Datasea(DTSS) - 2023 Q4 - Annual Report

PART I Description of Business Datasea Inc. operates in China through a VIE structure, focusing on intelligent acoustics and 5G messaging, with a strategic push for international expansion Company Structure and Overview Datasea Inc., a Nevada holding company, controls its Chinese operations via a VIE, focusing on intelligent acoustics and 5G messaging, and recently established a U.S. subsidiary for global market expansion - Datasea Inc. is a Nevada-based holding company controlling Chinese operating entities through a Variable Interest Entity (VIE) structure, not direct equity ownership[26][27] - The company's primary business segments are intelligent acoustics (ultrasound, infrasound, directional sound) and 5G messaging services[26][29] - A key strategic focus is internationalization, highlighted by the establishment of a wholly-owned U.S. subsidiary, Datasea Acoustics LLC, in Delaware on July 31, 2023, to target the global market[28][34] - As of the report date, the company, through its VIE and subsidiaries, holds 27 patents and 106 software copyrights in the PRC, with 10 pending patent applications[30] VIE Agreements Datasea controls its Chinese operating entity, Shuhai Beijing, through contractual VIE agreements, which allow management and economic benefits but carry significant enforceability risks under PRC law - Datasea controls its Chinese operating entity, Shuhai Beijing (the VIE), through four key contractual agreements: Operation and IP Service, Stockholders' Voting Rights Entrustment, Equity Option, and Equity Pledge[42][43][45] - The agreements grant Datasea's WFOE the right to manage Shuhai Beijing, collect its pre-tax income as an operating fee, control voting rights, and hold an irrevocable option to acquire all equity interests in the VIE[43][45][46] - The company acknowledges substantial uncertainties regarding the interpretation and enforcement of these VIE agreements under PRC law, noting they have not been tested in a Chinese court, potentially jeopardizing control over the VIE[49][51][52] Summary Consolidated Financial Data For fiscal year 2023, Datasea reported revenues of $7.05 million, a significant decrease from $17.08 million in 2022, with net loss widening to $9.48 million and total liabilities increasing to $6.33 million Condensed Consolidated Statements of Operations | | YEARS ENDED JUNE 30, | | :--- | :--- | :--- | | | 2023 | 2022 | | Revenues | $7,045,311 | $17,080,911 | | Gross profit | $340,931 | $955,673 | | Loss from operations | ($9,685,220) | ($7,237,254) | | Net loss to the Company | ($9,479,692) | ($6,521,708) | | Basic and diluted net loss per share | ($0.38) | ($0.27) | Condensed Consolidated Balance Sheets | | JUNE 30, 2023 | JUNE 30, 2022 | | :--- | :--- | :--- | | Total current assets | $1,289,517 | $1,256,801 | | Total Assets | $2,754,448 | $3,755,677 | | Total current liabilities | $4,906,575 | $2,124,575 | | Total Liabilities | $6,334,545 | $2,156,045 | | Total Equity (Deficit) | ($3,580,097) | $1,599,632 | Condensed Consolidated Statements of Cash Flows | | YEARS ENDED JUNE 30, | | :--- | :--- | :--- | | | 2023 | 2022 | | Net cash used in operating activities | ($3,136,081) | ($5,139,712) | | Net cash used in investing activities | ($113,131) | ($1,133,424) | | Net cash provided by financing activities | $3,109,207 | $6,379,304 | | Net (decrease) increase in cash | ($144,489) | $114,541 | | Cash, end of year | $19,728 | $164,217 | - As of the report date, neither the VIE nor any subsidiaries have ever paid dividends or transferred assets to Datasea Inc., with the company intending to reinvest future earnings for business expansion[69] Intelligent Acoustics Business The Intelligent Acoustics segment focuses on ultrasonic antivirus and skin repair products, with the "Hailijia" series demonstrating 99.83% efficacy against Covid-19, and generated $136,884 in net revenue for the fiscal year - The company is developing a range of ultrasonic disinfection products, including the "Hailijia" series, which has been tested by the Wuhan Institute of Virology and shown to have 99.83% efficacy against Covid-19 in nine seconds[72][87] - The global ultrasound technology market is projected to grow from $1.8 billion in 2022 to $3.3 billion in 2027, representing a significant market opportunity for the company's acoustic products[82] - New products