which could require us to incur additional costs and restrict our business operations.

 

Although we believe our current usage of customers’ medical records is in compliance with applicable laws and regulations governing the use of such information, any change in such laws and regulations could affect our ability to use medical data and subject us to liability for the use of such data. Failure to protect customers’ medical records, or any restriction on or liability as a result of, our use of medical data, could have a material adverse effect on our business.

 

A technological failure, security breach or other disruptions of our computer network infrastructure and centralized information technology systems may interrupt our business.

 

Our computer network infrastructure and information technology systems are critical for our operation, such as billing, financial and budgeting data, customer records and inventory. We regularly maintain, upgrade and enhance the capabilities of our information technology systems to meet operational needs. Any failure associated with our information technology systems, including those caused by power disruption or loss, natural disasters, computer viruses or hackers, network failures or other unauthorized tampering, may cause interruptions in our ability to provide services to our clients, keep accurate records, and maintain proper business operations, which may adversely affect our business, financial condition and results of operations.

 

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In addition, a variety of our software systems are hosted by third-party service providers whose security and information technology systems are subject to similar risks. The failure of our or our service providers’ information technology could disrupt our entire operation or result in decreased sales, increased overhead costs and product shortages, all of which could have a material adverse effect on our reputation, business, financial condition, results of operations and prospects.

 

The significant amount of advertising and marketing expenses spent on enhancing our brand awareness may not be effective and may adversely affect our results of operations.

 

We plan to enhance our brand recognition among our existing and target customers along with our expansion into new geographic areas. Our sales and marketing strategies are key to enhancing our brand awareness. In connection with our strategic expansion into new markets, we normally increase advertising of our brand through various advertising media platforms, which requires significant expenses before these newly opened treatment centers reach expected profit levels, thereby affecting our overall profitability. In 2018, 2019 and 2020, our advertising and marketing expenses were RMB245.9 million, RMB303.9 million and RMB380.8 million (US$58.4 million), respectively. We expect the trend of increased advertising and marketing spending to continue as we spend on an increasingly diverse array of online and mobile search engines, marketing and social media platforms. If we do not adequately spend on such platforms, or effectively select or utilize the right platforms, we may not generate the desired result from our advertising spending. Moreover, it may take months or several years to implement our sales and marketing strategies and such time is hard to predict. As a result, we cannot guarantee that our marketing spending or the marketing strategies we have adopted or plan to adopt will have their anticipated effect or generate sustainable revenue and profit.

 

If we fail to maintain and further develop our direct sales force and partner networks, our business could suffer. Additionally, our third-party partners may not effectively promote our services or may engage in activities that could harm our reputation and sales of our products and services.

 

We rely on our direct sales force and partner networks to generate sales, including referral arrangements with businesses in the beauty industry such as hairdressers. However, if we fail to maintain or develop our sales force and partner networks, or if any of our partners are ineffective in promoting our services or engage in activities that harm our reputation, it could have a material adverse effect on our ability to generate sales, which could have a material adverse effect on our business, financial condition and results of operations.

 

We may grant employee share options and other share-based compensation awards in the future. Any additional grant of employee share options and other share-based compensation awards in the future may have a material adverse effect on our results of operations.

 

We have adopted and may in the future adopt employee share option plans for the purpose of granting share-based compensation awards to our employees, officers, directors and other eligible persons to incentivize their performance and align their interests with ours. For more information on these share incentive plans, see “Item 6. Directors, Senior Management and Employees—6.B. Compensation—Share Incentive Plan” and “Item 6. Directors, Senior Management and Employees—6.B. Compensation— Performance Incentive Plan.” As a result of these grants and potential future grants, we expect to continue to incur significant share-based compensation expenses in the future. We are required to account for share-based compensation in accordance with IFRS 2—Share-based Payment, which generally requires a company to recognize, as an expense, the fair value of share options and other equity incentives to employees based on the fair value of equity awards on the date of the grant, with the compensation expense recognized over the period in which the recipient is required to provide service in exchange for the equity award. If we grant options or other equity incentives in the future, we could incur significant compensation charges and our results of operations could be adversely affected. The expenses associated with share-based compensation will decrease our profitability, and the additional awards issued under share-based compensation plans will dilute the ownership interests of our shareholders, including holders of our ADSs. However, if we limit the scope of our share-based compensation plan, we may not be able to attract or retain key personnel who expect to be compensated by such share-based awards.

 

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A material weakness was identified in our internal control over financial reporting. If we fail to develop and maintain an effective system of internal control over financial reporting, we may be unable to accurately report our financial results or prevent fraud and our ability to comply with applicable regulations could be impaired.

 

Our management conducted an assessment of the effectiveness of our internal control over financial reporting as of December 31, 2020. In making this assessment, it used the criteria established within the Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) (2013 framework). Based on this assessment, our management has concluded that, as of December 31, 2020, our internal control over financial reporting was not effective. We and our independent registered public accounting firm identified one material weakness in our internal control over financial reporting. The material weakness identified was related to a lack of an effective control procedure to evaluate accounting of complex non-routine transactions.

 

As defined in the standards established by the U.S. Public Company Accounting Oversight Board, a “material weakness” is a deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the annual or interim financial statements will not be prevented or detected on a timely basis.

 

The material weakness identified related to a lack of an effective control procedure to evaluate accounting of complex non-routine transactions. Following the identification of the material weakness, we have taken measures and plan to continue to take measures to remedy the material weakness. See “Item 15. Control and Procedures— Management’s Annual Report on Internal Control over Financial Reporting.” However, the implementation of these measures may not fully address the material weakness in our internal control over financial reporting, and we cannot conclude that it has been fully remedied. Our failure to correct the material weakness or our failure to discover and address any other control deficiencies could result in inaccuracies in our financial statements and impair our ability to comply with applicable financial reporting requirements and related regulatory filings on a timely basis. Moreover, ineffective internal control over financial reporting could significantly hinder our ability to prevent fraud.

 

We are a public company in the United States and are subject to the Sarbanes-Oxley Act of 2002. Section 404 of the Sarbanes-Oxley Act, or Section 404, requires that we include a report from management on the effectiveness of our internal control over financial reporting in our annual report on Form 20-F beginning with our annual report for the fiscal year ended December 31, 2020. In addition, once we cease to be an “emerging growth company” as such term is defined in the JOBS Act, our independent registered public accounting firm must attest to and report on the effectiveness of our internal control over financial reporting. Our management may conclude that our internal control over financial reporting is not effective. Moreover, even if our management concludes that our internal control over financial reporting is effective, our independent registered public accounting firm, after conducting its own independent testing, may issue a report that is qualified if it is not satisfied with our internal controls or the level at which our controls are documented, designed, operated or reviewed, or if it interprets the relevant requirements differently from us. In addition, a public company’s reporting obligations may place a significant strain on our management, operational and financial resources and systems for the foreseeable future. We may be unable to timely complete our evaluation testing and any required remediation.

 

During the course of documenting and testing our internal control procedures, in order to satisfy the requirements of Section 404, we may identify other weaknesses and deficiencies in our internal control over financial reporting. In addition, if we fail to maintain the adequacy of our internal control over financial reporting, as these standards are modified, supplemented or amended from time to time, we may not be able to conclude on an ongoing basis that we have effective internal control over financial reporting in accordance with Section 404. If we fail to achieve and maintain an effective internal control environment, we could suffer material misstatements in our financial statements and fail to meet our reporting obligations, which would likely cause investors to lose confidence in our reported financial information. This could in turn limit our access to capital markets, harm our results of operations, and lead to a decline in the trading price of our ADSs. Additionally, ineffective internal control over financial reporting could expose us to increased risk of fraud or misuse of corporate assets and subject us to potential delisting from the stock exchange on which we list, regulatory investigations and civil or criminal sanctions. We may also be required to restate our financial statements for prior periods.

 

In order to maintain and improve the effectiveness of our disclosure controls and procedures and internal controls over financial reporting, we will need to expend significant resources and provide significant management oversight. Implementing any appropriate changes to our internal controls may require specific compliance training of our directors and employees, entail substantial costs in order to modify our existing accounting systems, take a significant period of time to complete and divert management’s attention from other business concerns. These changes may not, however, be effective in maintaining the adequacy of our internal control.

 

If we are unable to conclude that we have effective internal controls over financial reporting, investors may lose confidence in our operating results, the price of the ADSs could decline and we may be subject to litigation or regulatory enforcement actions. In addition, if we are unable to meet the requirements of Section 404 of the Sarbanes-Oxley Act, the ADSs may not be able to remain listed on the Nasdaq Global Market.

 

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Risks relating to our corporate structure

 

If the PRC government deems that the Contractual Arrangements do not comply with PRC laws and regulations, or if these laws and regulations or their interpretations change in the future, we could be subject to severe penalties or be forced to relinquish our interests received through the Contractual Arrangements.

 

Since the Industry Catalog for Guiding Foreign Investment (Revision 2015), or the Foreign Investment Catalog 2015, became effective in April 2015, PRC law only allows foreign investment in PRC medical institutions through joint venture entities, and the foreign shareholding in these entities is limited to 70.0%, which percentage was stipulated in the Interim Administrative Measures on Sino-Foreign Equity Medical Institutions and Sino-Foreign Cooperative Medical Institutions, or the JV Interim Measures. We historically held more than 70.0% in seven of our PRC subsidiaries after the effective date of the Foreign Investment Catalog 2015, namely Yantai Pengai Jiayan Cosmetic Surgery Hospital Co., Ltd., Hangzhou Pengai Aesthetic Medical Clinic Co., Ltd., Chongqing Pengai Aesthetic Medical Hospital Co., Ltd., Changsha Pengai Aesthetic Medical Hospital Co., Ltd., Shanghai Pengai Aesthetic Medical Clinic Co., Ltd, Jiangsu Liangyan Hospital Management Co., Ltd., and Beijing Aomei Yixin Investment Consultant Co., Ltd. We decreased our shareholdings in these PRC subsidiaries to 70.0% by transferring excess equity interests to Dr. Zhou Pengwu and certain of our employees in 2018, 2019, 2020 and 2021, subject to the completion of registration of share transfer to Dr. Zhou and the equity pledge. In connection with such equity transfer to Dr. Zhou and Dr. Zhou Pengwu’s shareholding, in Shenzhen Pengai Xiuqi Aesthetic Medical Hospital, Guangzhou Pengai Aesthetic Medical Hospital Co., Ltd., Hangzhou Pengai Aesthetic Medical Clinic Co., Ltd., Jinan Pengai Cosmetic Surgery Hospital Co., Ltd., and Jiangsu Liangyan Hospital Management Co., Ltd., Beijing AomeiYixin Investment ConsultantCo., Ltd. which he acquired from other shareholders in 2018, 2019, 2020 and 2021, we entered into a series of Contractual Arrangements with Dr. Zhou Pengwu and the Relevant Subsidiaries, among other parties, with respect to the Target Equity Interests. For details of the Contractual Arrangements, see “Item 4. Information on the Company—4.A. History and Development of the Company—Contractual Arrangements with respect to Target Equity Interests.”

 

In the opinion of Han Kun Law Offices, our PRC legal counsel, the execution, delivery and performance of each of the Contractual Arrangements by the parties thereto, and the consummation of the transactions contemplated thereunder do not and will not result in any violation of any explicit requirement under applicable PRC Laws currently in effect. However, we have been advised by our PRC legal counsel that there are substantial uncertainties regarding the interpretation and application of current and future PRC laws, regulations and rules, including those relating to foreign investment restrictions and the Foreign Investment Law (as defined below). There can be no assurance that the PRC regulatory authorities will take a view that is consistent with the opinion of our PRC legal counsel.

 

It is uncertain whether any new PRC laws or regulations relating to Contractual Arrangements will be adopted, or if adopted, what they would provide. In particular, the Ministry of Commerce of the PRC, or MOFCOM published discussion drafts of a proposed Foreign Investment Law for public review and comments in January 2015. The Standing Committee of National People’s Congress published another discussion draft of the Foreign Investment Law and its amendment in December 2018 and January 2019 respectively, and on March 15, 2019, the National People’s Congress approved the Foreign Investment Law, which came into effect on January 1, 2020. See “—Risks relating to doing business in the PRC—Uncertainties with respect to the PRC legal system and changes in laws, regulations and policies in China could materially and adversely affect us.”

 

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If our ownership structure, Contractual Arrangements or businesses of the Relevant Subsidiaries are found to be in violation of any existing or future PRC laws or regulations, or if the Relevant Subsidiaries fail to obtain or maintain any of the required permits or approvals, the relevant PRC regulatory authorities would have broad discretion to take action in dealing with such violations or failures, including:

 

·                  revoking the Contractual Arrangements;

 

·                  imposing fines, confiscating the income from the Relevant Subsidiaries, or imposing other requirements with which we may not be able to comply;

 

·                  discontinuing or restricting our operations in the PRC;

 

·                  imposing conditions or requirements with which we may not be able to comply; or

 

·                  taking other regulatory or enforcement actions that could be harmful to our business.

 

Any of these actions could materially and adversely affect our business, financial condition and results of operations. If any of these occurrences results in our failure to receive the economic benefits of the Target Equity Interests, we may not be able to consolidate the above in our consolidated financial statements in accordance with IFRS as issued by IASB.

 

The Contractual Arrangements may not be as effective in providing control as direct ownership and Relevant Subsidiaries or Dr. Zhou Pengwu may fail to perform their respective obligations under the Contractual Arrangements.

 

We own and hold 70.0% of equity interests in the Relevant Subsidiaries (except for Shenzhen Pengai Xiuqi and Yantai Pengai Jiayan, in which we hold 67.0% and 65.0% equity interest, respectively) and will rely on the Contractual Arrangements to control the Target Equity Interests in the Relevant Subsidiaries. The Contractual Arrangements may not be as effective as direct ownership in controlling over the Target Equity Interests. If the Relevant Subsidiaries and/or Dr. Zhou Pengwu fail to perform their respective obligations under the Contractual Arrangements, we may have to incur substantial costs and expend additional resources to enforce such Contractual Arrangements, and rely on legal remedies under PRC laws, including contractual remedies, which may not be sufficient or effective. These legal remedies may not be as effective as direct ownership in controlling the Target Equity Interests. All the agreements under the Contractual Arrangements are governed by and interpreted in accordance with PRC laws, and disputes arising from these Contractual Arrangements will be resolved through arbitration in China. However, the legal framework and system in China are not as developed as in some other jurisdictions, such as the United States. As a result, uncertainties in the PRC legal system could limit our ability to enforce Contractual Arrangements. Meanwhile, there are very few precedents and little formal guidance as to how Contractual Arrangements should be interpreted or enforced under PRC law. Significant uncertainties remain regarding the ultimate outcome of such arbitration. In addition, under PRC law, rulings by arbitrators are final, parties cannot appeal the arbitration results in courts, and if the losing parties fail to carry out the arbitration awards within a prescribed time limit, the prevailing parties may only enforce the arbitration awards in the PRC courts through arbitration award recognition proceedings, which would require additional expenses and cause a delay. If we fail to enforce Contractual Arrangements, or if we suffer significant delay or face other obstacles in the process of enforcing Contractual Arrangements, our control over the Target Equity Interests may be negatively affected.

 

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Any failure by our Relevant Subsidiaries and their other respective shareholders, including Dr. Zhou Pengwu, to perform their obligations under our contractual arrangements with them would have a material adverse effect on our business.

 

If our Relevant Subsidiaries and their other respective shareholders, including Dr. Zhou Pengwu, fail to perform their respective obligations under the Contractual Arrangements, we may have to incur substantial costs and expend additional resources to enforce such arrangements. We may also have to rely on legal remedies under PRC law, including seeking specific performance or injunctive relief, and claiming damages, which we cannot assure will be effective under PRC law. For example, if other shareholders of our Relevant Subsidiaries refuse to transfer their equity interest in our Relevant Subsidiaries to us or our designee if we exercise the purchase option pursuant to the contractual arrangements, or if they otherwise act in bad faith toward us, then we may have to take legal actions to compel them to perform their contractual obligations. In addition, if any third parties claim any interest in such shareholders’ equity interests in our Relevant Subsidiaries, our ability to exercise shareholders’ rights or foreclose the share pledge according to the Contractual Arrangements may be impaired.

