AXT, INC.

AXTI
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AXT : Reply to the Second Round Audit Inquiry Letter on Application for Initial Public Offering and STAR Market Listing of Shares by Beijing Tongmei Xtal Technology Co., Ltd - Form 8-K

06/17/2022 | 04:34pm

Reply to the Second Round Audit Inquiry Letter on Application for Initial Public Offering and STAR Market Listing of Shares by Beijing Tongmei Xtal Technology Co., Ltd.

Sponsor (Lead Underwriter)

(No. 689, Guangdong Road, Shanghai)

To Shanghai Stock Exchange,

The Second Round Audit Inquiry Letter on Application for Initial Public Offering and STAR Market Listing of Shares by Beijing Tongmei Xtal Technology Co., Ltd. (SZKS (Audit) [2022] No. 182) (the "Inquiry Letter") issued by you on April 26, 2022 has been received, and Beijing Tongmei Xtal Technology Co., Ltd. (the "Issuer", the "Company" or "Beijing Tongmei"), Haitong Securities Co., Ltd. ("Haitong Securities" or the "Sponsor"), King & Wood Mallesons (the "Issuer's Attorney"), Ernst & Young Hua Ming LLP (the "Accountant" or "Reporting Accountant") and other relevant parties have checked and verified the questions listed in the Inquiry Letter, and now reply as follows for your review.

Except as otherwise specially stated, all abbreviations used herein shall have the same meanings in the Prospectus of Beijing Tongmei in Respect of Initial Public Offering and STAR Market Listing of Shares (Declaration Draft).

Type

Typeface

Boldface (in bold)

Questions listed in the Inquiry Letter

SimSun (not in bold)

Reply to questions listed in the Inquiry Letter

Simkai (in bold)

The contents additionally disclosed or amended in such application documents as prospectus

In this reply to the Inquiry Letter, any difference in mantissa between the sum and the sum of sub-items is due to rounding.

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Table of Contents

Q1. Independence

3

Q2. Business Reorganization

94

Q3. Fundraising Projects and Relocation and Construction of Production Lines

110

Q4. Sales Revenue and Gross Profit Margin

133

Q5. Inventory

217

Q6. R&D Personnel and R&D Expenses

251

Q7. Legality and Compliance of Source of Core Technologies

264

Q8. Disclosure of Industry Related Information and Risks

287

Others. Explanation About Matters Related to the Holding Foreign Companies Accountable Act

335

Overall Opinions of the Sponsor

341

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Q1. Independence

1.1

According to the reply to the Inquiry Letter, (1) the Issuer acquired AXT-Tongmei in May 2021, and AXT-Tongmei is now the Issuer's overseas seller and purchaser. AXT, the controlling shareholder of the Issuer, established AXT-Tongmei in December 2020, and notified its customers and suppliers thereof via email or otherwise, and transferred AXT's purchasing and selling business to AXT-Tongmei, whereupon the Issuer believes that it consummated the business transfer with AXT in March 2021; (2) The confirmation letter signed by and between AXT and its customers and suppliers clearly states that AXT will maintain the status as the controlling shareholder of the Issuer, and AXT-Tongmei Inc. is the new name adopted for AXT business, and the original address and contact information remain unchanged.

The Issuer is required to explain: (1) upon business transfer, whether the parties to the Company's domestic and overseas sale and purchase contracts, goods transhippers and warehouses, sales proceeds recipients and purchasing cost payers are AXT or affiliates under its control; (2) upon the transfer of business from AXT to AXT-Tongmei, whether the Company is obligated to notify the relevant parties of change of AXT-Tongmei shareholder into the Issuer under such arrangements as original agreements, customer certifications and supply arrangements or industry practices; if yes, the impact of the Company's performance of such obligation or acquisition of confirmation on the conduct of business; (3) the role of AXT in maintaining the status as the Company's controlling shareholder during the process of business transfer, whether AXT's status as the controlling shareholder of the Company constitutes a precondition or necessary requirement for the business transfer by taking into account the factors that the customer takes into account in establishing cooperation with the Company, and the method of management of its partners

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and relevant agreement clauses; (4) new customers acquired by the Company and the amount of newly signed orders after the business transfer, and the method of acquiring new customers and newly signed orders, as well as whether the Company's controlling shareholder and relevant personnel have actually provided any support or convenience for the Company to acquire customers; (5) the impact of the change of shareholder of AXT-Tongmei on sales and purchases by taking into account the relevant industry practices of the semiconductor industry and international trade policies; and (6) whether the Company relies upon AXT, satisfies independence requirements and has taken specified standard measures to guarantee the independence and the effectiveness thereof by taking into account the above questions.