in the pipeline include a contactless ultrasonic Skin Repair Robot with AI diagnosis and a Sleep Monitor based on Schumann resonance technology[102][103][111] - For the fiscal year, the intelligent acoustics business generated net revenue of $136,884, representing 1.94% of total net revenue, with direct sales accounting for 49.48% and distributor sales for 50.52% of this segment's revenue[110] 5G Messaging Business The 5G Messaging business, leveraging Rich Communication Suite (RCS) technology, provides enterprise communication and marketing platforms, generating $6.69 million in net income and accounting for 94.91% of total net income for the fiscal year - The 5G messaging business leverages Rich Communication Suite (RCS) to offer enterprises advanced marketing and communication tools, including the 5G Integrated Messaging Marketing Cloud Platform (5G IMMCP) and Smart Push solutions[75][119][120] - This segment was the main revenue source for the fiscal year, with a net income of $6,686,691, accounting for 94.91% of the company's total net income[125] - Within the 5G messaging business, the 5G Top-up services were a significant contributor, generating $4,481,442 in net revenue[125] Intellectual Property As of September 2023, the company holds 106 software copyrights and 27 patents in the PRC, with plans to significantly expand its IP portfolio, aiming for 20 new domestic patents and 10 international patents in acoustics over the next three years - As of September 2023, the company and its subsidiaries own 14 granted patents and have 13 patent applications under substantive examination in the PRC[147][149][150] - The company holds a total of 106 software copyright registrations in China across its various entities, including Shuhai Beijing (35), Xunrui (27), and Tianjin Information (23)[152] - The company has a strategic plan to expand its patent portfolio over the next three years, aiming for 20 new domestic patents and 10 international patents from its China operations, and 5 U.S. patents and 5 international patents from its overseas subsidiary[162] Risk Factors The company faces significant risks including a limited operating history, substantial doubt about its going concern ability, reliance on VIE agreements, and challenges associated with operating in China Risks Relating to Our Business and Industry The company faces substantial business risks including a limited operating history, auditor-expressed doubt about its going concern ability, reliance on third-party manufacturers, and challenges adapting to rapid technological changes - The company has a limited operating history in developing intelligent acoustics and 5G messaging products, making future prospects difficult to judge[185][186] - The independent auditor's report includes an explanatory paragraph expressing substantial doubt about the company's ability to continue as a going concern, citing a deficit of approximately $28.1 million and negative cash flow[187] - The business relies on third-party contractors for manufacturing, exposing it to supply chain risks such as interruptions, cost increases, and quality control issues[191][192][204] - The company is subject to complex data privacy laws, such as China's Cybersecurity Law (CSL) and the EU's GDPR, and non-compliance could result in significant penalties and operational disruptions[215][216][217] Risks Relating to Our Corporate Structure The company's reliance on a Variable Interest Entity (VIE) structure in China presents significant risks, as the enforceability of contractual arrangements is uncertain and could lead to loss of control or severe penalties - The VIE agreements may be deemed non-compliant with PRC regulations, which could lead to severe penalties, forced relinquishment of operations, and a material reduction in the value of the company's shares[220][221][223] - The contractual arrangements are governed by PRC law and have not been tested in court, creating uncertainty about the company's ability to enforce its control over the VIE's assets and operations[226][227] - Shareholders of the VIE, who are also the company's CEO and a director, may have potential conflicts of interest that could adversely affect the business[233][234] - The company is a "controlled company" under NASDAQ rules because the CEO and her father hold over 50% of the voting power, allowing it to rely on