Crypto Flow Technology Limited — Annual Report 2003

Mar 25, 2004

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Wafer Systems Limited 威發系統有限公司[*]

(Incorporated in the Cayman Islands with limited liability)

(Stock Code: 8198)

ANNUAL RESULTS ANNOUNCEMENT FOR THE YEAR ENDED 31 DECEMBER 2003

CHARACTERISTICS OF THE GROWTH ENTERPRISE MARKET (“GEM”) OF THE STOCK EXCHANGE OF HONG KONG LIMITED (THE “STOCK EXCHANGE”)

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Given the emerging nature of companies listed on GEM, there is a risk that securities traded on GEM may be more susceptible to high market volatility than securities traded on the main board and no assurance is given that there will a liquid market in the securities traded on GEM.

The principal means of information dissemination on GEM is publication on the internet website operated by the Exchange. GEM-listed companies are not generally required to issue paid announcements in gazetted newspapers. Accordingly, prospective investors should note that they need to have access to the GEM website at www.hkgem.com in order to obtain up-to-date information on GEM-listed issuers.

The Stock Exchange takes no responsibility for the contents of this report, makes no representation as to its accuracy or completeness and expressly disclaims any liability whatsoever for any loss howsoever arising from or in reliance upon the whole or any part of the contents of this report.

This announcement, for which the directors of the Company (the “Director(s)”) collectively and individually accept full responsibility, includes particulars given in compliance with the Rules Governing the Listing of Securities on the Growth Enterprise Market of The Stock Exchange of Hong Kong Limited (“GEM Listing Rules”) for the purpose of giving information with regard to the Company. The Directors, having made all responsible enquiries, confirm that, to the best of their knowledge and belief: (i) the information contained in this announcement is accurate and complete in all material respects and not misleading; (ii) there are no other matters the omission of which would make any statement in this announcement misleading; and (iii) all opinions expressed in this announcement have been arrived at after due and careful consideration and are founded on bases and assumptions that are fair and reasonable.

* For identification purpose only

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CHAIRMAN’S STATEMENT

To Our Shareholders

For and on behalf of the board of Directors (the “Board”), I am pleased to present the annual results of Wafer Systems Limited (the “Company”) and its subsidiaries (collectively, “Wafer Systems” or the “Group”) for the year ended 31 December 2003 (the “Review Period”).

During 2003, challenges and opportunities co-existed in the markets where Wafer Systems operates. The economy was hit hard by the SARS epidemic from April to June of 2003 in the Greater China region, hampering the pace of recovery in the network infrastructure industry. With the effective measures taken by governments, the situation improved in the second half of the year. The capricious market sentiment however did not deter Wafer Systems from pursuing our business growth. On the contrary, we used the opportunity to implement a series of cost-effective operation controls, at the same time investing in our research and development capabilities of our Next Generation Network (“NGN”) business. Additionally, we are also reaching out to potential multinational corporations (“MNCs”) and telecommunication clients. Our management team also successfully demonstrated our efficacy, consolidating our established foundations and bringing in consistent improvements in our operational and financial results.

Wafer Systems marked several highlights in 2003. First of all, the Group saw a turn around to profit. Secondly, the Group gained recognition as a pioneer in NGN while at the same time establishing a comprehensive portfolio of NGN offerings. Thirdly, the MNCs business experienced healthy organic growth. Fourthly, the Group secured a strategic partnership with the China division of Cisco Systems Inc. (“Cisco”) in the service provider sector (“SP”) and developed good working relations with their Asia Pacific research and development team.

China’s economy is growing rapidly and recent economic data indicate that Hong Kong is also on the road to recovery. This, and increasing economic vitality will provide the springboard for major leaps in our future business. Wafer Systems will continue to pursue growth in the future.

Financial Performance

For the year ended 31 December 2003, the Group recorded a healthy shift in the financial results. During the year, we adjusted our business strategy and allocated more resources to the Group’s business in Professional Services and Network Software. Although the move led to an overall decline of approximately 8.0% in turnover to approximately HK$165,879,000 (2002: HK$180,333,000), the overall segmental results improved significantly over those of 2002. The Group recorded a net profit attributable to shareholders of approximately HK$857,000 during 2003 compared with a loss of approximately HK$ 5,849,000 recorded in the year ended 31 December 2002.