Reply:

I. Explanations from the Issuer

(I) Upon business transfer, whether the parties to the Company's domestic and overseas sale and purchase contracts, goods transhippers and warehouses, sales proceeds recipients and purchasing cost payers are AXT or affiliates under its control;

1. Business structure of AXT and the Issuer before and after reorganization and business transfer

(1) AXT's business structure before and after reorganization and business transfer

1) Before reorganization and business transfer

Before reorganization and business transfer, the particulars of AXT and the enterprises in which AXT has a controlling interest or non-controlling interest as well as their businesses are as follows:

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2) After reorganization and business transfer

After reorganization and business transfer, the particulars of AXT and the enterprises in which AXT has a controlling interest or non-controlling interest as well as their businesses are as follows:

3) Change of personnel before and after reorganization and business transfer

In March 2021, AXT transferred to AXT-Tongmei all of its business, procurement and R&D personnel and some of its financial and administrative personnel, and AXT-Tongmei entered into a new labor agreement with each of the said personnel; in May 2021, the Company completed the acquisition of AXT-Tongmei and also the transfer of relevant bodies and personnel. The particulars of the

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relevant personnel of AXT and their responsibilities are set out in the table below:

AXT

Position

Before business transfer

After business transfer

Number of personnel

Key responsibilities

Number of personnel

Key responsibilities

Management

2

Managing the daily operations of AXT

2

Managing the daily operations of AXT

Sale

8

Sales to overseas customers

-

-

Procurement

1

Overseas procurement business mainly in the United States

-

-

R&D

7

Carrying out the R&D of growing and other processes, conducting technical communication with overseas customers, and providing assistance in the R&D of sample testing

-

-

Other back office positions

9

Performing all functions relating to finance, payments and receipts, recruitment, security and other back office support

1

Preparing consolidated financial statements and conducting daily finance work

Total

27

-

3

-

AXT-Tongmei

Position

Before transfer

After transfer

Number of personnel

Key responsibilities

Number of personnel

Key responsibilities

Sale

-

-

8

Sales to overseas customers

Procurement

-

-

1

Overseas procurement business mainly in the United States

R&D

-

-

7

Carrying out the R&D of growing and other processes, conducting technical communication with overseas customers, and providing assistance in the R&D of sample testing

Other back office positions

-

-

8

Performing all functions relating to finance, payments and receipts, recruitment, security and other back office support

Total

-

-

24

-

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It can be seen from the above table that, AXT has three (3) employees upon business transfer, among whom MORRIS SHEN-SHIN YOUNG serves as CEO, Gary L. Fisher serves as CFO and Secretary, and Alan Chan serves as Vice President of Finance and Corporate Controller.

(2) Business structure of the Issuer before and after asset reorganization and business transfer

The business structure of AXT and the Issuer and changes thereof before and after asset reorganization and business transfer are set out in the table below:

Level

Entity

Responsibilities at the beginning of the reporting period

Change and transfer

Current responsibilities

AXT

AXT's parent company

Domestic sale, and procurement functions and some R&D functions in the United States

Transferring overseas procurement, sale and R&D functions, business orders and corresponding personnel to AXT-Tongmei

No actual business operations; only having three (3) employees responsible for maintaining daily operations