 

All of the Contractual Arrangements are governed by and interpreted in accordance with PRC law, and disputes arising from the contractual arrangements will be resolved through arbitration in China. The legal system in the PRC is not as developed as in some other jurisdictions, such as the United States. As a result, uncertainties in the PRC legal system could limit our ability to enforce these contractual arrangements. See “—Risks Related to Doing Business in China— Uncertainties with respect to the PRC legal system and changes in laws, regulations and policies in China could materially and adversely affect us.” Meanwhile, there are very few precedents and little formal guidance as to how contractual arrangements in the context of a variable interest entity should be interpreted or enforced under PRC law. There remain significant uncertainties regarding the ultimate outcome of such arbitration should legal action become necessary. In addition, under PRC law, rulings by arbitrators are final, parties cannot appeal the arbitration results in courts, and if the losing parties fail to carry out the arbitration awards within a prescribed time limit, the prevailing parties may only enforce the arbitration awards in PRC courts through arbitration award recognition proceedings, which would require additional expenses and delay. In the event we are unable to enforce the Contractual Arrangements, or if we suffer significant delays or other obstacles in the process of enforcing these Contractual Arrangements, we may not be able to exert effective or complete control over our Relevant Subsidiaries or enjoy the economic benefit from such Relevant Subsidiaries, and our ability to conduct our business may be negatively affected.

 

If the custodians or authorized users of our controlling non-tangible assets, including chops and seals, fail to fulfill their responsibilities, or misappropriate or misuse these assets, our business and operations may be materially and adversely affected.

 

Under PRC law, legal documents for corporate transactions, including agreements and contracts that our business relies on, are executed using the chop or seal of the signing entity or with the signature of a legal representative whose designation is registered and filed with the relevant local branch of the SAMR. We generally execute legal documents by affixing chops or seals, rather than having the designated legal representatives sign the documents.

 

We have three major types of chops, corporate chops, contract chops and finance chops. We use corporate chops generally for documents to be submitted to government agencies, such as applications for changing business scope, directors or company name, and for legal letters. We use contract chops for executing leases and commercial contracts. We use finance chops generally for making and collecting payments, including issuing invoices. Use of corporate chops and contract chops must be approved by our legal department and administrative department, and use of finance chops must be approved by our finance department. The chops of our subsidiary (including our Relevant Subsidiaries) are generally held by the relevant entities so that documents can be executed locally. Although we usually utilize chops to execute contracts, the registered legal representatives of our subsidiaries or affiliated entities and their subsidiaries have the apparent authority to enter into contracts on behalf of such entities without chops, unless such contracts set forth otherwise.

 

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In order to maintain the physical security of our chops, we generally have them stored in secured locations accessible only to the designated key employees of our legal, administrative or finance departments. Our designated legal representatives generally do not have access to the chops. Although we have approval procedures in place and monitor our key employees, including the designated legal representatives of our subsidiaries and affiliated entities and their subsidiaries, the procedures may not be sufficient to prevent all instances of abuse or negligence. There is a risk that our key employees or designated legal representatives could abuse their authority, for example, by binding our subsidiaries and affiliated entities and their subsidiaries with contracts against our interests, as we would be obligated to honor these contracts if the other contracting party acts in good faith in reliance on the apparent authority of our chops or signatures of our legal representatives. If any designated legal representative obtains control of the chop in an effort to obtain control over the relevant entity, we would need to have a shareholder or board resolution to designate a new legal representative and to take legal action to seek the return of the chop, apply for a new chop with the relevant authorities, or otherwise seek legal remedies for the legal representative’s misconduct. If any of the designated legal representatives obtains and misuses or misappropriates our chops and seals or other controlling intangible assets for whatever reason, we could experience disruption to our normal business operations. We may have to take corporate or legal action, which could involve significant time and resources to resolve while distracting management from our operations, and our business and operations may be materially and adversely affected.

 

Dr. Zhou Pengwu may have potential conflicts of interest with us, which may materially and adversely affect our control over the Target Equity Interests.

 

We have control over the Relevant Subsidiaries by holding 70.0% of equity interest in each of the Relevant Subsidiaries (except for Shenzhen Pengai Xiuqi and Yantai Pengai Jiayan, in which we hold 67.0% and 65.0% equity interest, respectively), and we control the Target Equity Interests directly held by Dr. Zhou Pengwu through the Contractual Arrangements. Dr. Zhou Pengwu may have potential conflicts of interest with us due to his role as director of our company and director of certain of the Relevant Subsidiaries, as what is in the best interests of the Relevant Subsidiaries may not be in the best interests of our company. Dr. Zhou Pengwu may breach or refuse to renew the existing Contractual Arrangements we have with him and the Relevant Subsidiaries, which would materially and adversely affect our control over the Target Equity Interests and our ability to receive economic benefits in connection with the Target Equity Interests. If Dr. Zhou Pengwu breaches Contractual Agreements or otherwise has disputes with us, we may have to initiate arbitration or other legal proceedings, which involve significant uncertainty. Such disputes and proceedings may significantly distract our management’s attention, adversely affect our ability to control the Target Equity Interests and otherwise result in negative publicity and adversely affect the reputation of our treatment centers. There is no assurance that the outcome of any such dispute or proceeding will be in our favor.

 

Our Contractual Arrangements with the Relevant Subsidiaries may be subject to scrutiny by the PRC tax authorities and they may determine that we owe additional taxes, which could negatively affect our financial condition and the value of your investment.

 

Under applicable PRC laws and regulations, arrangements and transactions among related parties may be subject to audit or challenge by the PRC tax authorities, and additional taxes and interest may be imposed. The PRC enterprise income tax law requires every enterprise in China to submit its annual enterprise income tax return together with a report on transactions with its related parties to the relevant tax authorities. The tax authorities may impose reasonable adjustments on taxation if they have identified any related party transactions that are inconsistent with arm’s length principles. We may be subject to material and adverse tax consequences if the PRC tax authorities determine that the Contractual Arrangements between Shenzhen Pengai Investment, Dr. Zhou Pengwu and the Relevant Subsidiaries were not entered into on an arm’s length basis and make special tax adjustments to the tax positions of Shenzhen Pengai Investment and Dr. Zhou Pengwu.

 

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In addition, if Shenzhen Pengai Investment exercises the option to purchase all or any part of the Target Equity Interests, the equity interest transfer price may be subject to review and tax adjustment by the relevant tax authority. Dr. Zhou Pengwu will be subject to personal income tax on the difference between the equity interest transfer price and the amount he has paid to obtain the Target Equity Interests. According to the exclusive option agreement under the Contractual Arrangements, Dr. Zhou Pengwu may pay the remaining amount to Shenzhen Pengai Investment, and the amount to be received by Shenzhen Pengai Investment may also be subject to enterprise income tax. Such tax amounts could be substantial, and our financial condition may be adversely affected as a result.

 

Furthermore, the PRC tax authorities may impose any late payment fees and other penalties on the Relevant Subsidiaries for the adjusted but unpaid taxes according to the applicable regulations. Our financial position could be materially and adversely affected if any of the Relevant Subsidiaries’ tax liabilities increase or if late payment fees and other penalties are imposed.

 

If the PRC government deems our PRC medical centers as “Sino-Foreign Equity Medical Institutions,” we could be subject to certain liabilities for the failure to be compliance with the JV Interim Measures.

 

Since the Foreign Investment Catalog 2015 became effective in April 2015, PRC law only allows foreign investment in PRC medical institutions through joint venture entities, and the foreign shareholding in these entities is limited to 70.0%, the percentage stipulated in the JV Interim Measures. We own and hold our equity interests in the PRC treatment centers indirectly through Pengai Investment. Since the JV Interim Measures do not address the equity percentage of a medical institution held indirectly by a non-PRC entity through its subsidiary in the PRC, we do not believe that we, both prior to and after we decreased our indirect shareholding in the Relevant Subsidiaries to 70.0%, are in violation of any explicit provision of the JV Interim Measures. However, we cannot assure you that the PRC regulatory authorities will not take a different view in the future. In the case that the PRC government authorities deem our PRC medical centers as a Sino-Foreign Equity Medical Institution, we may face liabilities for not meeting the requirements or administrative procedures for Sino-Foreign Equity Medical Institutions historically.

 

Risks relating to doing business in the PRC

 

The enforcement of the PRC Labor Contract Law, and other labor-related regulations in the PRC may increase our labor costs and limit our flexibility to use labor. Our failure to comply with PRC labor-related laws may expose us to penalties.

 

On June 29, 2007, the Standing Committee of the National People’s Congress of China enacted the PRC Labor Contract Law, which became effective on January 1, 2008 and was amended on December 28, 2012. The PRC Labor Contract Law introduces specific provisions related to fixed-term employment contracts, part-time employment, probation, consultation with labor unions and employee assemblies, employment without a written contract, dismissal of employees, severance, and collective bargaining, which together represent enhanced enforcement of labor laws and regulations. According to the PRC Labor Contract Law, an employer is obliged to sign an unfixed-term labor contract with any employee who has worked for the employer for 10 consecutive years and will reach the statutory retirement age within ten years. Further, if an employee requests or agrees to renew a fixed-term labor contract that has already been entered into twice consecutively, the resulting contract must have an unfixed term, with certain exceptions. The employer must pay economic compensation to an employee where a labor contract is terminated or expires in accordance with the PRC Labor Contract Law, except for certain situations which are specifically regulated. As a result, our ability to terminate employees is significantly restricted. In addition, the government has issued various labor-related regulations to further protect the rights of employees. According to such laws and regulations, employees are entitled to annual leave ranging from five to 15 days and are able to be compensated for any untaken annual leave days in the amount of three times their daily salary, subject to certain exceptions. In the event that we decide to change our employment or labor practices, the PRC Labor Contract Law and its implementation rules may also limit our ability to effect those changes in a manner that we believe to be cost-effective. In addition, as the interpretation and implementation of these new regulations are still evolving, our employment practices may not be at all times deemed in compliance with the new regulations. If we are subject to severe penalties or incur significant liabilities in connection with labor disputes or investigations, our business and financial conditions may be adversely affected.

 

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Companies operating in China are required to participate in various government sponsored employee benefit plans, including certain social insurance, housing funds and other welfare-oriented payment obligations, and contribute to the plans in amounts equal to certain percentages of salaries, including bonuses and allowances, of their employees up to a maximum amount specified by the local government from time to time. The requirement to maintain employee benefit plans has not been implemented consistently by local governments in China given the different levels of economic development in different locations. We did not pay, or were not able to pay, certain past social security and housing fund contributions in strict compliance with the relevant PRC regulations for and on behalf of our employees due to differences in local regulations and inconsistent implementation or interpretation by local authorities in the PRC and varying levels of acceptance of the housing fund system by our employees. We may be subject to fines and penalties for our failure to make payments in accordance with the applicable PRC laws and regulations. We may be required to make up the contributions for these plans as well as to pay late fees and fines. We have not made any accruals for the interest on underpayments and penalties that may be imposed by the relevant PRC government authorities in the financial statements. If we are subject to penalties, late fees or fines in relation to the underpaid employee benefits, our financial condition and results of operations may be adversely affected.

 

The PRC’s economic, political and social conditions, as well as governmental policies, could affect the business environment and financial markets in China, our ability to operate our business, our liquidity and our access to capital.

 

Most of our operations are conducted in China. Accordingly, our business, results of operations, financial condition and prospects may be influenced to a significant degree by economic, political, legal and social conditions in China. China’s economy differs from the economies of developed countries in many respects, including with respect to the amount of government involvement, level of development, growth rate, control of foreign exchange allocation of resources, an evolving regulatory resources, and a lack of sufficient transparency in the regulatory process. While the PRC economy has experienced significant growth over the past 40 years, growth has been uneven across different regions and among various economic sectors of China. The PRC government has implemented various measures to encourage economic development and guide the allocation of resources. Some of these measures may benefit the overall PRC economy, but may have a negative effect on us. For example, our financial condition and results of operations may be adversely affected by government control over capital investments or changes in tax regulations that are currently applicable to us. In addition, in the past the PRC government implemented certain measures, including interest rate increases, to control the pace of economic growth. These measures may cause decreased economic activity in China, which may adversely affect our business and results of operation. More generally, if the business environment in China deteriorates from the perspective of domestic or international investment, our business in China may also be adversely affected.

 

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Uncertainties with respect to the PRC legal system and changes in laws, regulations and policies in China could materially and adversely affect us.

 

We conduct our business primarily through our subsidiaries in China. PRC laws and regulations govern our operations in China. Our subsidiaries are generally subject to laws and regulations applicable to foreign investments in China, which may not sufficiently cover all of the aspects of our economic activities in China. In addition, the implementation of laws and regulations may be in part based on government policies and internal rules that are subject to the interpretation and discretion of different government agencies (some of which are not published on a timely basis or at all) that may have a retroactive effect. As a result, we may not always be aware of any potential violation of these policies and rules. Such unpredictability regarding our contractual, property and procedural rights could adversely affect our business and impede our ability to continue our operations. Furthermore, since PRC administrative and court authorities have significant discretion in interpreting and implementing statutory and contractual terms, it may be more difficult to evaluate the outcome of administrative and court proceedings and the level of legal protection we enjoy than in more developed legal systems. These uncertainties could materially and adversely affect our business and results of operations.

 

In January 2015, the Ministry of Commerce of the PRC, or the MOFCOM, published a discussion draft of the proposed Foreign Investment Law, or the 2015 Draft Foreign Investment Law. The National People’s Congress published another discussion draft of the Foreign Investment Law and its amendment, or the 2018 Draft Foreign Investment Law, on December 2018 and January 2019 respectively. On March 15, 2019, the National People’s Congress approved the Foreign Investment Law, which has come into effect since January 1, 2020, or the 2019 Foreign Investment Law. Among other things, the 2015 Draft Foreign Investment Law expands the definition of foreign investment and introduces the principle of “actual control” in determining whether a company should be treated as a foreign invested enterprise, or FIE. Once an entity falls within the definition of FIE, it may be subject to foreign investment “restrictions” or “prohibitions” set forth in a “negative list” to be separately issued by the State Council. If an FIE proposes to conduct business in an industry subject to foreign investment “restrictions” in the “negative list,” the FIE must go through a pre-approval process. The 2019 Foreign Investment Law have revised the definition of “foreign investment” and removed all references to the definitions of “actual control” or “variable interest entity structure” under the 2015 Draft Foreign Investment Law, and have further specified that all “foreign investments” shall be conducted pursuant to the negative list issued or approved to be issued by the State Council.

 

Notwithstanding the above, the 2019 Foreign Investment Law stipulates that foreign investment includes foreign investors investing in China through any other methods under laws, administrative regulations or provisions prescribed by the State Council. There are possibilities that the Contractual Arrangements adopted by us will be deemed as a form of foreign investment, at which time it will be uncertain whether our investment in treatment centers in China and the Contractual Arrangements will be deemed to be in violation of the foreign investment regulations and how they will be handled. Therefore, there is no guarantee that the Contractual Arrangements, our business and operation will not be materially and adversely affected in the future due to the changes in PRC laws and regulations. In addition, any administrative and court proceedings in China may be protracted, resulting in substantial costs and diversion of resources and management attention.

 

It may be difficult for overseas regulators to conduct investigations or collect evidence within China.