Mainland China continued to be the Group’s major revenue source, accounting for approximately 88.5% of the Group’s total turnover while the remaining portion of approximately 11.5% came from Hong Kong. During 2003, the Network Infrastructure business continued as the Group’s main revenue contributor, with a turnover of approximately HK$135,775,000 (2002: HK$153,650,000). However, its contribution to the Group is gradually decreasing, and accounted for approximately 81.9% of the Group’s turnover in 2003. (2002: 85.2%). The Professional Services and Network Software businesses developed rapidly during the year. The turnover generated from the Professional Services business increased by approximately 7.3% to reach approximately HK$28,241,000 (2002: HK$26,326,000), while the turnover from the Network Software business surged approximately 4.2 times to approximately HK$1,863,000 (2002: approximately HK$357,000). With the increasing demand for NGN and the Group’s successful penetration into the

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MNCs market and leading Mainland China corporations, Professional Services and Network Software businesses are expected to contribute an even larger share to both the Group’s turnover and profit in the future.

The Group continued to improve its financial resources and liquidity over the past twelve months. As at 31 December 2003, the Group had bank balances and cash totaling approximately HK$45.2 million (2002: HK$14.4 million). Total banking facilities was approximately HK$67.0 million (2002: HK$102.2million), of which approximately HK$43.0 million (2002: HK$59.4 million) had been utilized.

Final Dividend

The Board of Directors does not recommend the payment of any dividend for the year ended 31 December 2003. (2002: Nil)

Business Review

During 2003, the Group’s Network Infrastructure business successfully entered a new stage of development. The emergence of NGN has generated tremendous business opportunities for the Group. As a pioneer in the NGN business, the Group experienced strong growth in this area during the year. In partnership with Cisco Systems Inc. (“Cisco”), the Group finalized the 2nd phase of the NGN-related infrastructure project for a well-known telecommunications player in Sichuan Province in the PRC. With the successful commercialization of the project, we strengthened our position as a pioneer and leader in the market, enabling us to better grasp the buoyant business opportunities arising in the PRC market ahead.

Building on our extensive experience in the implementation of network infrastructure for the telecommunications industry, the Group is committed to help telecommunications players integrate 2.5G and CDMA telephone networks with the Internet. Currently such projects cover seven provinces and cities including Gansu, Guangxi, Guangdong, Hunan, Jilin, Xinjiang and Shenzhen in the PRC. Additionally, the Group secured a project of over HK$40 million to help Motorola Inc. integrate its mobile telephone network with the Internet, further demonstrating the Group’s niche in the telecommunications sector.

Over the past year, the Group continued to provide unique services to existing clients and at the same time successfully broadened its client base. In China, they include China Netcom Corporation Ltd., SONY (China) Ltd., Samsung Networks (Beijing) Co. Ltd., Industrial and Commercial Bank and China Wuling General Motors Co. Ltd.; and in Hong Kong New World PCS Ltd. and Galaxy Satellite Broadcasting Ltd..

Wafer Systems also possesses strong competitive advantages in network optimization & solutions. During the year, the Group’s sales of security solution projects reached HK$7 million. Large-scale organizations such as the Hospital Authority, the Information Technology Services Department, the Vocational Training Council and Hutchison Global Centre Limited in Hong Kong; and China International Capital Corporation Ltd., IBM and China AT&T demonstrated their confidence in the Group by adopting the Group’s sophisticated solutions. These contracts further strengthen the Group’s leading position in providing network optimization and security related solutions.

The Group’s Professional Services business continues to gain momentum. The steady growth of this business has been mainly fueled by MNCs and domestic enterprises, which were gradually recovering as the spectre of SARS was removed. The Group won contracts from leading enterprises such as Dow Chemicals, Sun Microcomputer Systems, Industrial and Commercial Bank of China and China Unicom, to provide our expert services during 2003.

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During the year, EMC Corporation, the world leader in information storage systems, software, networks, and services, appointed Wafer Systems as one of its Distribution Global Partner. This partnership has successfully enhanced our ability to deliver top quality and comprehensive solutions and services to our extensive client base, in particular, the banking and telecommunications sectors.

Benefiting from the state-of-the-art and self-developed NextG IP Billing software, the Group’s Software business enjoyed substantial growth during the year. The NextG IP Billing software continues to receive favorable responses in the Greater China region, Canada, as well as Japan. As Wafer Systems possesses strong expertise in developing sophisticated software, which can also be applicable to clients with NGN projects, the synergies generated from the Group’s core businesses enable the Group to further strengthen our market foothold.

Wafer Systems has also been invited to become Cisco’s partner in its Service Provider Solutions Ecosystem (“SPSE”) program. This program is offered to companies whose products and solutions exhibit market leadership with the use of Cisco’s industry-leading technology while sharing in Cisco’s commitment to customer service and satisfaction. Wafer Systems is the first Cisco partner in Hong Kong and China to receive this recognition under the solution category “Voice/Packet Telephony Application”. This demonstrates just how widely the Group’s capabilities in the research and development for NGN software and solutions are recognized by Cisco.