The Issuer and companies under its control

Beijing Tongmei, Baoding Tongmei and Chaoyang Tongmei

R&D, production and domestic sale of InP, GaAs and Ge substrates

No significant change

Basically consistent with those at the beginning of the reporting period

Nanjing Jinmei and Chaoyang Jinmei

R&D, production and sale of high-purity metals and compounds

Beijing Boyu, Tianjin Boyu and Chaoyang Boyu

R&D, production and sale of PBN materials

AXT-Tongmei

Not established yet

Receiving the original overseas procurement, sale and R&D functions, business

Overseas sale, and procurement functions and some applied R&D functions in

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orders and corresponding personnel from AXT's parent company

the United States

Chaoyang Xinmei

Not established yet

Newly established, to be responsible for the production and sale of high-purity gallium

No actual business operations

Note: Tianjin Boyu and Chaoyang Boyu are subsidiaries of Beijing Boyu.

At the end of 2020, AXT contributed additional capital to Beijing Tongmei in the form of equity of Baoding Tongmei, Chaoyang Tongmei, Nanjing Jinmei, Chaoyang Jinmei and Beijing Boyu. In December 2020, AXT established AXT-Tongmei in the United States, which company was acquired by the Issuer in May 2021. Upon completion of the reorganization and business transfer, the Issuer established a complete industry chain for the R&D, production and sale of semiconductor substrate materials, PBN crucibles, key raw materials and high-purity metals.

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2. Transfer of customers

AXT, as the overseas selling entity of semiconductor substrate materials, established AXT-Tongmei in the United States in December 2020;In March 2021, AXT notified its customers and suppliers by email that AXT would transfer its sales and procurement business and personnel to AXT-Tongmei;In May 2021, the Issuer completed the acquisition of ATX-Tongmei. During the reporting period, the proportion of the amount of proceeds from the performance of selling functions by AXT and AXT-Tongmei for the Company in the operating revenue of the Issuer is set out in the table below:

In RMB0'000

Item

2021

2020

2019

Amount

Proportion

Amount

Proportion

Amount

Proportion

Overseas business revenue

41,860.60

48.83%

33,609.67

57.63%

28,034.46

60.65%

Including: Proceeds from the performance of selling functions by AXT and AXT-Tongmei under the control of AXT

12,993.13

15.16%

28,196.51

48.35%

22,144.98

47.91%

Domestic business revenue

43,873.92

51.17%

24,707.37

42.37%

18,188.22

39.35%

Operating revenue

85,734.52

100.00%

58,317.04

100.00%

46,222.68

100.00%

Note:In 2021, the proceeds from the performance of selling functions by AXT and AXT-Tongmei are proceeds obtained by the Company through AXT, and through AXT-Tongmei under the control of AXT prior to the end of May 2021.

① All customers involved in the domestic business are independently developed by the Issuer and its domestic subsidiaries, and perform the corresponding

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production, sale, receipt and other functions, which has nothing to do with AXT.

② The overseas business mainly involves the sale of semiconductor substrate materials, PBN crucibles and other PBN products. The customers of PBN products involved in the overseas business are independently developed by Beijing Boyu, for which the sales are also implemented by Beijing Boyu. AXT is only responsible for the sale of semiconductor substrate materials to overseas customers.

③ There is no overlap between domestic customers and overseas customers, instead there is an overlap between some overseas customers of Beijing Boyu and AXT customers (who became the customers of AXT-Tongmei upon transfer). During the reporting period, the percentage of proceeds from the sale of PBN products by the overlapping customers (mainly including Sumitomo) in the proceeds from PBN products and business of the Company is 19.77%, 17.24% and 13.51% respectively, demonstrating a decrease year by year.

As the world-renowned telecommunication service provider and industrial manufacturer, Sumitomo is one of the Company's competitors, and purchased semiconductor substrate materials from AXT through its subsidiary Sumika Electronic Materials, Inc., and also purchased PBN crucibles and PBN boards from Beijing Boyu through another subsidiary SUMIDEN SHOJI CO., LTD. These two customers are Sumitomo's subsidiaries in different business segments, and make independent procurement decisions. They are not involved in any direct connection or incidental purchase.

After transferring the business to AXT-Tongmei in March 2021, AXT will acquire no additional orders after completing orders on hand;in May 2021, after completing the acquisition of AXT-Tongmei, the Issuer incorporated the overseas sales of semiconductor substrates into the Issuer.In June 2021, the revenue realized through AXT by implementing orders on hand was RMB10,400.From July 2021, since all previous orders of AXT have been completed, the Issuer no longer made sales through AXT.