exemptions from certain corporate governance requirements[237] Risks Associated With Doing Business in China Operating in China exposes the company to significant political, economic, and legal risks, including potential adverse policy changes, currency exchange controls, and stringent cybersecurity and data laws - Changes in PRC government policies could significantly impact business, including new laws, confiscatory taxation, or restrictions on currency conversion[238][239] - The company may require approval from the CSRC for overseas securities issuance under regulations like the M&A Rules and the new filing-based regime effective March 31, 2023, and failure to comply could result in sanctions[242][243][245] - Fluctuations in the Renminbi exchange rate could adversely affect financial results and the value of investments in U.S. dollars[251] - The company faces risks related to China's evolving data security and cybersecurity laws, including the Cybersecurity Review Measures, which could require review for foreign listings and impose significant compliance costs[278][282][283] Risks Relating to An Investment in Our Common Stock An investment in Datasea's common stock carries high risk, including potential Nasdaq delisting due to non-compliance with listing requirements, thin trading, and control by majority stockholders - The company has received deficiency letters from Nasdaq for failing to meet the minimum Market Value of Listed Securities ($35 million) and the minimum bid price ($1.00) requirements, posing a risk of delisting[296][297][299] - Officers and directors collectively hold approximately 50.4% beneficial ownership, allowing them to control shareholder votes and corporate actions[305][306] - The common stock is thinly traded and may be considered a "penny stock," which could make it more difficult for investors to sell shares[311][313][314] - The company is not likely to pay cash dividends in the foreseeable future, as it intends to retain earnings for business expansion[319] Description of Property The company does not own any real estate, operating solely from leased office spaces, including its 2,007 square meter headquarters in Beijing and smaller offices for subsidiaries - The company does not own any real estate; all its properties are leased[321] - The main headquarters is a leased office space of approximately 2,007 square meters in Beijing, with additional smaller offices leased in Harbin, Shenzhen, and Hangzhou for its subsidiaries[321][322][325] Legal Proceedings As of the report date, neither Datasea Inc. nor its subsidiaries are party to any material pending legal proceedings - The company and its subsidiaries are not currently a party to any material pending legal proceedings[330] PART II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Datasea's common stock trades on NASDAQ under "DTSS", with 32,784,133 shares outstanding held by 102 record holders as of September 20, 2023, and the company does not anticipate paying dividends - The company's common stock trades on the NASDAQ Capital Market under the symbol "DTSS"[333] - As of September 20, 2023, there were 32,784,133 shares of common stock issued and outstanding, with 102 holders of record[333][334] - The company does not anticipate paying dividends in the foreseeable future and plans to retain earnings for business expansion, with PRC regulations also restricting dividend distributions from its Chinese subsidiaries[335][336] - The company's 2018 Equity Incentive Plan was amended to increase the number of shares reserved for issuance from 14,000,000 to 24,000,000[337][338] Management's Discussion and Analysis of Financial Condition and Results of Operations In fiscal year 2023, Datasea's revenue decreased by 59% to $7.05 million, and net loss widened to $9.48 million, driven by reduced 5G SMS demand and increased G&A expenses, despite post-period-end financing alleviating going concern doubts Results of Operations For fiscal year 2023, revenues decreased 59% to $7.05 million, gross profit fell 64% to $340,931, and net loss increased 45% to $9.48 million, primarily due to reduced 5G messaging demand and higher stock compensation expenses Fiscal Year 2023 vs 2022 Performance | Metric | FY 2023 | FY 2022 | Change (%) | | :--- | :--- | :--- | :--- | | Revenues | $7,045,311 | $17,080,911 | -59% | | Cost of Revenues | $6,704,380 | $16,125,238 | -58% | | Gross Profit | $340,931 | $955,673 | -64% | | Total Operating Expenses | $10,026,151 | $8,192,927 | +22% | | Net Loss to the Company | ($9,479,692) | ($6,521,708) | +45% | - The decrease in revenue was mainly attributed to reduced demand for the 5G SMS business during the COVID-19 pandemic[419] - General and administration expenses increased by 51% to $8.41 million, primarily due to a $3.74 million increase in stock compensation expense[430] - Research and development expenses decreased by 27% to $921,020 as the company focuses on expanding its leading technologies[426] Liquidity and Capital Resources As of June 30, 2023, the company had a working capital deficit of $3.62 million and cash of $19,728, with auditors expressing substantial doubt about its going concern ability, though recent financing activities are expected to support operations - The company had a working capital deficit of $3,617,058 and a cash balance of $19,728 as of June 30, 2023[435][413] Cash Flow Summary (FY 2023 vs FY 2022) | Cash Flow Activity | FY 2023 | FY 2022 | | :--- | :--- | :--- | | Operating Activities | ($3,136,081) | ($5,139,712) | | Investing Activities | ($113,131) | ($1,133,424) | | Financing Activities | $3,109,207 | $6,379,304 | - The company's ability to continue as a going concern is in doubt due to recurring losses and negative cash flow, although management believes recent financing activities will support operations for the next twelve months[413][414] - Total liabilities increased by 193.8% to $6.33 million as of June 30, 2023, driven by increases in loans payable, amounts due to related parties, and accounts payable[441] Financial Statements and Supplementary Data This section presents the company's audited consolidated financial statements for fiscal years 2023 and 2022, including the Independent Auditor's Report which highlights a critical audit matter regarding going concern Report of Independent Registered Public Accounting Firm The auditor, Kreit & Chiu CPA LLP, issued an unqualified opinion but identified a Critical Audit Matter regarding the company's going concern ability due to an accumulated deficit of $28.06 million and a net loss of $9.48 million, which was alleviated by $7.83 million in post-year-end financing - The auditor, Kreit & Chiu CPA LLP, issued an unqualified opinion on the financial statements[529] - A Critical Audit Matter was identified regarding the company's ability to continue as a going concern, due to an accumulated deficit of $28.06 million and a net loss of $9.48 million for FY 2023[533] - The going concern uncertainty was considered alleviated for at least twelve months following the report date due to the company receiving $7.83 million in cash from financing subsequent to June 30, 2023[534] Notes to Consolidated Financial Statements The notes detail accounting policies, the VIE structure, going concern assessment, related party transactions, and significant stock and warrant issuances, with a major subsequent event being the sale of a subsidiary and recent equity financing - The company's operations are conducted through a VIE structure, with control exercised via contractual agreements rather than equity ownership (Note 1)[547][569] - The financial statements were prepared on a going concern basis, but recurring losses and an accumulated deficit of $28.06 million raise substantial doubt, mitigated by significant financing obtained after the balance sheet date (Note 2)[563][564][565] - During FY 2023, the company issued 3,459,500 shares as stock compensation to employees and consultants, valued at $3,976,362 (Note 10)[668] - Subsequent to the fiscal year-end, the company secured significant equity financing, including raising RMB 40 million ($5.48 million) and closing a public offering for gross proceeds of approximately $2 million (Note 13)[700][701][702] Controls and Procedures Management concluded that as of June 30, 2023, the company's disclosure controls and procedures were ineffective due to material weaknesses, including inadequate segregation of duties and insufficient internal control testing - Management concluded that as of June 30, 2023, the company's disclosure controls and procedures were not effective[451] - Material weaknesses in internal control over financial reporting were identified, including: (i) inadequate segregation of duties, (ii) insufficient