Prospects

Entering 2004, improvements in general economic conditions are continuing in the PRC and Hong Kong market. At the same time, the Chinese government is aggressively promoting the adoption of information technology in prosperous cities. These factors indicate that the industry is recovering. Reinforcing our capabilities in the three synergistic businesses plus the advantage as a pioneer in the NGN business, Wafer Systems is ideally poised to capture these opportunities ahead.

With years of experience behind us at Wafer Systems, we have successfully shaped ourselves into a leading provider of Network Infrastructure, Professional Services and Network Software to telecommunications players and MNCs in Mainland China and Hong Kong. The Group is further recognized as a forerunner in the NGN industry and has established a reputation as a role model in the provision of sophisticated technologies and services for clients.

Anticipating that NGN will become a major market driver, Wafer System, as a market pioneer, has developed a suite of NGN management software and formed a close alliance with Cisco’s research and development team. Wafer Systems now enjoys advantages as a pioneer in introducing advanced NGN products and technologies to prestigious telecommunication clients.

To further enhance our competitiveness and capture higher profit margins, the Group will fully utilize our research and development capabilities in Xi’an and leverage our skills in network communication to focus on the design and development of software such as business support system (“BSS”), operation support system (“OSS”) and soft switch system (“BTS”), and network security solutions for launch in the coming years.

The Group will also place additional effort into the further penetration of both the MNCs and telecommunication markets, using our competitive cost structure as well as our fully integrated NGN capability as competitive advantages. Additionally, we will take steps to differentiate and penetrate new market segments and gain leading positions in specific industries, such as distinguished multinational enterprises and in the automobile industry in China.

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We will concentrate our efforts and resources on factors and innovations that differentiate our products and services. Maintaining this focus, we will continue to thrive and generate increasing benefits for our customers and shareholders.

Conclusion

In conclusion, I would like to thank our customers, suppliers, bankers, investors, business partners and advisers for their continued trust and support. I would also like to extend my thanks to all our staff for their hard work and major contribution to the Group’s performance last year. We will continue to pursue growth into the future, bringing in better returns for our shareholders.

CHAN Sek Keung, Ringo

Chairman and Chief Executive Officer

Hong Kong, 25 March 2004

MANAGEMENT DISCUSSION AND ANALYSIS

Liquidity, Financial Resources and Capital Structure

During the Review Period, the Group maintained conservative policies in cash and financial management. Surplus funds were placed on interest-bearing deposits with banks. The Group generally financed its operations and serviced its debts with its internal resources, short-term bank loans and convertible bonds.

The financial and liquidity position of the Group remained healthy during the Review Period. As at 31 December 2003, the Group had net current assets of approximately HK$45,663,000 (2002: HK$53,118,000), including bank balances and cash of approximately HK$45,167,000 (2002: HK$14,412,000), total short term bank loans of approximately HK$33,056,000 (2002: HK$41,053,000) and convertible bonds maturing within one year of approximately HK$9,280,000 (2002: HK$7,363,000). The Group’s current ratio improved from approximately 1.53 as at 31 December 2002 to approximately 1.67 as at 31 December 2003. In addition, the Group’s non-current liabilities reduced by approximately 75% from HK$11,294,000 as at 31 December 2002 to approximately HK$2,804,000 as at 31 December 2003.

During the Review Period, the Company issued 7,676,745 new ordinary shares at the par value of HK$0.01 each for cash to QPL International Holdings Limited (“QPL”) on its exercise of the warrants granted. This allotment increased the total number of issued shares of the Company to 289,944,745 shares and total issued share capital to approximately HK$2,900,000.

As at 31 December 2003, all assets and liabilities of the Group were denominated in U.S. dollars, Hong Kong dollars and Renminbi.

Order Book and Prospects of New Business

As at 31 December 2003, the Group had contracts on hand for sales amounting to approximately HK$28.1 million (2002: HK$35.5 million) which would be booked as revenue upon delivery and implementation.

While closely tracking the development of the NGN and its business opportunities, the Group will continue to concentrate on its present core business segments.

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Significant Investment Held

The Group had not made any significant investment since floatation or during the Review Period.

Segmental Information

The segmental information of the Group is covered in paragraph 2 of Financial Performance under the Chairman’s Statement.

Charges On Group Assets

As at 31 December 2003, the Group did not have any significant charges on assets.

As at 31 December 2002, the Group had general banking facilities of approximately HK$102 million which were secured by pledged bank deposits of approximately HK$18 million.