To sum up, the customers involved in the transfer are sellers of semiconductor

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substrate materials in the overseas business, details of which are as follows:

(1)Transfer process
1)Basic process of customer transfer

AXT clearly notified its overseas customers via email and by telephone in March 2021 that given the fact Beijing Tongmei, the subsidiary in which AXT has a controlling interest, seeks to be listed on the STAR Market, Beijing Tongmei's selling business and selling entity will be transferred from AXT to AXT-Tongmei. The Company received the confirmations from the customers via email, or the customer placed subsequent orders directly with AXT-Tongmei. In May 2021, the Company acquired AXT-Tongmei, and completed the business transfer.

During the process of business transfer, the letter sent by AXT to each customer states that: 1) AXT will maintain the status as the Issuer's controlling shareholder; 2) AXT-Tongmei is a company incorporated in Delaware, and will conduct business on behalf of AXT; and 3) since AXT-Tongmei leased the original office space of AXT, and relevant sales personnel were transferred from AXT to AXT-Tongmei, the original address and contact information of the customer will remain unchanged, in order for the parties to maintain communication.

All original customers of AXT were transferred and continued to have business dealings with the Company based on their needs. The notices sent by the Company to end customers who achieved 90.50% of the sales proceeds through AXT and confirmations thereof are set out in the table below:

S/N

Name of major customer

Has the customer been notified of the reason for business transfer

Has the customer made confirmation

Discussion process

Confirmation date

Confirmation by the customer

Particulars of current transaction with AXT-Tongmei

Type 1: Confirmation made by the customer via email

1

Customer C

Email + telephone

2021/3/3

Confirmation by email

Consistently placing orders

2

VPEC

Email + telephone

2021/3/15

Confirmation by email

Consistently placing orders

3

Osram

Email +

2021/3/22

Confirmation by

Consistently

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telephone

email

placing orders

4

IQE

Email + telephone

2021/3/16

Confirmation by email

Consistently placing orders

5

Win

Fill in supplier evaluation score sheet, supplier change application and supplier informed consent

2021/5/17

Confirmation by email

Consistently placing orders

6

LandMark Optoelectronics

Email + telephone

2021/3/10

Confirmation by email

Consistently placing orders

Type 2: Confirmation by signing new orders with AXT-Tongmei

1

Mo Sangyo Co, Ltd.

Email + telephone

2021/3/8

By signing new orders with AXT-Tongmei

Consistently placing orders

2

VISHAY SEMICONDUCTOR GmbH

Email + telephone

2021/3/10

By signing new orders with AXT-Tongmei

Consistently placing orders

3

AVAGO TECHNOLOGIES INT'L SALES

Email + telephone

2021/4/21

By signing new orders with AXT-Tongmei

Consistently placing orders

4

Azur Space

Email + telephone

2021/3/15

By signing new orders with AXT-Tongmei

Consistently placing orders

5

INTELLIGENT EPITAXY TECHNOLOGY

Email + telephone

2021/6/2

By signing new orders with AXT-Tongmei

Consistently placing orders

6

II-VI

Email + telephone

2021/6/2

By signing new orders with AXT-Tongmei

Consistently placing orders

7

KAGA TOSHIBA ELECTRONICS CO.

Email + telephone

2021/4/7

By signing new orders with AXT-Tongmei

Consistently placing orders

8

AUK

Email +

2021/3/15

By signing new

Consistently

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CORPORATION

telephone

orders with AXT-Tongmei

placing orders

9

WAFER TECHNOLOGY

Email + telephone

2021/3/9

By signing new orders with AXT-Tongmei

Consistently placing orders

2)Contract performance before and after transfer

The contract performance by the said customers upon business transfer is as follows:

S/N

Name of major customer

Was there any framework agreement before transfer

Is the original framework agreement still being implemented

Is there any new framework agreement entered with AXT-Tongmei upon transfer

Has any order been placed with AXT-

Tongmei upon transfer

Has any new order been signed with AXT upon transfer

1

Customer C

No

Not involved

No

Yes

No

2

VPEC

No

Not involved

No

Yes

No

3

Osram

Yes

No

No

Yes

No

4

IQE

No

Not involved

No

Yes

No

5

Win

No

Not involved

No

Yes

No

6

LandMark Optoelectronics

No

Not involved

No

Yes

No

7

Mo Sangyo Co, Ltd.