 

Shareholder claims or regulatory investigation that are common in the United States generally are difficult to pursue as a matter of law or practicality in China. For example, in China, there are significant legal and other obstacles to providing information needed for regulatory investigations or litigation initiated outside China. Although the authorities in China may establish a regulatory cooperation mechanism with the securities regulatory authorities of another country or region to implement cross-border supervision and administration, such cooperation with the securities regulatory authorities in the Unities States may not be efficient in the absence of mutual and practical cooperation mechanism. Furthermore, according to Article 177 of the PRC Securities Law, which became effective in March 2020, no foreign securities regulator is allowed to directly conduct investigations or evidence collection activities within the PRC territory. While detailed interpretation of or implementation rules under Article 177 have yet to be promulgated, the inability for a foreign securities regulator to directly conduct investigations or evidence collection activities within China may further increase the difficulties you face in protecting your interests.

 

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Changes in international trade policies and barriers to trade or the emergence of a trade war may dampen growth in China and other markets where we operate, and our business operations and results may be negatively impacted.

 

International trade disputes could result in tariffs and other protectionist measures that could adversely affect our business. Tariffs could increase our operating costs as well as the cost of the goods and products which could affect our customer’s discretionary spending level. In addition, any escalation in existing trade tensions or the advent of a trade war, or news and rumors of the escalation of a potential trade war, could affect consumer confidence and have a material adverse effect on our business, results of operations and, ultimately, the trading price of our ADSs.

 

Political tensions between the United States and China have escalated due to, among other things, the COVID-19 outbreak, the PRC National People’s Congress’ passage of Hong Kong national security legislation, sanctions imposed by the U.S. Department of Treasury on certain officials of the Hong Kong Special Administrative Region and the central government of the PRC, and the executive orders issued by U.S. President in August 2020 that prohibit certain transactions with ByteDance Ltd., Tencent Holdings Ltd. and the respective subsidiaries of such companies. In addition, on December 31, 2020, the New York Stock Exchange commenced proceedings to delist securities of three major telecommunications service providers in China in light of an executive order prohibiting any transaction in publicly traded securities of certain China-based companies by any U.S. person. There remains uncertainty as to whether the New York Stock Exchange or relevant regulatory authorities will finally determine the executive order or additional regulatory rules or orders to be applicable and proceed with the delisting proceedings against these companies or any other China-based issuers listed in the United States. Rising political tensions could reduce levels of trades, investments, technological exchanges and other economic activities between the two major economies, which would have a material adverse effect on global economic conditions and the stability of global financial markets. Any of these factors could have a material adverse effect on our business, prospects, financial condition and results of operations. Furthermore, there have been media reports on deliberations within the U.S. government regarding potentially limiting or restricting China-based companies from accessing U.S. capital markets. If any such deliberations were to materialize, the resulting legislation may have a material and adverse impact on the stock performance of China-based issuers listed in the United States. It is currently unclear whether the proposed or additional legislations would be enacted that would have the effect of potentially limiting or restricting China-based companies from accessing U.S. capital markets.

 

We may be exposed to liabilities under the U.S. Foreign Corrupt Practices Act, or the FCPA, Chinese anti-unfair competition laws and relevant tax laws, and any determination that we have violated these laws could have a material adverse effect on our business or our reputation.

 

We are subject to the FCPA. The FCPA generally prohibits us from making improper payments to non-U.S. officials for the purpose of obtaining or retaining business. We are also subject to the anti-bribery laws of other jurisdictions, particularly China. As our business expands, the applicability of the FCPA and other anti-bribery laws to our operations will increase. Our procedures and controls to monitor anti-bribery compliance may fail to protect us from reckless or criminal acts committed by our employees or agents. If we, due to either our own deliberate or inadvertent acts or those of others, fail to comply with applicable anti-bribery laws, our reputation could be harmed and we could incur criminal or civil penalties, other sanctions and/or significant expenses, which could have a material adverse effect on our business, including our financial condition, results of operations, cash flows and prospects.

 

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Some of our PRC subsidiaries may pay commissions to or reimburse the expenses and costs incurred by individuals or entities if they recommend customers. Pursuant to the Anti-Unfair Competition Law of the PRC, amended and effective on April 23, 2019, commissions to suppliers are permitted if the parties properly reflect such commissions in their financial records. We are also required to withhold individual income tax in the case the referee is an individual. We have reflected such commissions on our financial records and withheld individual income tax based on our understanding. However, as we do not regard the reimbursement of expenses and costs as part of the commissions, reimbursement paid to the referee may not be reflected on our financial records or have individual income tax withheld. There is no assurance that the relevant PRC authorities will take a view consistent with our understanding. As of the date of this annual report, we have not received any penalty decisions from any relevant PRC authorities. However, we cannot assure you that we will not be subject to penalty due to allegations of violating relevant commercial bribery or anti-unfair competition laws or tax laws in the future by the local authorities in the regions where we have operations or that we will be able to defend ourselves against such allegations. If we become subject to penalties or fines for violating relevant commercial bribery or anti-unfair competition laws and/or tax laws, our business and reputation may be adversely affected.

 

Restrictions on currency exchange may limit our ability to receive and use financing in foreign currencies, including the remaining proceeds from our initial public offering, effectively.

 

Our PRC subsidiaries’ ability to obtain foreign exchange is subject to significant foreign exchange controls and, in the case of transactions under the capital account, requires the approval of and/or registration with PRC government authorities, including the Chinese State Administration of Foreign Exchange, or SAFE. In particular, if we finance our PRC subsidiaries by means of foreign debt from us or other foreign lenders, the amount is not allowed to, among other things, exceed the statutory limits and such loans must be registered with the local counterpart of the SAFE. If we finance our PRC subsidiaries by means of additional capital contributions, the amount of these capital contributions must first be registered or filed by the relevant government authority.

 

In the light of the various requirements imposed by PRC regulations on loans to, and direct investment in, PRC entities by offshore holding companies, we cannot assure you that we will be able to complete the necessary government registrations, filings or obtain the necessary government approvals on timely basis, if at all, with respect to future loans or capital contributions by us to our PRC subsidiaries. If we fail to complete such registrations, filings, or obtain such approval, our ability to use the proceeds we receive from our initial public offering and to capitalize or otherwise fund our PRC operations may be negatively affected, which could materially and adversely affect our liquidity and our ability to fund and expand our business.

 

PRC regulations relating to investments in offshore companies by PRC residents may subject our PRC resident beneficial owners or our wholly foreign-owned subsidiaries in China to liability or penalties, limit our ability to inject capital into these subsidiaries, limit these subsidiaries’ ability to increase their registered capital or distribute profits to us, or may otherwise adversely affect us.

 

In October 2005, SAFE promulgated the Circular of the State Administration of Foreign Exchange on Issues Concerning the Regulation of Foreign Exchange in Equity Finance and Return Investments by Domestic Residents through Offshore Special Purpose Vehicles, or SAFE Circular 75, that requires PRC citizens or residents to register with SAFE or its local branch in connection with their establishment or control of an offshore entity established for the purpose of overseas equity financing involving a roundtrip investment whereby the offshore entity acquires or controls onshore assets or equity interests held by the PRC citizens or residents.

 

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In July 2014, SAFE promulgated the Circular on Issues Concerning the Foreign Exchange Administration over the Overseas Investment and Financing and Round-trip Investment by Domestic Residents via Special Purpose Vehicles, or SAFE Circular 37 and overruled SAFE Circular 75 on the same date. SAFE Circular 37 requires PRC residents or entities to register with of the SAFE or its local branches in connection with their direct establishment or indirect control of an offshore entity, for the purpose of overseas investment and financing, with such PRC residents’ legally owned assets or equity interests in domestic enterprises or offshore assets or interests, referred to in SAFE Circular 37 as a “special purpose vehicle.” The term “control” under SAFE Circular 37 is broadly defined as the operation rights, beneficiary rights or decision-making rights acquired by the PRC residents in the offshore special purpose vehicles by such means as acquisition, trust, proxy, voting rights, repurchase, convertible bonds or other arrangements. SAFE Circular 37 further requires amendment to the registration in the event of any changes with respect to the basic information of or any significant changes with respect to the special purpose vehicle. According to the Circular of Further Simplifying and Improving the Policies of Foreign Exchange Administration Applicable to Direct Investment released in February 2015 by SAFE, local banks will examine and handle foreign exchange registration for overseas direct investment, including the initial foreign exchange registration and amendment registration under SAFE Circular 37 from June 2015. If the shareholders of the offshore holding company who are PRC residents do not complete their registration with the local SAFE branches, our wholly foreign-owned subsidiaries may be prohibited from distributing their profits and proceeds from any reduction in capital, share transfer or liquidation to the offshore company, and the offshore company may be restricted in its ability to contribute additional capital to our wholly foreign-owned subsidiaries. Moreover, failure to comply with SAFE registration and amendment requirements described above could result in liability under PRC law for evasion of applicable foreign exchange restrictions.

 

To our knowledge, besides Dr. Zhou and Ms. Ding, who have fulfilled the registration under SAFE Circular 75, and besides Shanghai Qiangshi Business Information Consultant Co., Ltd, who has fulfilled the procedure of overseas investment for the purpose of purchasing and holding our company’s ordinary shares through Wise Sunny Limited, we are not aware of any PRC residents or entities who hold direct or indirect interests in our company and are subject to SAFE filing or registration requirements, and we will request PRC residents who we know hold direct or indirect interests in our company, if any, to make the necessary applications, filings and amendments as required under SAFE Circular 37 and other related rules. However, we may not be informed of the identities of all the PRC residents or entities holding direct or indirect interest in our company, and we cannot provide any assurance that these PRC residents or entities will comply with our request to make or obtain any applicable registrations or comply with other requirements under SAFE Circular 37 or other related rules. The failure or inability of our PRC resident or entities shareholders to comply with the registration procedures set forth in these regulations may subject us to fines and legal sanctions, restrict our cross-border investment activities, limit the ability of our wholly foreign-owned subsidiaries in China to distribute dividends and the proceeds from any reduction in capital, share transfer or liquidation to us, and we may also be prohibited from injecting additional capital into our wholly foreign-owned subsidiaries. Moreover, failure to comply with the various foreign exchange registration requirements described above could result in liability under PRC law for circumventing applicable foreign exchange restrictions. As a result, our business operations and our ability to distribute profits to you could be materially and adversely affected.

 

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PRC regulations establish complex procedures for some acquisitions of Chinese companies by foreign investors, which could make it more difficult for us to pursue growth through acquisitions in China.

 

PRC regulations and rules concerning mergers and acquisitions including the Rules on Mergers and Acquisitions of Domestic Companies by Foreign Investors, or the M&A Rules, and other recently adopted regulations and rules with respect to mergers and acquisitions established additional procedures and requirements that could make merger and acquisition activities by foreign investors more time consuming and complex. For example, the M&A Rules require that the MOFCOM be notified in advance of any change-of-control transaction in which a foreign investor takes control of a PRC domestic enterprise, if (i) any important industry is concerned, (ii) such transaction involves factors that have or may have impact on the national economic security, or (iii) such transaction will lead to a change in control of a domestic enterprise which holds a famous trademark or PRC time-honored brand. Moreover, according to the Anti-Monopoly Law of PRC promulgated on August 30, 2007 and the Provisions of the State Council on the Threshold of Filings for Undertaking Concentrations, or the Prior Notification Rules issued by the State Council in August 2008 and amended on September 2018, the concentration of business undertakings by way of mergers, acquisitions or contractual arrangements that allow one market player to take control of or to exert decisive impact on another market player must also be notified in advance to the MOFCOM when the threshold is crossed and such concentration shall not be implemented without the clearance of prior notification. In addition, the Circular of the General Office of the State Council on the Establishment of Security Review System for the Merger and Acquisition of Domestic Enterprises by Foreign Investors that became effective in March 2011, and the Rules on Implementation of Security Review System for the Merger and Acquisition of Domestic Enterprises by Foreign Investors, or the Security Review Rules issued by the MOFCOM that became effective in September 2011 specify that mergers and acquisitions by foreign investors that raise “national defense and security” concerns and mergers and acquisitions through which foreign investors may acquire the de facto control over domestic enterprises that raise “national security” concerns are subject to strict review by the MOFCOM, and the rules prohibit any activities attempting to bypass a security review by structuring the transaction through, among other things, trusts, entrustment or contractual control arrangements. In the future, we may grow our business by acquiring complementary businesses. Complying with the requirements of the above-mentioned regulations and other relevant rules to complete such transactions could be time consuming, and any required approval processes, including obtaining approval from the MOFCOM or its local counterparts may delay or inhibit our ability to complete such transactions. We believe that our business is not in an industry that raises “national defense and security” or “national security” concerns. However, the MOFCOM or other government agencies may publish explanations in the future determining that our business is in an industry subject to the security review, in which case our future acquisitions in the PRC, including those by way of entering into contractual control arrangements with target entities, may be closely scrutinized or prohibited. Our ability to expand our business or maintain or expand our market share through future acquisitions would as such be materially and adversely affected.

 

Our business benefits from certain financial incentives and discretionary policies granted by local governments. Expiration of, or changes to, these incentives or policies would have an adverse effect on our results of operations.

 

In the past, local governments in China granted certain financial incentives from time to time to our PRC subsidiaries as part of their efforts to encourage the development of local businesses. The Circular on the Relevant Tax Policies in Respect of Medical and Hygiene Institutions issued by the State Administration of Taxation, or the SAT and Ministry of Finance that became effective in July 2000 and amended in 2009, specifies that to support the development of profitable medical institution, the following preferential policy shall be applied to the income derived by profitable medical institution as is directly used to improve the medical and hygiene service conditions within three years after the date of obtaining practice registration: (1) the self-produced preparation for its own use shall be exempted from any value-added tax; and (2) the property, land, vehicles and vessels for the profitable medical institution’s own use shall be exempted from real estate tax, land-use tax of cities and towns and operation tax of vehicle and ship. Upon the expiration of the term of three years for exempting from tax, the tax collection shall be restored. The Circular on Comprehensively Promoting the Pilot Program of the Collection of Value-added Tax in Lieu of Business Tax issued by the State Administration of Taxation, or the SAT, and Ministry of Finance that became effective in May 2016, specifies that medical institutions which provide the medical services are exempted from value-added tax during the pilot scheme period for levying VAT in place of business tax. The timing, amount and criteria of government financial incentives are determined within the sole discretion of the local government authorities and cannot be predicted with certainty before we actually receive any financial incentive. We generally do not have the ability to influence local governments in making these decisions. Local governments may decide to reduce or eliminate incentives at any time. In addition, some of the government financial incentives are granted on a project basis and subject to the satisfaction of certain conditions, including compliance with the applicable financial incentive agreements and completion of the specific project therein. We cannot guarantee that we will satisfy all relevant conditions, and if we do so we may be deprived of the relevant incentives. We cannot assure you of the continued availability of the government incentives currently enjoyed by us. Any reduction or elimination of incentives would have an adverse effect on our results of operations.

 

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If we are classified as a PRC resident enterprise for PRC income tax purposes, such classification could result in unfavorable tax consequences to us and our non-PRC shareholders or ADS holders.

 

The PRC Enterprise Income Tax Law, or the EIT Law effective as of January 1, 2008 and amended on December 2018 and the Regulation on the Implementation of the EIT Law, effective as of January 1, 2008 and amended on April 2019, define the term “de facto management bodies” as “bodies that substantially carry out comprehensive management and control on the business operation, employees, accounts and assets of enterprises.” Under the EIT Law, an enterprise incorporated outside of PRC whose “de facto management bodies” are located in PRC is considered a “resident enterprise” and will be subject to a uniform 25% enterprise income tax (EIT) rate on its global income. On April 22, 2009, PRC’s State Administration of Taxation, or the SAT, in the Notice Regarding the Determination of Chinese-Controlled Offshore-Incorporated Enterprises as PRC Tax Resident Enterprises on the Basis of De Facto Management Bodies, or SAT Circular 82, further specified certain criteria for the determination of what constitutes “de facto management bodies.” If all of these criteria are met, the relevant foreign enterprise may be regarded to have its “de facto management bodies” located in China and therefore be considered a PRC resident enterprise. These criteria include: (i) the enterprise’s day-to-day operational management is primarily exercised in China; (ii) decisions relating to the enterprise’s financial and human resource matters are made or subject to approval by organizations or personnel in China; (iii) the enterprise’s primary assets, accounting books and records, company seals, and board and shareholders’ meeting minutes are located or maintained in China; and (iv) 50% or more of voting board members or senior executives of the enterprise habitually reside in China. Although SAT Circular 82 only applies to foreign enterprises that are majority-owned and controlled by PRC enterprises, not those owned and controlled by foreign enterprises or individuals, the determining criteria set forth in SAT Circular 82 may be adopted by the PRC tax authorities as the test for determining whether the enterprises are PRC tax residents, regardless of whether they are majority-owned and controlled by PRC enterprises.