Gearing Ratio

As at 31 December 2003, the gearing ratio, i.e. non-current liabilities over total assets, reduced to approximately 2.2% from approximately 6.8% as at 31 December 2002. The improvement was mainly due to significant reduction of non-current liabilities during the Review Period.

Foreign Exchange Exposure

During the Review Period, the Group earned revenue and incurred costs and expenses mainly in U.S. dollars, Hong Kong dollars and Renminbi. As the exchange rates of such currencies have been stable during the Review Period, no hedging or other alternatives have been implemented.

Contingent Liabilities

Except for those commitments and contingent liabilities set out in the Company’s annual report, the Group had no significant contingent liabilities as at 31 December 2003.

Acquisitions, Disposals and Significant Investment

The Group had not made any significant acquisition, disposal or investment during the Review Period

Future Plans for Investments or Capital Assets and Sources of Funding

With the exception of those plans set out in the Prospectus, there are no plans for any significant investments in capital assets and sources of funding.

Employee Information

As at 31 December 2003, the Group had 131 employees comprising 24 employees based in Hong Kong and 107 employees based in Mainland China with a total staff cost of approximately HK$15,461,000 (2002: HK$18,712,000) during the Review Period. The Group continues to provide remuneration package to employees according to market practices and past performance. In addition to basic remuneration, the Group also provides employees with other benefits such as a mandatory provident fund, medical scheme, share option schemes and staff training program. There has been no major change on staff remuneration policies during the year.

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The share option scheme continues to play an important role in the motivation and retention of quality employees.

Purchase, Sale or Redemption of the Company’s Listed Securities

During the year, neither the Company nor any of its subsidiaries purchased, sold or redeemed any of the Company’s listed securities.

Corporate Governance

The Company has complied throughout the Review Period with the board practices and procedures as set out in Rules 5.28 to 5.39 of the Rules Governing the Listing of Securities on the Growth Enterprise Market of the Stock Exchange (the “GEM Listing Rules”).

RESULTS

The board of Directors (the “Board”) announces the audited consolidated results of the Group for the year ended 31 December 2003 together with the comparative audited consolidated results for 2002 as follows:

Notes Turnover 2 Other operating income Changes in materials and equipment Staff costs Depreciation and amortisation Other operating expenses Profit (loss) from operations 3 Finance costs 4 Profit (loss) before taxation Taxation 5 Net profit (loss) attributable to shareholders Earnings (loss) per share – Basic 6 – Diluted 6	2003 HK$’000 165,879 510 (125,577) (14,461) (5,134) (16,868) 4,349 (3,207) 1,142 (285) 857 0.3 cent 0.29 cent	2002 HK$’000 180,333 424 (138,836) (17,441) (4,771) (23,923) (4,214) (2,186) (6,400) 551 (5,849) (2.40)cents N/A

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Notes

1. BASIS OF PRESENTATION

The Company is incorporated in the Cayman Islands as an exempted company with limited liability. The shares of the Company were listed on the Growth Enterprise Market of the Stock Exchange of Hong Kong Limited (the “Stock Exchange”) on 17 May 2002.

The financial statements have been prepared under the historical cost convention and in accordance with accounting principles generally accepted in Hong Kong. The principal accounting policies adopted are as follows.

The consolidated financial statements incorporate the financial statements of the Company and its subsidiaries made up to 31 December of each year. All significant inter-company transactions and balances within the Group are eliminated on consolidation.

2. BUSINESS AND GEOGRAPHICAL SEGMENTS

Business segments for the year are as follows:

Network infrastructure Network professional services Network software Other operating income Central administrative expenses Profit (loss) from operations Finance costs Profit (loss) before taxation Taxation Net profit (loss) attributable to shareholders	Turnover 2003 2002 HK$’000 HK$’000 135,775 153,650 28,241 26,326 1,863 357 165,879 180,333	Results 2003 2002 HK$’000 HK$’000 3,088 (1,327) 1,813 (1,169) (725) (1,787) 4,176 (4,283) 510 424 (337) (355) 4,349 (4,214) (3,207) (2,186) 1,142 (6,400) (285) 551 857 (5,849)	Results 2003 2002 HK$’000 HK$’000 3,088 (1,327) 1,813 (1,169) (725) (1,787) 4,176 (4,283) 510 424 (337) (355) 4,349 (4,214) (3,207) (2,186) 1,142 (6,400) (285) 551 857 (5,849)
			(4,283) 424 (355)
			(4,214) (2,186)
			(6,400) 551
			(5,849)

Geographical segments

The following table provides an analysis of the Group’s geographical segment information:

PRC Hong Kong	Turnover 2003 2002 HK$’000 HK$’000 146,830 164,798 19,049 15,535 165,879 180,333	Turnover 2003 2002 HK$’000 HK$’000 146,830 164,798 19,049 15,535 165,879 180,333
		180,333

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3. PROFIT (LOSS) FROM OPERATIONS

4.