frequency of internal control testing, and (iii) lack of accounting personnel trained in U.S. GAAP[453] - Management has implemented and is continuing to enhance its internal controls, including refining procedures, establishing a collaborative oversight mechanism with the legal department, and providing personnel training[454][455][456] PART III Directors, Executive Officers and Corporate Governance The company's leadership includes Zhixin Liu (CEO), Mingzhou Sun (CFO), and Chunqi Jiao (CTO), with a five-member board including three independent directors, and a family relationship between the CEO and a director - The executive team is led by Zhixin Liu (Chairman & CEO), Mingzhou Sun (CFO), and Chunqi Jiao (CTO)[465] - The Board of Directors has three independent members: Michael James Antonoplos, Stephen (Chun Kwok) Wong, and Yan Yang, forming a majority of the five-person board[479] - A family relationship exists within the company's leadership: Director Fu Liu is the father of Chairman and CEO Zhixin Liu[474] - The company reported that several officers and directors, including Zhixin Liu and Fu Liu, failed to timely file one or more Form 4 reports for transactions during the fiscal year ended June 30, 2023[483] Executive Compensation For fiscal year 2023, executive compensation was primarily salary-based, with CEO Zhixin Liu earning $43,219, and separate agreements grant the CEO 15,000 shares per month and Director Fu Liu 10,000 shares per month FY 2023 Executive Compensation | Name and Principal Position | Salary ($) | | :--- | :--- | | Ms. Zhixin Liu (Chairman, CEO) | $43,219 | | Mingzhou Sun (CFO) | $34,564 | | Chunqi Jiao (CTO) | $28,396 | - CEO Zhixin Liu is entitled to receive 15,000 shares of common stock per month, and Director Fu Liu is entitled to 10,000 shares per month, as part of their compensation, starting from July 1, 2021[487][500] - No options were granted to executive officers in the fiscal year ended June 30, 2023[488] Security Ownership of Certain Beneficial Owners and Management As of September 20, 2023, ownership is highly concentrated, with CEO Zhixin Liu beneficially owning 31.40% and Director Fu Liu 18.60%, resulting in 50.40% control by all officers and directors as a group Beneficial Ownership as of September 20, 2023 | Name of Beneficial Owner | Number of Shares | Percent of Class | | :--- | :--- | :--- | | Zhixin Liu (CEO) | 10,294,295 | 31.40% | | Fu Liu (Director) | 6,097,820 | 18.60% | | All officers and directors as a group (seven persons) | 16,522,115 | 50.40% | - Ownership is based on 32,784,133 shares of common stock outstanding as of September 20, 2023[504] Certain Relationships and Related Transactions, and Director Independence The company engaged in several related party transactions, primarily with CEO Zhixin Liu, including lease agreements for office space and car rentals, resulting in $147,838 due to related parties as of June 30, 2023 - The company has multiple lease agreements with its CEO, Zhixin Liu, for office space and vehicles[506][507][510] - In May 2023, a subsidiary signed a one-year office lease with the CEO for an annual rent of RMB 282,852 (approx. $40,756)[510] - In July 2023, a subsidiary entered into two car rental agreements with the CEO for a combined annual rent of RMB 456,000 (approx. $65,705)[511] Principal Accountant Fees and Services For fiscal years 2023 and 2022, Kreit & Chiu CPA LLP billed $137,500 and $128,850 respectively for audit services, with no fees for audit-related, tax, or other services Accountant Fees | Fee Category | FY 2023 | FY 2022 | | :--- | :--- | :--- | | Audit Fees | $137,500 | $128,850 | | Audit-Related Fees | $0 | $0 | | Tax Fees | $0 | $0 | | All Other Fees | $0 | $0 | | TOTAL | $137,500 | $128,850 | PART IV Exhibits, Financial Statement Schedules This section lists all financial statements, schedules, and exhibits filed with the Form 10-K report, including corporate documents, VIE agreements, equity incentive plans, and Sarbanes-Oxley certifications - This section provides a comprehensive list of all exhibits filed with the 10-K, including Articles of Incorporation, Bylaws, VIE Agreements, the 2018 Equity Incentive Plan, and various financing and service agreements[518] - Certifications by the Chief Executive Officer and Chief Financial Officer pursuant to Sarbanes-Oxley Sections 302 and 906 are included as exhibits[520]