 

We believe that neither our company nor any of our subsidiaries outside of China is a PRC resident enterprise for PRC tax purposes. However, the tax resident status of an enterprise is subject to determination by the PRC tax authorities, and uncertainties remain with respect to the interpretation of the term “de facto management body.” If the PRC tax authorities determine that our company or any of its subsidiaries outside of China is a PRC resident enterprise for enterprise income tax purposes, that entity would be subject to a 25% enterprise income tax on its global income. In addition, we will also be subject to PRC enterprise income tax reporting obligations. If such entity derives income other than dividends from its wholly-owned subsidiaries in China, a 25% EIT on its global income may increase our tax burden. Dividends paid to a PRC resident enterprise from its wholly-owned subsidiaries in China may be regarded as tax-exempt income if such dividends are deemed to be “dividends between qualified PRC resident enterprises” under the EIT Law and its implementation rules. However, we cannot assure you that such dividends will not be subject to PRC withholding tax, as the PRC tax authorities, which enforce the withholding tax, have not yet issued relevant guidance.

 

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In addition, if we are classified as a PRC resident enterprise for PRC tax purposes, we may be required to withhold tax at a rate of 10% from dividends we pay to our shareholders, including the holders of the ADSs, that are non-resident enterprises. In addition, non-resident enterprise shareholders (including the ADS holders) may be subject to a 10% PRC withholding tax on gains realized on the sale or other disposition of ADSs or ordinary shares, if such income is treated as sourced from within China. Furthermore, gains derived by our non-PRC individual shareholders from the sale of our shares and ADSs may be subject to a 20% PRC withholding tax. Furthermore, if we are deemed a PRC resident enterprise, dividends paid to our non-PRC individual shareholders (including the ADS holders) and any gain realized on the transfer of ADSs or ordinary shares by such shareholders may be subject to PRC tax at a rate of 20% (which, in the case of dividends, may be withheld at source by us), if such gains are deemed to be from PRC sources. These rates may be reduced by an applicable tax treaty, but it is unclear whether non-PRC shareholders of our company would be able to claim the benefits of any tax treaties between their country of tax residence and the PRC in the event that we are treated as a PRC resident enterprise. Any such tax may reduce the returns on your investment in the ADSs or ordinary shares.

 

We may rely on dividends and other distributions on equity paid by our PRC subsidiaries to fund any cash and financing requirements we may have, and any limitation on the ability of our PRC subsidiaries to make payments to us could have a material and adverse effect on our ability to conduct our business.

 

We are a holding company, and we may rely on dividends and other distributions on equity paid by our PRC subsidiaries for our cash and financing requirements, including the funds necessary to pay dividends and other cash distributions to our shareholders or to service any debt we may incur. If any of our PRC subsidiaries incur debt on its own behalf in the future, the instruments governing the debt may restrict its ability to pay dividends or make other distributions to us. Under PRC laws and regulations, Peng Yi Da, which is a wholly foreign-owned enterprise may pay dividends only out of its respective accumulated profits as determined in accordance with PRC accounting standards and regulations. In addition, a wholly foreign-owned enterprise is required to set aside at least 10% of its accumulated after-tax profits each year, if any, to fund a certain statutory reserve fund, until the aggregate amount of such fund reaches 50% of its registered capital. Such reserve funds cannot be distributed to us as dividends. At its discretion, a wholly foreign-owned enterprise may allocate a portion of its after-tax profits based on PRC accounting standards to an enterprise expansion fund, or a staff welfare and bonus fund.

 

Our PRC subsidiaries generate primarily all of their revenue in renminbi, which is not freely convertible into other currencies. As result, any restriction on currency exchange may limit the ability of our PRC subsidiaries to use their renminbi revenues to pay dividends to us.

 

In response to the persistent capital outflow in China and renminbi’s depreciation against U.S. dollar in the fourth quarter of 2016, China’s People’s Bank of China, or the PBOC, and the SAFE have promulgated a series of capital control measure over recent months, including stricter vetting procedures for China-based companies to remit foreign currency for overseas investments, dividends payments and shareholder loan repayments.

 

The PRC government may continue to strengthen its capital controls, and more restrictions and substantial vetting process may be put forward by SAFE for cross-border transactions falling under both the current account and the capital account. Any limitation on the ability of our PRC subsidiaries to pay dividends or make other kinds of payments to us could materially and adversely limit our ability to grow, make investments or acquisitions that could be beneficial to our business, pay dividends, or otherwise fund and conduct our business.

 

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We and our shareholders face uncertainties in the PRC with respect to indirect transfers of equity interests in PRC resident enterprises.

 

The indirect transfer of equity interest in PRC resident enterprises by a non-PRC resident enterprise, or Indirect Transfer, is potentially subject to income tax in China at a rate of 10% on the gain if such transfer is considered as not having a commercial purpose and is carried out for tax avoidance. The SAT has issued several rules and notices to tighten the scrutiny over acquisition transactions in recent years. SAT Circular 7 sets out the scope of Indirect Transfers, which includes any changes in the shareholder’s ownership of a foreign enterprise holding PRC assets directly or indirectly in the course of a group’s overseas restructuring, and the factors to consider in determining whether an Indirect Transfer has a commercial purpose. An Indirect Transfer satisfying all the following criteria will be deemed to lack a bona fide commercial purpose and be taxable under PRC laws: (i) 75% or more of the equity value of the intermediary enterprise being transferred is derived directly or indirectly from the PRC taxable assets; (ii) at any time during the one-year period before the indirect transfer, 90% or more of the asset value of the intermediary enterprise (excluding cash) is comprised directly or indirectly of investments in China, or 90% or more of its income is derived directly or indirectly from China; (iii) the functions performed and risks assumed by the intermediary enterprise and any of its subsidiaries that directly or indirectly hold the PRC taxable assets are limited and are insufficient to prove their economic substance; and (iv) the non-PRC tax payable on the gain derived from the indirect transfer of the PRC taxable assets is lower than the potential PRC income tax on the direct transfer of such assets. Nevertheless, a non-resident enterprise’s buying and selling shares or ADSs of the same listed foreign enterprise on the public market will fall under the safe harbor available under SAT Circular 7 and will not be subject to PRC tax pursuant to SAT Circular 7.

 

On October 17, 2017, the State Administration of Taxation issued the Circular on Issues of Tax Withholding regarding Non-PRC Resident Enterprise Income Tax at Source, or SAT Circular 37, which came into effect on December 1, 2017 and amended on June 15, 2018. SAT Circular 37 further clarifies the practice and procedure of the withholding of nonresident enterprise income tax.

 

However, as these rules and notices are relatively new and there is a lack of clear statutory interpretation, we face uncertainties regarding the reporting required for and impact on future private equity financing transactions, share exchange or other transactions involving the transfer of shares in our company by investors that are non-PRC resident enterprises, or the sale or purchase of shares in other non-PRC resident companies or other taxable assets by us. For example, the PRC tax authorities may consider that our current offering involves an indirect change of shareholding in our PRC subsidiaries and therefore it may be regarded as an Indirect Transfer under SAT Circular 7 or SAT Circular 37. Although we believe no SAT Circular 7 or SAT Circular 37 reporting is required on the basis that the current offering has commercial purposes and is not conducted for tax avoidance, the PRC tax authorities may pursue us to report under SAT Circular 7 or SAT Circular 37 and request that we and our PRC subsidiaries assist in the filing. As a result, we and our subsidiaries may be required to expend significant resources to provide assistance and comply with SAT Circular 7 or SAT Circular 37, or establish that we or our non-resident enterprises should not be subject to tax under SAT Circular 7 or SAT Circular 37, for the current offering or other transactions, which may have an adverse effect on our and their financial condition and day-to-day operations.

 

Any failure to comply with PRC regulations regarding the registration requirements for our employee equity incentive plans may subject us to fines and other legal or administrative sanctions, which could adversely affect our business, financial condition and results of operations.

 

We have adopted a share incentive plan and a performance incentive plan pursuant to which we may grant share options or other equity incentives to our directors, employees or consultants in the future. In February 2012, the SAFE promulgated the Notices on Issues Concerning the Foreign Exchange Administration for Domestic Individuals Participating in Stock Incentive Plans of Overseas Publicly Listed Companies, or the Stock Option Rules. In accordance with the Stock Option Rules and relevant rules and regulations, PRC citizens or non-PRC citizens residing in China for a continuous period of not less than one year, who participate in any stock incentive plan of an overseas publicly listed company, subject to a few exceptions, are required to register with SAFE through a domestic qualified agent, which could be a PRC subsidiary of such overseas publicly listed company, and complete certain procedures. We and our employees who are PRC citizens or who reside in China for a continuous period of not less than one year and who participate in our stock incentive plan will be subject to such regulation. However, any failure to comply with the SAFE registration requirements may subject them to fines and legal sanctions and may limit the ability of our PRC subsidiaries to distribute dividends to us. We also face regulatory uncertainties that could restrict our ability to adopt additional incentive plans for our directors and employees under PRC law.

 

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Our ADSs may be delisted under the Holding Foreign Companies Accountable Act if the PCAOB is unable to inspect auditors who are located in China. The delisting of our ADSs, or the threat of their being delisted, may materially and adversely affect the value of your investment. Additionally, the inability of the PCAOB to conduct inspections deprives our investors with the benefits of such inspections.

 

The Holding Foreign Companies Accountable Act, or the HFCA Act, was enacted on December 18, 2020. The HFCA Act states if the SEC determines that we have filed audit reports issued by a registered public accounting firm that has not been subject to inspection by the PCAOB for three consecutive years beginning in 2021, the SEC shall prohibit our shares or ADSs from being traded on a national securities exchange or in the over the counter trading market in the U.S.

 

Our auditor, the independent registered public accounting firm that issues the audit report included elsewhere in this annual report, as an auditor of companies that are traded publicly in the United States and a firm registered with the PCAOB, is subject to laws in the United States pursuant to which the PCAOB conducts regular inspections to assess its compliance with the applicable professional standards. Since our auditor is located in China, a jurisdiction where the PCAOB has been unable to conduct inspections without the approval of the Chinese authorities, our auditor is currently not inspected by the PCAOB.

 

On March 24, 2021, the SEC adopted interim final rules relating to the implementation of certain disclosure and documentation requirements of the HFCA Act. We will be required to comply with these rules if the SEC identifies us as having a “non-inspection” year under a process to be subsequently established by the SEC. The SEC is assessing how to implement other requirements of the HFCA Act, including the listing and trading prohibition requirements described above.

 

The SEC may propose additional rules or guidance that could impact us if our auditor is not subject to PCAOB inspection. For example, on August 6, 2020, the President’s Working Group on Financial Markets, or the PWG, issued the Report on Protecting United States Investors from Significant Risks from Chinese Companies to the then President of the United States. This report recommended the SEC implement five recommendations to address companies from jurisdictions that do not provide the PCAOB with sufficient access to fulfil its statutory mandate. Some of the concepts of these recommendations were implemented with the enactment of the HFCA Act. However, some of the recommendations were more stringent than the HFCA Act. For example, if a company was not subject to PCAOB inspection, the report recommended that the transition period before a company would be delisted would end on January 1, 2022.

 

The SEC has announced that the SEC staff is preparing a consolidated proposal for the rules regarding the implementation of the HFCA Act and to address the recommendations in the PWG report. It is unclear when the SEC will complete its rulemaking and when such rules will become effective and what, if any, of the PWG recommendations will be adopted. The implications of this possible regulation in addition the requirements of the HFCA Act are uncertain. Such uncertainty could cause the market price of our ADSs to be materially and adversely affected, and our securities could be delisted or prohibited from being traded “over-the-counter” earlier than would be required by the HFCA Act. If our securities are unable to be listed on another securities exchange by then, such a delisting would substantially impair your ability to sell or purchase our ADSs when you wish to do so, and the risk and uncertainty associated with a potential delisting would have a negative impact on the price of our ADSs.

 

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The PCAOB’s inability to conduct inspections in China prevents it from fully evaluating the audits and quality control procedures of our independent registered public accounting firm. As a result, we and investors in our ordinary shares are deprived of the benefits of such PCAOB inspections. The inability of the PCAOB to conduct inspections of auditors in China makes it more difficult to evaluate the effectiveness of our independent registered public accounting firm’s audit procedures or quality control procedures as compared to auditors outside of China that are subject to the PCAOB inspections, which could cause investors and potential investors in our stock to lose confidence in our audit procedures and reported financial information and the quality of our financial statements.

 

In May 2013, the PCAOB announced that it had entered into a Memorandum of Understanding on Enforcement Cooperation with the CSRC and the PRC Ministry of Finance, which establishes a cooperative framework between the parties for the production and exchange of audit documents relevant to investigations undertaken by the PCAOB in the PRC or by the CSRC or the PRC Ministry of Finance in the United States. The PCAOB continues to be in discussions with the CSRC and the PRC Ministry of Finance to permit joint inspections in the PRC of audit firms that are registered with the PCAOB and audit Chinese companies that trade on U.S. exchanges.

 

Proceedings brought by the SEC against the Big Four PRC-based accounting firms, including our independent registered public accounting firm, could result in our inability to file future financial statements in compliance with the requirements of the Exchange Act.

 

Starting in 2011 the Big Four PRC-based accounting firms, including our independent registered public accounting firm, were affected by a conflict between U.S. and Chinese law. Specifically, for certain U.S.-listed companies operating and audited in mainland China, the SEC and the PCAOB sought to obtain from the Chinese firms access to their audit work papers and related documents. The firms were, however, advised and directed that under Chinese law, they could not respond directly to the U.S. regulators on those requests, and that requests by foreign regulators for access to such papers in China had to be channeled through the CSRC.

 

In December 2012, the SEC instituted administrative proceedings under Rule 102(e)(1)(iii) of the SEC’s Rules of Practice against the Big Four PRC-based accounting firms, including our independent registered public accounting firm, alleging that these firms had violated U.S. securities laws and the SEC’s rules and regulations thereunder by failing to provide to the SEC the firms’ audit work papers with respect to certain PRC-based companies under the SEC’s investigation. On January 22, 2014, the administrative law judge, or the ALJ, presiding over the matter rendered an initial decision that each of the firms had violated the SEC’s rules of practice by failing to produce audit workpapers to the SEC. The initial decision censured each of the firms and barred them from practicing before the SEC for a period of six months. On February 12, 2014, the Big Four PRC-based accounting firms appealed the ALJ’s initial decision to the SEC. On February 6, 2015, before a review by the Commissioner had taken place, the firms reached a settlement with the SEC. Under the settlement, the SEC accepted that future requests by the SEC for the production of documents will normally be made to the CSRC. The firms were to receive matching Section 106 requests, and were required to abide by a detailed set of procedures with respect to such requests, which in substance require them to facilitate production via the CSRC. If they failed to meet specified criteria, the SEC retained authority to impose a variety of additional remedial measures on the firms depending on the nature of the failure.