5.

Profit (loss) from operations has been arrived at after charging: Directors’ remuneration other than fees Other staff’s retirement benefits scheme contributions Other staff costs Less: Staff costs capitalised in software product development costs Amortisation of software product development costs Auditors’ remuneration – current year – overprovision in prior years Depreciation of property, plant and equipment Loss on disposal of investments in securities Loss on disposal of property, plant and equipment Operating lease rentals in respect of land and buildings Research and development costs and after crediting: Gain on disposal of property, plant and equipment Interest income FINANCE COSTS Interest on bank borrowings wholly repayable within five years Amortisation of discount on convertible bonds TAXATION The (charge) credit comprises: Overprovision of Hong Kong Profits Tax in prior years PRC income tax	2003 HK$’000 1,230 714 14,747 (2,230) 14,461 1,762 430 (64) 3,372 362 122 2,314 – – 222 2003 HK$’000 (2,192) (1,015) (3,207) 2003 HK$’000 – (285) (285)	2002 HK$’000 1,239 679 18,033 (2,510) 17,441 1,441 450 – 3,330 – – 2,823 297 18 311 2002 HK$’000 (967) (1,219) (2,186) 2002 HK$’000 747 (196) 551

No provision for Hong Kong Profits Tax has been made in the financial statements as the Group had no assessable profit for the year.

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Pursuant to the relevant laws and regulations in the PRC, the Company’s PRC subsidiaries are entitled to exemption from PRC income tax for two or three years commencing from their first profit-making year of operation and thereafter, these PRC subsidiaries will be entitled to a 50% relief from PRC income tax for the following three years. During the year, only one of the Company’s PRC subsidiaries is within its 50% tax relief period, the rest are within their tax exemption period. No deferred tax asset has been recognised in respect of the unutilized tax losses due to the unpredictability of future profit streams. These tax losses may be carried forward indefinitely.

6. EARNINGS (LOSS) PER SHARE

The calculation of the basic and diluted earnings (loss) per share is based on the following data:

Earnings: Net profit (loss) attributable to shareholders for the purposes of basic and diluted earnings (loss) per share Number of shares: Weighted average number of ordinary shares for the purposes of basic earnings (loss) per share Effect of dilutive potential ordinary shares – warrants Weighted average number of ordinary shares for the purposes of diluted earnings (loss) per share	2003 HK$857,000 287,084,369 2,646,915 289,731,284	2002 HK$(5,849,000) 243,625,000 N/A 243,625,000

The computation of diluted earnings per share does not assume the conversion of the Company’s outstanding convertible bonds for both years since their exercise would result in an increase in earnings per share from continuing ordinary operations for 2003 and a decrease in loss per share from continuing ordinary operations for 2002.

The effect of share options is excluded from the calculation of diluted earnings (loss) per share for both years because the exercise price of the Company’s share options is higher than the average market price of ordinary shares for both years.

The computation of diluted earnings per share did not assume the conversion of the Company’s outstanding warrants for 2002 since their exercise would result in a decrease in loss per share from continuing ordinary operations for 2002.

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7. MOVEMENT OF RESERVE

Share capital HK$’000 At 1 January 2002 1,778 Exercise of conversion rights of a convertible note 354 Exercise of warrants 131 Issue of new shares on listing 560 Expenses incurred in connection with the issue of shares – Net loss attributable to shareholders – Transfers – At 31 December 2002 2,823 Exercise of warrants 77 Net profit attributable to shareholders – Transfers – At 31 December 2003 2,900	Share premium HK$’000 20,059 17,084 73 30,251 (11,643) – – 55,824 – – – 55,824	Statutory surplus Enterprise reserve expansion fund fund HK$’000 HK$’000 543 272 – – – – – – – – – – 460 230 1,003 502 – – – – – – 1,003 502	Staff welfare fund HK$’000 272 – – – – 230 502 – – – 502	Deficit HK$’000 (559) – – – – (5,849) (920) (7,328) – 857 – (6,471)	Total HK$’000 22,365 17,438 204 30,811 (11,643) (5,849) – 53,326 77 857 – 54,260

By Order of the Board Wafer Systems Limited CHAN Sek Keung, Ringo Chairman and Chief Executive Officer

Hong Kong, 25 March 2004

This announcement will remain on the “Latest Company Announcements” page of the GEM website for at least seven days from its date of publication.

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