 

Under the terms of the settlement, the underlying proceeding against the Big Four PRC-based accounting firms was deemed dismissed with prejudice four years after entry of the settlement. The four-year mark occurred on February 6, 2019. While we cannot predict if the SEC will further challenge the Big Four PRC-based accounting firms’ compliance with U.S. law in connection with U.S. regulatory requests for audit work papers or if the results of such a challenge would result in the SEC imposing penalties such as suspensions. If additional remedial measures are imposed on the Big Four PRC-based accounting firms, including our independent registered public accounting firm, we could be unable to timely file future financial statements in compliance with the requirements of the Exchange Act.

 

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In the event the Big Four PRC-based accounting firms become subject to additional legal challenges by the SEC or PCAOB, depending upon the final outcome, listed companies in the United States with major PRC operations may find it difficult or impossible to retain auditors in respect of their operations in the PRC, which could result in financial statements being determined to not be in compliance with the requirements of the Exchange Act, including possible delisting. Moreover, any negative news about the proceedings against these audit firms may cause investor uncertainty regarding PRC-based, United States-listed companies and the market price of the ADSs may be adversely affected.

 

If our independent registered public accounting firm was denied, even temporarily, the ability to practice before the SEC and we were unable to timely find another registered public accounting firm to audit and issue an opinion on our financial statements, our financial statements could be determined not to be in compliance with the requirements of the Exchange Act. Such a determination could ultimately lead to the delisting of the ADSs from the Nasdaq Global Market or deregistration from the SEC, or both, which would substantially reduce or effectively terminate the trading of the ADSs in the United States.

 

Risks relating to the ADSs

 

We have broad discretion to determine how to use the remaining net proceeds from our initial public offering and may use them in ways that may not enhance our results of operations or the price of the ADSs.

 

Although we currently intend to use the remaining net proceeds from our initial public offering in the manner described in the section titled “Item 14. Material Modifications to the Rights of Security Holders and Use of Proceeds—14.E. Use of Proceeds” in this annual report, our management will have broad discretion over the use of net proceeds from our initial public offering, and we could spend the net proceeds from our initial public offering in ways the holders of the ADSs may not agree with, or that do not yield a favorable return. Because of the number and variability of factors that will determine our use of the net proceeds from our initial public offering, our use of these proceeds may differ substantially from our current plans. The failure by our management to apply these funds effectively could have a material adverse effect on our business, financial condition and results of operation. You will not have the opportunity, as part of your investment decision, to assess whether proceeds are being used appropriately. You must rely on the judgment of our management regarding the application of the net proceeds of our initial public offering.

 

Our chief executive officer, Dr. Zhou Pengwu, and his spouse, Ms. Ding Wenting, are able to control and exert significance influence over our company, and their interest may be different from or conflict with that of the holders of our ADSs.

 

Our chief executive officer, Dr. Zhou Pengwu, and his spouse, Ms. Ding Wenting, jointly control more than 50% of the voting power of our company. Although currently each of Dr. Zhou Pengwu and Ms. Ding Wenting disclaims beneficial ownership of any of our ordinary shares beneficially owned by the other, they might act as a group in the future. In addition, one of our directors, Dr. Zhou Yitao, is the son of Dr. Zhou Pengwu. In addition to the elections of our directors, Dr. Zhou Pengwu and Ms. Ding Wenting are and will continue to be able to exert a significant degree of influence or actual control over other management and affairs and control matters requiring an approval from a majority of shareholders, including the merger, consolidation or sale of all or substantially all of our assets, and any other significant transaction. Dr. Zhou Pengwu’s and Ms. Ding Wenting’s interest might not always be aligned with the interests of our other shareholders.

 

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Certain provisions in our fourth amended and restated articles of association may limit your ability to influence corporate matters and could discourage others from pursuing any change of control transactions.

 

Our fourth amended and restated articles of association, currently in effect, provides, among other things, that (i) ADV and IDG (and under certain circumstances, a transferee of ADV’s shares) each have the right to appoint one of our directors; (ii) subject to applicable laws and our fourth amended and restated articles of association, Dr. Zhou Pengwu’s consent is required to approve certain mergers, acquisitions, joint ventures, partnerships and alliances of or by us or our subsidiaries, or to approve the appointment or removal of our chief executive officers; and (iii) certain actions including the voluntary delisting of the our securities, a Change of Control Event (as defined in our fourth amended and restated articles of association) and certain transfers or other disposals of any assets, businesses or securities of us or any of our subsidiaries, can only be approved by shareholders’ resolutions. For more details, please see “Item 6. Directors, Senior Management and Employees—6.C. Board Practices—Appointment of directors by our principal shareholders” and “Item 10. Additional Information—10.B. Memorandum and Articles of Association—Ordinary Shares—Reserved Matters.”

 

As a result of these provisions in our fourth amended and restated articles of association, although holders of our ordinary shares have the same voting rights, certain shareholders such as Dr. Zhou Pengwu, ADV and IDG will have considerable influence over certain corporate governance matters such as decisions regarding mergers, consolidations and the sale of all or substantially all of our assets and appointment of chief officers. Such principal shareholders may take actions that are not in the best interest of us or our other shareholders.

 

These provisions may also discourage, delay or prevent a change in control of our company, which could have the effect of depriving our other shareholders of the opportunity to receive a premium for their shares as part of a sale of our company and may reduce the price of our ADSs. These provisions may limit your ability to influence corporate matters and could discourage others from pursuing any potential merger, takeover or other change of control transactions that holders of our ordinary shares and ADSs may view as beneficial.

 

We might be a “controlled company” as defined under the Nasdaq Stock Market Rules in the future. As a result, we would be entitled to rely on exemptions from certain corporate governance requirements and holders of our ordinary shares or ADSs may not have the same protections generally available to stockholders of other companies listed on stock exchanges in the United States.

 

Our chief executive officer, Dr. Zhou Pengwu, and his spouse, Ms. Ding Wenting cumulatively hold more than 50% of the voting power for the election of our directors. Although currently each of Dr. Zhou Pengwu and Ms. Ding Wenting disclaims beneficial ownership of any of our ordinary shares beneficially owned by the other, they might file a formal notice to act as a group in the future, under which situation we would be a “controlled company” as defined under Rule 5615(c)(1) of the Nasdaq Stock Market Rules. If we are deemed as a “controlled company,” we would qualify for exemptions from several of corporate governance requirements under the Nasdaq listing standards, including requirements that:

 

·                  a majority of the board of directors consist of independent directors;

 

·                  compensation of officers be determined or recommended to the board of directors by a majority of its independent directors or by a compensation committee comprised solely of independent directors; and

 

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·                  director nominees be selected or recommended to the board of directors by a majority of its independent directors or by a nominating committee that is composed entirely of independent directors.

 

Accordingly, to the extent that we choose to rely on one or more of these exemptions, our shareholders would not be afforded the same protections generally as shareholders of other Nasdaq- listed companies as long as Dr. Zhou Pengwu and Ms. Ding Wenting file a formal notice to act as a group, controlling more than 50% of the voting power of our company, and our board determines to rely upon one or more of such exemptions.

 

We may be at an increased risk of securities class action litigation.

 

Historically, securities class action litigation has often been brought against a company following a decline in the market price of its securities. If we were to be sued, it could result in substantial costs and a diversion of management’s attention and resources, which could harm our business.

 

If securities analysts do not publish favorable research about our business or if they publish negative evaluations of our business, the price of the ADSs could decline.

 

The trading market for the ADSs will rely in part on the research and reports that industry or financial analysts publish about us or our business. We may never obtain research coverage by industry or financial analysts. If no or few analysts commence coverage of us, the trading price of our stock would likely decrease. Even if we do obtain analyst coverage, if one or more of the analysts covering our business downgrade their evaluations of our stock, the price of our stock could decline. If one or more of these analysts cease to cover our stock, we could lose visibility in the market for our stock, which in turn could cause our stock price to decline.

 

We are an “emerging growth company” as defined in the Securities Act, and we cannot be certain if the reduced disclosure requirements applicable to us as an “emerging growth company” will make the ADSs less attractive to investors.

 

We are eligible to be treated as an “emerging growth company,” as defined in Section 2(a) of the Securities Act, as modified by the JOBS Act, and we may take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not “emerging growth companies,” including not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act. As a result, our shareholders may not have access to certain information that they may deem important. We could be an emerging growth company for up to five years, although circumstances could cause us to lose that status earlier, including if our total annual gross revenue exceeds US$1.07 billion, if we issue more than US$1.0 billion in non-convertible debt securities during any three-year period, or if the market value of our ordinary shares held by non-affiliates exceeds US$700.0 million. We cannot predict if investors will find the ADSs less attractive because we may rely on these exemptions. If some investors find the ADSs less attractive as a result, there may be a less active trading market for the ADSs and our stock price may be more volatile.

 

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As a foreign private issuer, we are not subject to certain U.S. securities law disclosure requirements that apply to a domestic U.S. issuer, which may limit the information publicly available to our shareholders.

 

As a foreign private issuer, we are not required to comply with all of the periodic disclosure and current reporting requirements of the Exchange Act and therefore there may be less publicly available information about us than if we were a U.S. domestic issuer. For example, we are not subject to the proxy rules in the United States and disclosure with respect to our annual general meetings will be governed by the Cayman Islands requirements. In addition, our officers, directors and principal shareholders are exempt from the reporting and “short-swing” profit recovery provisions of Section 16 of the Exchange Act and the rules thereunder. Therefore, our shareholders may not know on a timely basis when our officers, directors and principal shareholders purchase, or sell, our ordinary shares or ADSs.

 

As a foreign private issuer, we are permitted to adopt certain home country practices in relation to corporate governance matters that differ significantly from the Nasdaq corporate governance standards. These practices may afford less protection to shareholders than they would enjoy if we complied fully with corporate governance listing standards.

 

As a foreign private issuer, we are permitted to take advantage of certain corporate governance requirements under the Nasdaq listing standards that allow us to follow Cayman Islands law for certain governance matters. Certain corporate governance practices in the Cayman Islands may differ significantly from corporate governance listing standards as, except for general fiduciary duties and duties of care, Cayman Islands law had no corporate governance regime which prescribes specific corporate governance standards as of the date of this annual report. For example, we have followed and intend to continue to follow Cayman Islands corporate governance practices in lieu of the corporate governance requirements of the Nasdaq Global Market that listed companies must have a majority of independent directors. Cayman Islands law does not impose a requirement that our board of directors consist of a majority of independent directors. Nor does Cayman Islands law impose specific requirements on the establishment of a compensation committee or nominating committee or nominating process. To the extent we choose to follow home country practice in the future, our shareholders may be afforded less protection than they otherwise would have under corporate governance listing standards applicable to U.S. domestic issuers.

 

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Because we are incorporated under Cayman Islands law and conduct our operations primarily in emerging markets, you may face difficulties in protecting your interests, and your ability to protect your rights through U.S. courts may be limited.

 

We are an exempted company incorporated under the laws of the Cayman Islands. Our corporate affairs are governed by our memorandum and articles of association, the Companies Act (As Revised) of the Cayman Islands, or the Companies Act, and the common law of the Cayman Islands. The rights of shareholders to take action against the directors, actions by minority shareholders and the fiduciary responsibilities of our directors to us under Cayman Islands law are to a large extent governed by the common law of the Cayman Islands. The common law of the Cayman Islands is derived in part from comparatively limited judicial precedent in the Cayman Islands as well as from the common law of England, the decisions of whose courts are of persuasive authority, but are not binding, on a court in the Cayman Islands. The rights of our shareholders and the fiduciary responsibilities of our directors under Cayman Islands law are not as clearly established as they would be under statutes or judicial precedent in some jurisdictions in the United States. In particular, the Cayman Islands has a less developed body of securities laws than the United States. Some U.S. states, such as Delaware, have more fully developed and judicially interpreted bodies of corporate law than the Cayman Islands. In addition, Cayman Islands companies may not have standing to initiate a shareholder derivative action in a federal court of the United States.

 

There is uncertainty as to whether the courts of the Cayman Islands would (1) recognize or enforce against us judgments of courts of the United States based on certain civil liability provisions of U.S. securities laws, or (2) entertain original actions brought in the Cayman Islands against us or our directors or officers that are predicated upon the federal securities laws of the United States or the securities laws of any state in the United States.

 

The uncertainty with regard to Cayman Islands law relates to whether a judgment obtained from the United States courts under the civil liability provisions of the securities laws will be determined by the courts of the Cayman Islands as penal or punitive in nature. If such a determination is made, the courts of the Cayman Islands will not recognize or enforce the judgment against a Cayman Islands company. Because the courts of the Cayman Islands have yet to rule on whether such judgments are penal or punitive in nature, it is uncertain whether they would be enforceable in the Cayman Islands.

 

There is no statutory recognition in the Cayman Islands of judgments obtained in the United States, although the Cayman Islands will generally recognize as a valid judgment, a final and conclusive judgment in personam obtained in the federal or state courts in the United States under which a sum of money is payable (other than a sum of money payable in respect of multiple damages, taxes or other charges of a like nature or in respect of a fine or other penalty) or, in certain circumstances, an in personam judgment for non-monetary relief, and would give a judgment based thereon provided that (i) such courts had proper jurisdiction over the parties subject to such judgment; (ii) such courts did not contravene the rules of natural justice of the Cayman Islands; (iii) such judgment was not obtained by fraud; (iv) the enforcement of the judgment would not be contrary to the public policy of the Cayman Islands; (v) no new admissible evidence relevant to the action is submitted prior to the rendering of the judgment by the courts of the Cayman Islands; and (vi) there is due compliance with the correct procedures under the laws of the Cayman Islands.

 

In addition, we conduct substantially all of our business operations in emerging markets, including China, and substantially all of our directors and senior management are based in China. The SEC, U.S. Department of Justice and other authorities often have substantial difficulties in bringing and enforcing actions against non-U.S. companies and non-U.S. persons, including company directors and officers, in certain emerging markets, including China. Additionally, our public shareholders may have limited rights and few practical remedies in emerging markets where we operate, as shareholder claims that are common in the United States, including class action securities law and fraud claims, generally are difficult or impossible to pursue as a matter of law or practicality in many emerging markets, including China. For example, in China, there are significant legal and other obstacles for the SEC, the DOJ and other U.S. authorities to obtaining information needed for shareholder investigations or litigation. Although the competent authorities in China may establish a regulatory cooperation mechanism with the securities regulatory authorities of another country or region to implement cross-border supervision and administration, the regulatory cooperation with the securities regulatory authorities in the United States has not been efficient in the absence of a mutual and practical cooperation mechanism. In China, without the consent of the competent PRC securities regulators and relevant authorities, no organization or individual may provide the documents and materials relating to securities business activities to foreign securities regulators.

 

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As a result of all of the above, our public shareholders may have more difficulty in protecting their interests in the face of actions taken by management, members of the board of directors or large shareholders than they would as public shareholders of a company incorporated in the United States.

 

We may lose our foreign private issuer status in the future, which could result in significant additional costs and expenses.

 

As discussed above, we are a foreign private issuer, and therefore, we are not required to comply with all of the periodic disclosure and current reporting requirements of the Exchange Act. The determination of foreign private issuer status is made annually on the last business day of an issuer’s most recently completed second fiscal quarter. We would lose our foreign private issuer status if, for example, more than 50% of our ordinary shares are directly or indirectly held by residents of the U.S. and we fail to meet additional requirements necessary to maintain our foreign private issuer status. If we lose our foreign private issuer status on this date, we will be required to file with the SEC periodic reports and registration statements on U.S. domestic issuer forms, which are more detailed and extensive than the forms available to a foreign private issuer. We will also have to mandatorily comply with U.S. federal proxy requirements, and our officers, directors and principal shareholders will become subject to the short-swing profit disclosure and recovery provisions of Section 16 of the Exchange Act. In addition, we will lose our ability to rely upon exemptions from certain corporate governance requirements under the Nasdaq listing standards. If we lost our foreign private issuer status, we would incur significant additional legal, accounting and other expenses that we do not incur as a foreign private issuer, in order to maintain a listing on a U.S. securities exchange.

 

We do not currently intend to pay dividends on our securities, and, consequently, your ability to achieve a return on your investment will depend on appreciation in the price of the ADSs.

 

We have never declared or paid any dividends on our ordinary shares. We currently intend to invest our future earnings, if any, to fund our growth. Therefore, you are not likely to receive any dividends on your ADSs at least in the near term, and the success of an investment in ADSs will depend upon any future appreciation in its value. Consequently, investors may need to sell all or part of their holdings of ADSs after price appreciation, which may never occur, to realize any future gains on their investment. There is no guarantee that the ADSs will appreciate in value or even maintain the price at which our investors purchased their ADSs.

 

There is no public market for our ordinary shares, and you may not be able to resell the ADSs at or above the price you paid, or at all.

 

Our ADSs are listed on the Nasdaq Global Market, while there is no public market for our ordinary shares. Our ordinary shares will not be listed on any other exchange, or quoted for trading on any over-the-counter trading system, in the United States. The initial public offering price for the ADSs were determined by negotiations between us and the underwriters and may bear no relationship to the market price for the ADSs after our initial public offering. We cannot assure you that an active trading market for the ADSs will develop or maintain, or that the market price of the ADSs will increase above the initial public offering price. If an active trading market for the ADSs does not develop or maintain, the market price and liquidity of the ADSs will be materially and adversely affected.

 

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The market price for the ADSs may be volatile which could result in substantial loss to you.

 

The market price for the ADSs is likely to be highly volatile and subject to wide fluctuations in response to factors, including the following:

 

·                  announcements of competitive developments;

 

·                  regulatory developments affecting us, our customers or our competitors;

 

·                  reputation of players in our industry or companies headquartered in China;

 

·                  announcements regarding litigation or administrative proceedings involving us;

 

·                  actual or anticipated fluctuations in our period-to-period operating results;

 

·                  changes in financial estimates by securities research analysts;

 

·                  additions or departures of our executive officers;

 

·                  fluctuations of exchange rates between the RMB and the U.S. dollar;

 

·                  release or expiry of lock-up or other transfer restrictions on our outstanding ordinary shares or ADSs; and

 

·                  sales or perceived sales of additional ordinary shares or ADSs.

 

In addition, the securities markets have from time to time experienced significant price and volume fluctuations that are not related to the operating performance of particular companies. For example, since August 2008, multiple exchanges in the United States and other countries and regions, including China, experienced sharp declines in response to the growing credit market crisis and the recession in the United States. As recently as August 2015, the exchanges in China experienced a sharp decline. Prolonged global capital markets volatility may affect overall investor sentiment towards the ADSs, which would also negatively affect the trading prices for the ADSs.

 

Fluctuations in currency exchange rates may have a material adverse effect on our results of operations and the value of your investment.

 

The value of the renminbi against the U.S. dollar and other currencies may fluctuate and is affected by, among other things, changes in political and economic conditions. On July 21, 2005, the PRC government changed its decade-old policy of pegging the value of the renminbi to the U.S. dollar, and the renminbi appreciated more than 20% against the U.S. dollar over the following three years. Between July 2008 and June 2010, this appreciation halted, and the exchange rate between the renminbi and U.S. dollar remained within a narrow band. In June 2010, the PBOC, announced that the PRC government would increase the flexibility of the exchange rate, and thereafter allowed the renminbi to appreciate slowly against the U.S. dollar within the narrow band fixed by the PBOC. However, more recently, on August 11, 12 and 13, 2015, the PBOC significantly devalued the renminbi by fixing its price against the U.S. dollar 1.9%, 1.6%, and 1.1% lower than the previous day’s value, respectively. On October 1, 2016, the renminbi joined the International Monetary Fund’s basket of currencies that make up the Special Drawing Right, along with the U.S. dollar, the Euro, the Japanese yen and the British pound. In the fourth quarter of 2016, the renminbi depreciated significantly while the U.S. dollar surged and China experienced persistent capital outflows. With the development of the foreign exchange market and progress towards interest rate liberalization and renminbi internationalization, the PRC government may in the future announce further changes to the exchange rate system. There is no guarantee that the renminbi will not appreciate or depreciate significantly in value against the U.S. dollar in the future. It is difficult to predict how market forces, PRC and U.S. government’s policies and regulations may impact the exchange rate between the renminbi and the U.S. dollar in the future.

 

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Significant revaluation of the renminbi may have a material adverse effect on your investment. For example, to the extent that we need to convert U.S. dollars into renminbi for our operations, appreciation of the renminbi against the U.S. dollar would have an adverse effect on the renminbi amount we would receive from the conversion. Conversely, if we decide to convert our renminbi into U.S. dollars for the purpose of making payments for dividends on our ordinary shares or ADSs or for other business purposes, appreciation of the U.S. dollar against the renminbi would have a negative effect on the U.S. dollar amount available to us. In addition, appreciation or depreciation in the value of the renminbi relative to U.S. dollars would affect our financial results reported in U.S. dollar terms regardless of any underlying change in our business or results of operations.

 

Very limited hedging options are available in China to reduce our exposure to exchange rate fluctuations. To date, we have not entered into any hedging transactions in an effort to reduce our exposure to foreign currency exchange risk. While we may decide to enter into hedging transactions in the future, the availability and effectiveness of these hedges may be limited and we may not be able to adequately hedge our exposure or at all. In addition, our currency exchange losses may be magnified by PRC exchange control regulations that restrict our ability to convert renminbi into foreign currency.

 

Substantial future sales or perceived sales of the ADSs in the public market could cause the price of the ADSs to decline.

 

Sales of the ADSs in the public market after our initial public offering, or the perception that these sales could occur, could cause the market price of the ADSs to decline. As of December 31, 2020, we had 70,793,671 ordinary shares outstanding, including 11,313,825 ordinary shares represented by ADSs. All ADSs sold in our initial public offering are freely transferable without restriction or additional registration under the Securities Act. The remaining ordinary shares outstanding after our initial public offering became available for sale, subject to restrictions as applicable under Rule 144 under the Securities Act, upon the expiration of the 180-day lock-up arrangements entered into among us, the underwriters and other relevant parties on April 21, 2020. We cannot predict what effect, if any, market sales of securities held by our significant shareholders or any other shareholder, or the availability of these securities for future sale, will have on the market price of the ADSs.

 

Holders of ADSs have fewer rights than shareholders and must act through the depositary to exercise their rights.

 

Holders of ADSs do not have the same rights as our registered shareholders. As a holder of our ADSs, you will not have any direct right to attend general meetings of our shareholders or to cast any votes at such meetings. As an ADS holder, you will only be able to exercise the voting rights carried by the underlying ordinary shares indirectly by giving voting instructions to the depositary in accordance with the provisions of the deposit agreement. Under the deposit agreement, you may vote only by giving voting instructions to the depositary. Upon receipt of your voting instructions, the depositary will try, as far as is practicable, to vote the ordinary shares underlying your ADSs in accordance with your instructions. If we ask for your instructions, then upon receipt of your voting instructions, the depositary will try to vote the underlying ordinary shares in accordance with these instructions. If we do not instruct the depositary to ask for your instructions, the depositary may still vote in accordance with instructions you give, but it is not required to do so. You will not be able to directly exercise your right to vote with respect to the underlying ordinary shares unless you withdraw the shares, and become the registered holder of such shares prior to the record date for the general meeting. When a general meeting is convened, you may not receive sufficient advance notice of the meeting to withdraw the shares underlying your ADSs and become the registered holder of such shares to allow you to attend the general meeting and to vote directly with respect to any specific matter or resolution to be considered and voted upon at the general meeting. In addition, under our memorandum and articles of association currently in effect, for the purposes of determining those shareholders who are entitled to attend and vote at any general meeting, our directors may close our register of members and/or fix in advance a record date for such meeting, and such closure of our register of members or the setting of such a record date may prevent you from withdrawing the ordinary shares underlying your ADSs and becoming the registered holder of such shares prior to the record date, so that you would not be able to attend the general meeting or to vote directly. If we ask for your instructions, the depositary will notify you of the upcoming vote and will arrange to deliver our voting materials to you. We have agreed to give the depositary notice of shareholder meetings sufficiently in advance of such meetings. Nevertheless, we cannot assure you that you will receive the voting materials in time to ensure that you can instruct the depositary to vote the underlying ordinary shares represented by your ADSs. In addition, the depositary and its agents are not responsible for failing to carry out voting instructions or for their manner of carrying out your voting instructions. This means that you may not be able to exercise your right to direct how the shares underlying your ADSs are voted and you may have no legal remedy if the shares underlying your ADSs are not voted as you requested. In addition, in your capacity as an ADS holder, you will not be able to call a shareholders’ meeting.

 

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Except in limited circumstances, the depositary for our ADSs gives us a discretionary proxy to vote the ordinary shares underlying your ADSs if you do not vote at shareholders’ meetings, which could adversely affect your interests.

 

Under the deposit agreement for the ADSs, if you do not vote, the depositary gives us a discretionary proxy to vote the ordinary shares underlying your ADSs at shareholders’ meetings unless:

 

·                  we have instructed the depositary that we do not wish a discretionary proxy to be given;

 

·                  we have informed the depositary that there is substantial opposition as to a matter to be voted on at the meeting;

 

·                  a matter to be voted on at the meeting would have a material adverse impact on shareholders; or

 

·                  the voting at the meeting is to be conducted via a show of hands unless voting by poll is required by the applicable listing rules or our articles of association.

 

The effect of this discretionary proxy is that you cannot prevent our ordinary shares underlying your ADSs from being voted, except under the circumstances described above. This may make it more difficult for shareholders to influence the management of our company. In contrast, holders of our ordinary shares will not be subject to this discretionary proxy.

 

You may not receive distributions on the ADSs or any value for them if such distribution is illegal or impractical or if any required government approval cannot be obtained in order to make such distribution available to you.

 

Although we do not have any present plan to pay any dividends, the depositary of the ADSs has agreed to pay to you the cash dividends or other distributions it or the custodian receives on ordinary shares or other deposited securities underlying the ADSs, after deducting its fees and expenses and any applicable taxes and governmental charges. You will receive these distributions in proportion to the number of ordinary shares your ADSs represent. However, the depositary is not responsible if it decides that it is unlawful or impractical to make a distribution available to any holders of ADSs. For example, it would be unlawful to make a distribution to a holder of ADSs if it consists of securities whose offering would require registration under the Securities Act but are not so properly registered or distributed under an applicable exemption from registration. The depositary may also determine that it is not reasonably practicable to distribute certain property. In these cases, the depositary may determine not to distribute such property. We have no obligation to register under the U.S. securities laws any offering of ADSs, ordinary shares, rights or other securities received through such distributions. We also have no obligation to take any other action to permit the distribution of ADSs, ordinary shares, rights or anything else to holders of ADSs. This means that you may not receive distributions we make on our ordinary shares or any value for them if it is illegal or impractical for us to make them available to you. These restrictions may cause a material decline in the value of the ADSs.

 

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Your right to participate in any future rights offerings may be limited, which may cause dilution to your holdings.

 

We may from time to time distribute rights to our shareholders, including rights to acquire our securities. However, we cannot make rights available to you in the United States unless we register the rights and the securities to which the rights relate under the Securities Act or an exemption from the registration requirements is available. Also, under the deposit agreement, the depositary bank will not make rights available to you unless either both the rights and any related securities are registered under the Securities Act, or the distribution of them to ADS holders is exempted from registration under the Securities Act. We are under no obligation to file a registration statement with respect to any such rights or securities or to endeavor to cause such a registration statement to be declared effective. Moreover, we may not be able to establish an exemption from registration under the Securities Act. If the depositary does not distribute the rights, it may, under the deposit agreement, either sell them, if possible, or allow them to lapse. Accordingly, you may be unable to participate in our rights offerings and may experience dilution in your holdings.

 

We may be classified as a passive foreign investment company, which could result in adverse U.S. federal income tax consequences to U.S. holders of the ADSs or ordinary shares.

 

Depending upon the value of the ADSs and ordinary shares and the nature and composition of our assets and income over time, we could be classified as a passive foreign investment company, or PFIC, for U.S. federal income tax purposes. Based on the value of our outstanding ADSs and ordinary shares and the composition of our assets and income, we do not believe we were a PFIC for the taxable year ending December 31, 2020. However, there can be no assurance that we will not be a PFIC for the current taxable year. In addition, there can be no assurance that we will not be a PFIC for any future taxable year. PFIC status is a factual determination that must be tested each taxable year and will depend on the composition of our assets and income in each such taxable year.

 

We will be classified as a PFIC for any taxable year if either (i) at least 75% of our gross income for the taxable year is passive income or (ii) at least 50% of the value of our assets (based on a quarterly value of the assets during the taxable year) is attributable to assets that produce or are held for the production of passive income. In determining the average percentage value of our gross assets, the aggregate value of our assets will generally be deemed to be equal to our market capitalization (determined by the sum of the aggregate values of our outstanding equity) plus our liabilities. Accordingly, we could become a PFIC if our market capitalization were to decrease significantly while we hold substantial cash, cash equivalents or other assets that produce or are held for the production of passive income. In addition, because there are uncertainties in the application of the relevant PFIC rules, it is possible that the Internal Revenue Service, or IRS, may challenge our classification of certain income and assets as non-passive or our valuation of our tangible and intangible assets, which could result in a determination that we were a PFIC for the current or subsequent taxable years.

 

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If we were classified as a PFIC in any taxable year in which a U.S. Holder (as defined in “Item 10. Additional Information—10.E. Taxation—United States Federal Income Taxation”) holds the ADSs or ordinary shares, the U.S. Holder would generally be subject to additional taxes and interest charges on certain “excess distributions” we make and on the gain, if any, recognized on the disposition or deemed disposition of such U.S. Holder’s ADS or ordinary shares, even if we are no longer a PFIC in the year of distribution or disposition. Moreover, such U.S. Holder would also be subject to special U.S. tax reporting requirements. For more information on the U.S. tax consequences to U.S. Holders that would result from our classification as a PFIC, see “Item 10. Additional Information—10.E. Taxation—United States federal income taxation—Passive foreign investment company.”

 

You may have difficulty enforcing judgments obtained against us.

 

We are a company incorporated under the laws of the Cayman Islands, and substantially all of our assets are located outside the United States. Substantially all of our current operations are conducted in the PRC. In addition, some of our directors and officers are nationals and residents of countries other than the United States. A substantial portion of the assets of these persons are located outside the United States. As a result, it may be difficult for you to effect service of process within the United States upon these persons. It may also be difficult for you to enforce in U.S. courts judgments obtained in U.S. courts based on the civil liability provisions of the U.S. federal securities laws against us and our officers and directors, some of whom currently reside in the United States and whose assets are located outside the United States. In addition, there is uncertainty as to whether the courts of the Cayman Islands or the PRC would recognize or enforce judgments of U.S. courts against us or such persons predicated upon the civil liability provisions of the securities laws of the United States or any state.

 

The recognition and enforcement of foreign judgments are provided for under the PRC Civil Procedures Law. PRC courts may recognize and enforce foreign judgments in accordance with the requirements of the PRC Civil Procedures Law based either on treaties between China and the country where the judgment is made or on principles of reciprocity between jurisdictions. China does not have any treaties or other forms of reciprocity with the United States that provide for the reciprocal recognition and enforcement of foreign judgments. In addition, according to the PRC Civil Procedures Law, the PRC courts will not enforce a foreign judgment against us or our directors and officers if they decide that the judgment violates the basic principles of PRC laws or national sovereignty, security or public interest. As a result, it is uncertain whether and on what basis a PRC court would enforce a judgment rendered by a court in the United States.

 

You may be subject to limitations on transfers of your ADSs.

 

Your ADSs are transferable on the books of the depositary. However, the depositary may close its transfer books at any time or from time to time when it deems expedient in connection with the performance of its duties. In addition, the depositary may refuse to deliver, transfer or register transfers of ADSs generally when our books or the books of the depositary are closed, or at any time if we or the depositary deems it advisable to do so because of any requirement of law or of any government or governmental body, or under any provision of the deposit agreement, or for any other reason.

 

Your rights to pursue claims against the depositary as a holder of ADSs are limited by the terms of the deposit agreement.

 

Under the deposit agreement, any action or proceeding against or involving the depositary, arising out of or based upon the deposit agreement or the transactions contemplated thereby or by virtue of owning the ADSs may only be instituted in a state or federal court in New York, New York, and you, as a holder of our ADSs, will have irrevocably waived any objection which you may have to the laying of venue of any such proceeding, and irrevocably submitted to the exclusive jurisdiction of such courts in any such action or proceeding.

 

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ADS holders may not be entitled to a jury trial with respect to claims arising under the deposit agreement, which could result in less favorable outcomes to the plaintiff(s) in any such action.

 

The deposit agreement governing the ADSs representing our ordinary shares provides that the federal or state courts in the City of New York have exclusive jurisdiction to hear and determine claims arising under the deposit agreement and in that regard, to the fullest extent permitted by law, ADS holders waive the right to a jury trial of any claim they may have against us or the depositary arising out of or relating to our ordinary shares, the ADSs or the deposit agreement, including any claim under the U.S. federal securities laws.

 

If we or the depositary opposed a jury trial demand based on the waiver, the court would determine whether the waiver was enforceable based on the facts and circumstances of that case in accordance with the applicable state and federal law. To our knowledge, as of the date of this annual report, the enforceability of a contractual pre-dispute jury trial waiver in connection with claims arising under the federal securities laws had not been finally adjudicated by the United States Supreme Court. In determining whether to enforce a contractual pre-dispute jury trial waiver provision, courts will generally consider whether a party knowingly, intelligently and voluntarily waived the right to a jury trial. We believe that a contractual pre-dispute jury trial waiver provision is generally enforceable, including under the laws of the State of New York, which govern the deposit agreement. It is advisable that you consult legal counsel regarding the jury waiver provision before investing in the ADSs.

 

If you or any other holders or beneficial owners of ADSs bring a claim against us or the depositary in connection with matters arising under the deposit agreement or the ADSs, including claims under federal securities laws, you or such other holder or beneficial owner may not be entitled to a jury trial with respect to such claims, which may have the effect of limiting and discouraging lawsuits against us and / or the depositary. If a lawsuit is brought against us and/or the depositary under the deposit agreement, it may be heard only by a judge or justice of the applicable trial court, which would be conducted according to different civil procedures and may result in different outcomes than a trial by jury would have had, including results that could be less favorable to the plaintiff(s) in any such action.

 

Nevertheless, if this jury trial waiver provision is not enforced, to the extent a court action proceeds, it would proceed under the terms of the deposit agreement with a jury trial. No condition, stipulation or provision of the deposit agreement or ADSs serves as a waiver by any holder or beneficial owner of ADSs or by us or the depositary of compliance with any substantive provision of the U.S. federal securities laws and the rules and regulations promulgated thereunder.

 

Techniques employed by short sellers may drive down the market price of the ADSs.

 

Short selling is the practice of selling securities that the seller does not own but rather has borrowed from a third party with the intention of buying identical securities back at a later date to return to the lender. The short seller hopes to profit from a decline in the value of the securities between the sale of the borrowed securities and the purchase of the replacement shares, as the short seller expects to pay less in that purchase than it received in the sale. As it is in the short seller’s interest for the price of the security to decline, many short sellers publish, or arrange for the publication of, negative opinions regarding the relevant issuer and its business prospects in order to create negative market momentum and generate profits for themselves after selling a security short. These short attacks have, in the past, led to selling of shares in the market.

 

Public companies that have substantially all of their operations in China have been the subject of short selling. Notably, short sellers issued negative research reports about certain public companies based in China in early 2020, which attracted much attention of global investors. Much of the scrutiny and negative publicity has centered on allegations of a lack of effective internal control over financial reporting resulting in financial and accounting irregularities and mistakes, inadequate corporate governance policies or a lack of adherence thereto and, in many cases, allegations of fraud. As a result, many of these companies are now conducting internal and external investigations into the allegations and, in the interim, are subject to shareholder lawsuits and/or SEC enforcement actions.

 

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It is not clear what effect such negative publicity could have on us. The negative publicity against other public companies based in China could also harm investors’ confidence in Chinese companies in general, and thus affect our reputation and the market price of our ADSs. If we were to become the subject of any unfavorable allegations, whether such allegations are proven to be true or untrue, we could have to expend a significant amount of resources to investigate such allegations and/or defend ourselves. While we would strongly defend against any such short seller attacks, we may be constrained in the manner in which we can proceed against the relevant short seller by principles of freedom of speech, applicable state law or issues of commercial confidentiality. Such a situation could be costly and time-consuming, and could distract our management from growing our business. Even if such allegations are ultimately proven to be groundless, allegations against us could severely impact our business operations, and any investment in the ADSs could be greatly reduced or even rendered worthless.

 

Item 4.                                 Information on the Company

 

4.A.         History and Development of the Company

 

We commenced operations in 1997 through Shenzhen Pengcheng Clinic, which became Pengcheng Hospital in 2003. Since then, we have expanded our business operations through acquisitions and organic growth. In particular, we established our second flagship hospital, Shenzhen Pengai Hospital, in 2005.

 

In May 2011, our company was incorporated in the Cayman Islands under the name of Pengai Hospital Management Corporation as our offshore holding company. Following certain name changes, our company changed its name to Aesthetic Medical International Holdings Group Limited in July 2018.

 

Peng Oi Investment (Hong Kong) Holdings Limited (formerly known as Peng Cheng Investment (Hong Kong) Holdings Limited) was incorporated in Hong Kong in July 2004. In July 2011, we acquired the entire equity interest in Peng Oi Investment (Hong Kong) Holdings Limited from Dr. Zhou Pengwu and Ms. Ding Wenting.

 

Dragon Jade Holdings Limited was incorporated in the British Virgin Islands, or the BVI in January 2014. Later in 2014, we transferred to Dragon Jade Holdings Limited our entire equity interest in Peng Oi Investment (Hong Kong) Holdings Limited in exchange for Dragon Jade Holdings Limited to issue and allot one fully paid share of US$1.00 to our company. Upon completion of the share swap, Dragon Jade Holdings Limited became a direct wholly-owned subsidiary of our company.

 

Peng Yida Business Consulting (Shenzhen) Co., Ltd. is a direct wholly-owned subsidiary of Peng Oi Investment (Hong Kong) Holdings Limited, which was established in the PRC in December 2010.

 

Shenzhen Pengai Hospital Investment Management Co., Ltd. (formerly known as Shenzhen Pengcheng Hospital Investment Co., Ltd.), or Shenzhen Pengai Investment, is a direct wholly-owned subsidiary of Peng Yida Business Consulting (Shenzhen) Co., Ltd., which was established in the PRC in December 2004. Shenzhen Pengai Investment is the holding company of our operating subsidiaries in the PRC.

 

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We acquired the entire equity interest in Newa Medical Aesthetics Limited in October 2015 to further extend our footprint to Hong Kong.

 

We incorporated Stargaze Wealth Limited in the BVI in April 2017 and Aesthetic Medical International Holdings (Singapore) Pte. Ltd., formerly known as China Aesthetic Healthcare Holding (Singapore) Pte. Ltd., in Singapore in May 2017 to invest in our Singapore medical center. As of the date of this annual report, we owned 44.4% of equity interest in Singapore Mendis.

 

We have continuously expanded our footprint by investment in new treatment centers or acquisition of existing ones. In 2019, we established five and acquired three new treatment centers (in two of which we held minority equity interest before 2019) in cooperation with business partners. In 2020, we established one and acquired four new treatment centers, excluding treatment centers from Hanfei. For example, in November 2019, Nanchang Pengai Xiuqi was established with a registered capital of RMB15.0 million, which will replace Nanchang Pengai Aesthetic Medical Clinic Co., Ltd., or Nanchang Pengai, as we aim to enhance our business footprint in Jiangxi Province. As of the date of this annual report, we have a strategically established network, comprising 28 treatment centers including 27 wholly or majority owned centers. Our treatment centers spread across 18 cities in mainland China, and we also have presence in Hong Kong and Singapore. All of our treatment centers are wholly or majority owned with the exception of Mendis Aesthetics Pte. Ltd. or Singapore Mendis. We have completed the transfer of our equity interest in each of Baotou Pengai and Yinchuan Pengai to a business partner as part of our region development plan, which are not counted in the number of our treatment centers in this annual report.

 

4.B.         Business Overview

 

Mission

 

Our mission is to bring beauty, health and confidence to everyone by delivering safe, high quality aesthetic medical services. We plan to achieve the mission by maintaining and strengthening our leading market position and brand in the aesthetic medical treatment market in China and by growing our presence globally.

 

Overview

 

We are a leading provider of aesthetic medical services in China. Leveraging over 20 years of clinical experience, we provide one-stop aesthetic service offerings that include (1) surgical aesthetic treatments, such as eye surgery, rhinoplasty, breast augmentation and liposuction, (2) non-surgical aesthetic treatments which comprise minimally invasive treatments and energy-based treatments such as laser, ultrasound and ultraviolet light treatments, and (3) other aesthetic services such as cosmetic dentistry, as well as general medical services. As one of the market leaders in China, we believe we are well-positioned to benefit from the favorable tailwinds, including growing social acceptance of aesthetic medical services.

 

We generate our revenue primarily from providing aesthetic treatments. We have grown our network significantly since our operation commenced in 1997. As of the date of this annual report, we have a strategically established network comprising 28 treatment centers (including 27 wholly or majority owned centers). Our treatment centers spread across 18 cities in China, and we also have presence in Hong Kong and Singapore. As we continue to expand our network, one of our core business strategies is to develop our “flagship” medical institutions, which are typically large-scale full-service treatment centers that contribute a significant proportion of our revenue and are staffed with our most experienced doctors. We believe that developing flagship medical institutions will not only improve our brand awareness in the surrounding area, but also enable us to provide high-end, specialized, and complex medical services to customers referred from smaller-scale treatment centers within our network. We currently have three flagship medical institutions, i.e., Pengcheng Hospital, Shenzhen Pengai and Chongqing Pengai. Our scalable business model is built on our highly standardized operating procedures across a centralized network, which we believe has allowed us to quickly and successfully expand. We intend to continue to expand our network into new cities throughout China and selected global markets through organic growth as well as strategic acquisitions, and strategically focus more on regions in the southwest, southern and eastern parts of China, where we see larger growth potential.

 

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Since our inception, we have been committed to delivering high quality services to our customers. Our doctors have rich experience in providing both surgical and non-surgical aesthetic medical services, with an average industry experience of approximately ten years as of December 31, 2020. We believe our team of highly qualified and experienced medical professionals, as well as our stringent safety controls, have underpinned our strong reputation as we continue to attract and retain customers and receive industry recognition for our high quality services. We have received a number of high-profile awards, including “the Most Prestigious Aesthetic Medical Services Beauty Brand in 2016” by the Tencent Network and “the Aesthetic Medical Services Brand of Technological Innovation in 2016” by Hong Kong WenWeiPo newspapers. In 2020, we co-published the 2020 White Paper for the Aesthetic Medical Service Industry in China, along with Forbes China, which was a recognition of our leading position in the industry.

 

Business model

 

We generate revenue primarily from our core business providing surgical aesthetic treatment services and non-surgical aesthetic treatment services, comprising minimally invasive treatments and energy-based treatments (surgical and non-surgical treatments together contributed to 90.3%, 93.1% and 94.7% of our revenue in 2018, 2019 and 2020, respectively), as well as non-core business providing general healthcare and other aesthetic services (contributed to 9.7%, 6.9% and 5.3% of our revenue in 2018, 2019 and 2020, respectively). We offer a wide range of surgical and non-surgical aesthetic treatments to cater to the various needs of our customers. The following table sets forth our revenue by service offering for the years indicated:

 

 

 

For the year ended December 31,

 

 

 

2018

 

2019

 

2020

 

 

 

RMB

 

 

 

RMB

 

US$

 

 

 

RMB

 

US$

 

 

 

 

 

(in thousands, except percentages)

 

Non-surgical aesthetic medical services

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Minimally invasive aesthetic treatments

 

199,119

 

26.2

%

224,208

 

32,205

 

25.7

%

234,562

 

35,948

 

26.0

%

Energy-based treatments

 

174,229

 

22.9

%

265,361

 

38,117

 

30.5

%

218,108

 

33,427

 

24.2

%

Sub-total

 

373,348

 

49.1

%

489,569

 

70,322

 

56.2

%

452,670

 

69,375

 

50.2

%

Surgical aesthetic medical services

 

313,897

 

41.2

%

319,239

 

45,856

 

36.7

%

401,645

 

61,555

 

44.5

%

General healthcare services and other aesthetic medical services

 

74,061

 

9.7

%

60,242

 

8,653

 

6.9

%

47,258

 

7,242

 

5.3

%

Total

 

761,306

 

100.0

%

869,050

 

124,831

 

100.0

%

901,573

 

138,172

 

100.0

%

 

In addition, the following table sets forth our other key operating metrics, such as the number of procedures performed and the average spending per aesthetic procedure, for the years indicated:

 

 

 

For the year ended December 31,

 

Key operating metrics

 

2018

 

2019

 

2020

 

Number of doctors

 

187

 

211

 

230

 

Number of surgical treatments

 

63,553

 

90,658

 

92,922

 

Average spending per surgical procedure (in RMB)

 

4,939

 

3,521

 

3,140

 

Number of non-surgical treatments

 

235,367

 

404,316

 

413,235

 

Average spending per non-surgical procedure (in RMB)

 

1,586

 

1,211

 

928

 

Total number of aesthetic treatments

 

298,920

 

494,974

 

506,157

 

% surgical treatments

 

21.3

%

18.3

%

18.4

%

% non-surgical treatments

 

78.7

%

81.7

%

81.6

%

 

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Overview of aesthetic services

 

Non-surgical aesthetic medical services

 

Our non-surgical aesthetic medical services primarily comprise (1) minimally invasive aesthetic treatments and (2) energy-based treatments. Depending on the complexity, materials used and scope of the procedure, our treatments vary significantly in price. The following table provides a summary of the key services we provide and information in 2020.

 

Treatment

 

Description

 

Price range per
standard
procedure
(RMB)

 

Minimally invasive

 

 

 

 

 

Body/face sculpting—Wrinkle

 

The process of injecting BOTOX®, hyaluronic acid, autologous fat and other materials into the face and body to reduce the appearance of wrinkles

 

2000 - 39,800

 

Body/face sculpting—Injection

 

The process of injecting BOTOX®, hyaluronic acid, autologous fat and other materials into the face and body to change their shape

 

980 - 39,800

 

Body/face thread lifts

 

Procedure of inserting special threads under the skin surface in order to lift targeted areas of the face and body (e.g. 1IftZVIA)

 

9,800 - 39,800

 

Energy-based

 

 

 

 

 

Hair removal

 

Procedure to remove unwanted hair using energy-based technology such as lasers that destroys hair follicles

 

200 - 2,000

 

Skin tightening/lifting/ resurfacing

 

Procedure that uses a laser to tighten skin by heating the collagen under the skin’s surface, which causes the skin to contract and treatment to reduce wrinkles and skin irregularities

 

1,500 - 29,800

 

Spot removal

 

Treatment using energy-based to remove pigmented blemishes including age spots, birthmarks and moles

 

300 - 3,000

 

 

To ensure the consistency quality and safety in our procedures, we utilize a standardized process for the treatments. These aesthetic procedures are typically completed within one hour, with recovery time of up to one week, depending on the type of procedure and the customer’s physical conditions.

 

Minimally invasive aesthetic treatments

 

Minimally invasive aesthetic treatments are non-surgical procedures that can help individuals improve their appearance with minimal or no incisions. These treatments are typically performed in one to two hours with minimal pain and mild bruising or swelling, whilst achieving immediate effects. Recovery time varies depending upon the service type, but generally the healing period is between one to two weeks.

 

To ensure consistency of quality and safety, all our injection treatments follow a standardized procedure that involves the application of numbing cream, disinfection of the treatment area which has been identified and marked by our doctors and injection at the treatment area with a sterilized syringe. After the injection, the treated area is cleaned, shaped and iced.

 

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Energy-based treatments

 

We offer a range of energy-based treatments using high-grade equipment from China, Germany, Israel and the United States. Our standardized procedures for energy-based treatments, which typically take less than one hour, involve the following steps: disinfection and application of numbing cream or anesthetic to the treatment area, methodical application of the energy-based treatment, including testing on a small area before adjusting the level of energy-based intensity accordingly. To achieve and maintain optimal results, customers may choose to repeat the procedure, depending on the type of procedure and customer reaction to the treatment.

 

Surgical aesthetic medical services

 

We provide customary surgical aesthetic medical services, including double eye lid surgery, rhinoplasty, breast augmentation, liposuction and facelifts, among others. Surgical aesthetic treatments typically involve local or full anesthesia, and an extended recovery time. All of our surgical aesthetic treatments are performed in fully equipped operating rooms in our treatment centers. Depending on the complexity of the procedure and the physicians involved, our treatments vary significantly in price. The following table sets forth our main surgical aesthetic treatments and information in 2020.

 

Treatment

 

Description

 

Price range per
standard
procedure
(RMB)

 

Eye surgery

 

Change the shape or appearance of the eyes, eyelids

 

2,800 - 19,800

 

Nose surgery / rhinoplasty

 

Change the shape or appearance of the nose by adding fillers or cartilage

 

4,800 – 39,800

 

Breast augmentation

 

Procedures designed to enlarge/reduce or change the shape of the breasts

 

19,800 - 68,000

 

Liposuction

 

Procedure in which excess fatty tissue is removed from a specific part of the body through suction

 

5,800 - 39,800

 

 

Due to their complexity, we require all our surgical aesthetic treatments to be attended (or performed) by doctors with a high level of experience. To ensure the consistency of quality and safety in our procedures we utilize a standardized process for the treatment. These procedures are typically completed within one to three hours, with recovery time ranging from one to 12 months, depending on the type of procedure and the customer’s physical conditions.

 

General healthcare services and other aesthetic medical services

 

We provide a range of medical services through our Pengcheng Hospital, primarily in internal medicine and traditional Chinese medicine. We also provide other aesthetic medical services, primarily in aesthetic dentistry, aesthetic traditional Chinese medicine and hair loss treatments. Our aesthetic traditional Chinese medical treatments, unlike western medical treatments, which are clinically proven, include herbal oral medications, dietary advice, herbal poultices and foot baths, ultraviolet negative ion beauty treatments, ultrasounds, iontophoresis (use of local electric current) and acupuncture, cupping, massage and skin scraping (known as “gua sha” in China). Historically we have provided additional general healthcare services, including otolaryngology, bromhidrosis treatment and abortion, which we have discontinued.

 

Aesthetic services process

 

We have developed, improved and implemented highly standardized operational procedures across our treatment centers through years of industry experience and accumulated know-how. Our process focuses on providing customized services and high quality customer experiences. The following diagram illustrates a typical aesthetic service process, which involves image consultants, doctors, nurses and customer service personnel.

 

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Our treatment centers

 

As of the date of this annual report, we have an extensive presence in China, with locations in 18 cities. All of our treatment centers are wholly or majority owned with the exception of Singapore Mendis. The following map illustrates our network in China as well as our locations in Hong Kong and Singapore.

 

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In addition to the network in China, we have entered the Hong Kong and Singapore markets, with the acquisition of Hong Kong Newa and investment in Singapore Mendis in 2015 and 2017, respectively.

 

Our current network comprises 28 treatment centers across China, Hong Kong and Singapore, including three flagship hospitals. Based on relevant Chinese regulations, the treatment centers in our network can be classified as the following:

 

·      Hospital, which meets the minimum standard for Grade I general hospital, including certain prescribed clinical and medical departments, and medical personnel requirements; or

 

·      General outpatient clinic, which meets certain prescribed clinical department and medical personnel requirements and typically comprises aesthetic treatment consultation rooms, aesthetic surgery, aesthetic dermatology and dentistry, amongst other departments.

 

For more information on the definitions of each type of medical institution, please refer to “—Regulation—Regulations on the administration and classification of medical institutions.” In addition to 27 of our wholly or majority owned treatment centers, we also own minority stakes in Singapore Mendis.

 

One of our core strategies is to develop our flagship hospitals, which are large-scale, full-service hospitals located at the epicenter of our regional network hubs and accompanied by our smaller-scale treatment centers in the surrounding vicinity. Our flagship hospitals contribute a meaningful proportion of our revenue and are staffed with our most experienced doctors.

 

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The premises of the majority of our treatment centers are leased, while Pengai Huizhou and part of Pengcheng Hospital are our owned properties. The following table provides a summary of our treatment centers, including key operational data, as of December 31, 2020.

 

Treatment center(13)

 

Acquired /
invested

 

Date of
establishment /
acquisition /
investment

 

Classification
in accordance
with Chinese
regulation

 

GFA
(sq.m.)

 

Beneficial
Interest

 

Pengcheng Hospital(L)(1)

 

Established

 

December 2003

 

Hospital

 

8,391

 

100.0

%

Shenzhen Pengai(L)(1)

 

Established

 

November 2005

 

Hospital

 

6,182

 

100.0

%

Haikou Pengai(M)

 

Established

 

March 2011

 

Hospital

 

2,169

 

87.0

%

Huizhou Pengai(M)

 

Established

 

June 2011

 

Hospital

 

1,670

 

65.5

%

Nanchang Pengai(M)

 

Established

 

September 2011

 

General outpatient clinic

 

N/A

 

51.0

%

Changsha Pengai(L)

 

Acquired

 

June 2013

 

Hospital

 

2,459

 

79.0

%(2)

Shanghai Pengai(L)

 

Acquired

 

January 2014

 

General outpatient clinic

 

1,048

 

80.0

%(3)

Hangzhou Pengai(M)

 

Established

 

July 2014

 

General outpatient clinic

 

1,446

 

100.0

%(4)

Hong Kong Newa(S)

 

Acquired

 

October 2015

 

N/A

 

127

 

100.0

%

Chongqing Pengai(L)(1)

 

Established

 

November 2015

 

Hospital

 

3,658

 

100.0

%(5)

Guangzhou Pengai(L)

 

Acquired

 

May 2017

 

Hospital

 

2,600

 

91.0

%(6)

Shenzhen Pengai Xiuqi(M)

 

Established

 

May 2017

 

Hospital

 

1,902

 

89.0

%(7)

Shenzhen Pengai Yueji(M)

 

Acquired

 

July 2017 (date of initial investment)

 

Hospital

 

1,806

(12)

60.0

%

Singapore Mendis(S)

 

Invested

 

November 2017

 

N/A

 

125

 

44.44

%

Chengdu Pengai(M)

 

Acquired

 

December 2017

 

General outpatient clinic

 

1,800

 

70.0

%

Shenzhen Pengai Yuexin(L)

 

Acquired

 

April 2018 (date of initial investment)

 

Hospital

 

4,474

 

60.0

%

Yantai Pengai Jiayan(M)

 

Established

 

June 2018

 

Hospital

 

1,983

 

89.0

%(8)

Jinan Pengai(M)

 

Acquired

 

January 2019

 

Hospital

 

2,200

 

95.0

%(9)

Ninghai Pengai(S)

 

Established

 

April 2019

 

General outpatient clinic

 

670

 

51.0

%

Ningbo Fenghua Pengai(S)

 

Established

 

October 2019

 

General outpatient clinic

 

138

 

51

%

Deqing Pengai(S)

 

Established

 

October 2019

 

General outpatient clinic

 

129

 

51

%

Ningbo Beilun Pengai(S)

 

Established

 

November 2019

 

General outpatient clinic

 

858

 

51

%

Nanchang Pengai Xiuqi(M)

 

Established

 

November 2019

 

Hospital

 

2,650

 

70

%

Shanghai Jiahong (formerly known as Shanghai Mingyue Yueji)(M)

 

Acquired

 

March 2020

 

General outpatient clinic

 

1,097

 

68

%

Xi’an New Pengai Yueji(M)

 

Acquired

 

April 2020

 

General outpatient clinic

 

827

 

70

%

Jinhua Pengai(S)

 

Established

 

August 2020

 

General outpatient clinic

 

192

 

51

%

Kunming Liangyan Investment management(S)

 

Acquired

 

September 2020

 

General outpatient clinic

 

573

 

80

%(10)

Kunming Liangyan aesthetic medical(S)

 

Acquired

 

September 2020

 

General outpatient clinic

 

1,816

 

39.5

%(10)

Beijing Haiyue Xingguang(S)

 

Acquired

 

January 2021

 

General outpatient clinic

 

392

 

95.0

%(11)

 


Notes:

 

*                  To streamline the management of our network of treatment centers, we strategically categorize our treatment centers based on a number of factors, including, among other things, the cities they are located in and the size of the treatment centers. In the table above, large, medium and smaller treatment centers are denoted with (L), (M) and (S), respectively.

 

(1)          Indicates flagship hospitals.

 

(2)          Includes 9.0% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangements.

 

(3)          Includes 10.0% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangements.

 

(4)          Includes 30% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangements.

 

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(5)          Includes 30% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangements.

 

(6)          Includes 21% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangements.

 

(7)          Includes 22.0% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangements.

 

(8)          Includes 24.0% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangements.

 

(9)          Includes 25.0% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangements.

 

(10)    Includes 10.0% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangementssubject to the completion of registration of share transfer to Dr. Zhou and the equity pledge.

 

(11) Includes 25.0% equity interest held by Dr. Zhou Pengwu, for which we are entitled to relevant economic benefits pursuant to the Contractual Arrangementssubject to the completion of registration of share transfer to Dr. Zhou and the equity pledge.

 

(12)    We did not renew our lease for the site of Shenzhen Pengai Yueji, which expired on December 31, 2020 the operation of Shenzhen Pengai Yueji is currently on hold.

 

(13)    English names of treatment centers for the indicative purpose only.

 

In 2020, we generated 67.3% of our revenue from our top five treatment centers. The following table sets forth the revenue from these five treatment centers in 2018, 2019 and 2020.

 

 

 

For the year ended December 31,

 

 

 

2018

 

2019

 

2020**

 

 

 

RMB
(in thousands)

 

%

 

RMB
(in thousands)

 

%

 

RMB
(in thousands)

 

USD
(in thousands)

 

%

 

Shenzhen Pengai*

 

219,398

 

28.8

%

219,780

 

25.3

%

190,166

 

29,144

 

26.4

%

Pengcheng Hospital*

 

197,471

 

25.9

%

211,891

 

24.4

%

171,840

 

26,336

 

23.9

%

Changsha Pengai

 

51,469

 

6.8

%

68,288

 

7.9

%

59,407

 

9,105

 

8.2

%

Chongqing Pengai*

 

37,166

 

4.9

%

53,701

 

6.2

%

 

 

 

 

 

 

Huizhou Pengai

 

33,996

 

4.5

%

35,184

 

4.0

%

 

 

 

 

 

 

Shenzhen Yuexin

 

 

 

 

 

 

 

 

 

33,157

 

5,082

 

4.6

%

Shanghai Pengai Jiayan

 

 

 

 

 

 

 

 

 

29,839

 

4,573

 

4.1

%

Subtotal top five treatment centers

 

539,500

 

70.9

%

588,844

 

67.8

%

484,409

 

74,239

 

67.3

%

Total

 

761,306

 

100

%

869,050

 

100

%

720,202

 

110,376

 

100

%

 


*                 Indicates flagship hospitals

**          Without considering the one-off impact from Hanfei

 

Summary information on our flagship hospitals

 

Shenzhen Pengai

 

Founded in November 2005, Shenzhen Pengai Hospital was established as our second flagship hospital and was our largest revenue contributor in 2020. Shenzhen Pengai Hospital has a gross floor area of approximately 6,182 sq.m. with seven surgical rooms, five energy-based rooms and 25 treatment rooms. As of December 31, 2020, Shenzhen Pengai Hospital had seven major departments including plastic surgery, aesthetic dermatology, aesthetic traditional Chinese medicine, aesthetic dentistry, anesthesiology, medical laboratory, and medical imaging.

 

Shenzhen Pengai Hospital serves as the training base for the Dalian Medical University College of Aesthetic and Plastic Surgery. As of December 31, 2020, Shenzhen Pengai Hospital had 273 employees, including 27 doctors, 52 nurses, 20 other medical staff and 174 non-medical staff.

 

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Pengcheng Hospital

 

Founded in 1997, Pengcheng Hospital became our first flagship hospital in 2003 to provide both aesthetic medical services and general healthcare and other aesthetic services. Pengcheng Hospital was also our second largest revenue contributor in 2020. As of the date of this annual report, this treatment center has a gross floor area of approximately 8,391 sq.m. with seven surgical rooms, nine energy-based treatment rooms and 27 treatment rooms. It is equipped with advanced medical devices, such as Thermage radiofrequency systems, Body-Jet liposuction systems and Aesculap flexible neuroendoscopy systems. As of December 31, 2020, Pengcheng Hospital had 21 major clinical departments, including plastic surgery, aesthetic dermatology, aesthetic traditional Chinese medicine, aesthetic dentistry, surgical, gynecology, internal medicine, otorhinolaryngology, laboratory testing, radiology and anesthesiology. As of December 31, 2020, Pengcheng Hospital had 360 employees, including 39 doctors, 80 nurses, 27 other medical staff and 214 non-medical staff.

 

 

Chongqing Pengai

 

Opened in November 2015, Chongqing Pengai provides both aesthetic medical services and other aesthetic services. Chongqing Pengai is our second largest treatment center by size, with gross floor area of approximately 3,658 sq.m., five surgical rooms and 20 non-surgical rooms, including 12 energy- based treatment rooms and 8 VIP treatment rooms. It is equipped with advanced medical devices across its six departments, which include plastic surgery, aesthetic dermatology, aesthetic traditional Chinese medicine, aesthetic dentistry and others. As of December 31, 2020, Chongqing Pengai had 117 employees, including six doctors, 16 nurses, 11 other medical staff and 84 non-medical staff.

 

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Integration

 

Efficient and effective integration of new treatment centers into our network is an important component of our business strategies and a driver of our success. Crucial to successful integration of acquired treatment centers is our post-acquisition integration plan, which involves a dedicated post-acquisition taskforce that conducts a detailed review of the acquired treatment center’s equipment, systems and personnel. In particular, we focus on ensuring that the medical professionals at the acquired treatment centers comply with our group-wide protocols and meet our quality standards. In order to retain these personnel, we offer a compelling employment package that includes ongoing training and a performance-based compensation scheme that aligns their interest with those of the treatment centers.

 

Aside from service protocols and quality of staff, we also maintain standardized indoor decor to lend consistency to the look and feel of our treatment centers. We regularly review and adjust the mix and focus of clinical departments to leverage each treatment center’s unique strengths to enhance its reputation and profile.

 

Our customers

 

Our customers are primarily female individuals residing in China. The majority of our customers are aged between 23 and 30, and this age cohort represented 44.3% of our customer base in 2020, while customers in the 16 to 22, 31 to 40 and above 40 age cohorts represented 11.7%, 29.2% and 14.8% of our customer base in 2020, respectively.

 

The following table provides a snapshot of our active customer base.