Yes

No

Yes

Yes

No

8

VISHAY SEMICONDUCTOR GmbH

No

Not involved

No

Yes

No

9

AVAGO TECHNOLOGIES INT'L SALES

No

Not involved

No

Yes

No

10

Azur Space

No

Not involved

No

Yes

No

11

INTELLIGENT EPITAXY TECHNOLOGY

No

Not involved

No

Yes

No

12

II-VI

No

Not involved

No

Yes

No

13

KAGA TOSHIBA

No

Not involved

No

Yes

No

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ELECTRONICS CO.

14

AUK CORPORATION

No

Not involved

No

Yes

No

15

WAFER TECHNOLOGY

No

Not involved

No

Yes

No

According to the industry practices, generally, all overseas customers of semiconductor substrate materials placed direct orders upon certification of the supplier's products, without entering into a framework agreement. Osram entered into a framework agreement with AXT in April 2014, but due to the early execution of such agreement, the parties conducted the transaction as per the relevant order during the reporting period. Upon business transfer, Osram purchased goods by placing orders directly with AXT-Tongmei other than AXT. Mo Sangyo Co., Ltd. entered into a new framework agreement with AXT-Tongmei, and will not implement any agreement relating to AXT. Beyond that, the said customers have not entered into relevant framework agreements with the Company.

Upon transfer, all overseas customers placed orders with AXT-Tongmei, and will not place new orders with AXT.

(2)Completion of transfer

The relevant situation after the completion of transfer of semiconductor substrate material business is as follows:

1) Domestic

All domestic purchases and sales, logistics and transportation, warehousing and receipts and payments have been executed by such domestic entities as Beijing Tongmei, Baoding Tongmei, Chaoyang Tongmei, Chaoyang Jinmei and Nanjing Jinmei, and remain unchanged before and after business transfer, and all domestic customers and suppliers are independently developed and acquired by the Company and its domestic subsidiaries.

2) Overseas

Before the business transfer, AXT is responsible for the overseas sale of the Company's semiconductor substrates and the purchase of raw materials in the United

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States, and domestic entities are responsible for purchases in other overseas regions, details of which are as follows:

Item

Parties to contract/order

Shipper/recipient

Product/raw materials warehouse

Recipient

Payer

Overseas sale

InP substrate and Germanium substrate

AXT

Beijing Tongmei and AXT

AXT

N/A

GaAs substrate

AXT

Baoding Tongmei and AXT

AXT

Overseas purchase

InP substrate and Germanium substrate

Beijing Tongmei and AXT

Beijing Tongmei and AXT

N/A

Beijing Tongmei and AXT

GaAs substrate

Chaoyang Tongmei and AXT

Chaoyang Tongmei and AXT

Chaoyang Tongmei and AXT

Upon business transfer, AXT-Tongmei undertook the original functions of AXT, and AXT no longer undertook any functions, and the functions of other entities remain unchanged, details of which are as follows:

Item

Parties to contract/order

Shipper/recipient

Product/raw materials warehouse

Recipient

Payer

Overseas sale

InP substrate and Germanium substrate

AXT-Tongmei

Beijing Tongmei and AXT-Tongmei

AXT-Tongmei

N/A

GaAs substrate

AXT-Tongmei

Baoding Tongmei and AXT-Tongmei

AXT-Tongmei

Overseas purchase

InP substrate and Germanium substrate

Beijing Tongmei and AXT-Tongmei

Beijing Tongmei and AXT-Tongmei

N/A

Beijing Tongmei and AXT-Tongmei

GaAs substrate

Chaoyang Tongmei and AXT-Tongmei

Chaoyang Tongmei and AXT-Tongmei

Chaoyang Tongmei and AXT-Tongmei

Upon business transfer, relevant business personnel involved in overseas purchases and sales were transferred from AXT to AXT-Tongmei, the purchaser and entity placing product sale orders of raw materials relating to semiconductor substrates in the United States, and received remuneration from AXT-Tongmei, details of which are as follows:

① Overseas sale

A. Contracts/orders have been signed by AXT-Tongmei with respect to the overseas sale of semiconductor substrates in accordance with the requirements and arrangements of the Issuer; B. Beijing Tongmei and Baoding Tongmei have

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respectively shipped the products subject to sale in the United States to AXT-Tongmei's warehouse, and upon short-term storage at the warehouse, AXT-Tongmei shipped such products to the place designated by the relevant customer; C. Beijing Tongmei and Baoding Tongmei have directly shipped the products subject to sale in other countries or regions from the relevant warehouse to the place designated by the relevant customer; D. All overseas sale proceeds have been directly received by AXT-Tongmei, and then used to make payments to Beijing Tongmei and Baoding Tongmei for their respective purchases, pay wages of their employees and disburse rentals and other daily expenses. No funds have flowed to AXT.

During the process of business transfer, both AXT-Tongmei and AXT had accounts receivable from the same customer, and some customers remitted the amounts payable to AXT-Tongmei to AXT, which amounts were then remitted by AXT to AXT-Tongmei. As of September 2021, the total amount of accounts received by AXT on behalf of AXT-Tongmei was RMB10.2483 million, representing a small percentage in operating revenue. Upon receipt of the payment for goods of the Company, AXT promptly transferred the same to AXT-Tongmei, and does not possess any funds of the Company. The above situation does not involve the circulation of external funds. As of October 2021, the Company has never been involved in the above situation.

② Overseas purchase

Overseas purchase is quite similar to overseas sale: A. Orders have been placed by AXT-Tongmei with respect to the purchase of raw materials relating to semiconductor substrates in the United States, and orders have been directly placed by Beijing Tongmei and Chaoyang Tongmei with respect to purchases in other regions; B. The raw materials subject to purchases in the United States were shipped to Beijing Tongmei and Chaoyang Tongmei upon short-term storage at AXT-Tongmei's warehouse, and the relevant supplier has directly shipped the products subject to sale in other countries or regions to Beijing Tongmei and Chaoyang Tongmei; C. All goods have been paid for by the entity placing orders.

To sum up, upon business transfer, the parties to the Company's domestic and overseas sale and purchase contracts, goods transhippers and warehouses, sales proceeds recipients and purchasing cost payers are the Issuer and subsidiaries under its control, and are not AXT or the affiliates under AXT's control. The production,

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supply and distribution system of the Issuer is independent and complete, and the Issuer has taken over all end customers from AXT without losing customers.

3. Transfer of suppliers

During the reporting period, the particulars of key raw materials and equipment purchased by the Company from related and non-related parties are as follows:

(1)Purchase of key raw materials

During the reporting period, the proportion of key raw materials required for the production activities and operation of the Company from related and non-related parties respectively is set out in the table below:

In RMB0'000

Item

Supplier

2021

2020

2019

Amount

Percentage

Amount

Percentage

Amount

Percentage

Metal gallium

Non-related party

8,190.77

53.71%

3,274.44

51.57%

367.39

37.59%

Related party

7,059.32

46.29%

3,075.53

48.43%

609.98

62.41%

Total

15,250.09

100.00%

6,349.97

100.00%

977.37

100.00%

Germanium ingots

Non-related party

4,149.61

89.84%

3,989.59

86.38%

1,943.00

67.48%

Related party

469.50

10.16%

628.89

13.62%

936.19

32.52%

Total

4,619.11

100.00%

4,618.48

100.00%

2,879.19

100.00%

Quartz material

Non-related party

3,849.18

100.00%

2,965.95

100.00%

1,574.30

100.00%

Related party

-

-

-

-

-

-

Total

3,849.18

100.00%

2,965.95

100.00%

1,574.30

100.00%

High-purity arsenic

Non-related party

1,112.49

66.41%

-

-

-

-

Related party

562.68

33.59%

1,214.61

100.00%

991.72

100.00%

Total

1,675.17

100.00%

1,214.61

100.00%

991.72

100.00%

Boron trichloride

Non-related party

1,009.54

100.00%

915.83

100.00%

1,042.18

100.00%

Related party

-

-

-

-

-

-

Total

1,009.54

100.00

915.83

100.00

1,042.1

100.00

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%

%

8

%

Indium phosphide polycrystalline

Non-related party

1,230.59

100.00%

693.76

100.00%

1,485.51

100.00%

Related party

-

-

-

-

-

-

Total

1,230.59

100.00%

693.76

100.00%

1,485.51

100.00%

Key raw materials

Non-related party

19,542.18

70.72%

11,839.57

70.65%

6,412.38

71.64%

Related party

8,091.51

29.28%

4,919.03

29.35%

2,537.90

28.36%

Total

27,633.69

100.00%

16,758.61

100.00%

8,950.28

100.00%

Note: The purchases from the said affiliates include those from companies in which AXT has a controlling interest, from companies in which the Issuer has a controlling interest, and from third parties through AXT.

Generally speaking, the key raw materials required for the production activities and operations of the Company are sourced from related parties, accounting for a relatively low proportion. Only metal gallium, germanium ingots and high-purity arsenic in the key raw materials are involved in the connected purchases, and the supply capacity of the non-related parties of and the quality of such three types of key raw materials may be seen in "Q1 "1.2 I. (I). 2. Analyze the role of related suppliers in the Company's raw materials supply and its impact on supply stability according to the actual supply of upstream raw materials, the supply capacity and quality of non-related parties and other factors;" in this Reply.

During the reporting period, the key raw materials purchased in a connected transaction through AXT are germanium ingots and high-purity arsenic, in which the purchase amount of germanium ingots is RMB1,716,200, RMB6,288,900 and RMB0 respectively, and the purchase amount of high-purity arsenic is RMB2,017,500, RMB3,080,700 and RMB970,300.

During the reporting period, the fact that the Company has a non-controlling interest in some qualified suppliers effectively guarantees the supply stability of the raw materials. However, given small difference in the quality of products provided by the non-related supplier of the said raw materials, if its raw materials have passed the Company's test and been accepted by downstream customers, the Company can purchase relevant products from non-related parties. In addition, upon transfer of the

8-1-18

overseas suppliers in the United States, the said connected purchase between the Company and AXT has been solved.

(2)Equipment purchase

During the reporting period, the proportion of equipment required for the production activities and operations of the Company from related and non-related parties respectively is set out in the table below:

In RMB0'000

Supplier

2021

2020

2019

Amount

Proportion

Amount

Proportion

Amount

Proportion

Non-related party

6,224.48

91.53%

1,929.59

76.20%

3,271.07

73.83%

Related party

576.05

8.47%

602.54

23.80%

1,159.69

26.17%

Total

6,800.53

100.00%

2,532.13

100.00%

4,430.76

100.00%

Note: The purchases from the said affiliates are those from third parties through AXT.

At the early stage of the Company's development, the domestic III-V compound semiconductor material industry was just starting, and the number of qualified suppliers (in particular key equipment suppliers) was very small. For the convenience of procurement, and in order to guarantee the production stability of products, the Company purchased single crystal polishing machine, single crystal furnace, vacuum furnace controller and other equipment with daily high energy consumption mainly through AXT. For the convenience of procurement, the Company continued to import the equipment with daily high energy consumption through AXT; in 2021, after AXT implemented the original equipment purchase order, the Company directly purchased equipment from suppliers or through AXT-Tongmei other than AXT.

(3)Process and completion of change of suppliers

During the reporting period, the equipment purchased by the Issuer from AXT is mainly germanium ingots, high-purity arsenic, single crystal polishing machine, single crystal furnace, vacuum furnace controller and other equipment with daily high energy consumption. There is a wide selection of domestic suppliers of germanium ingots, and the Company has completed the transfer with respect to the purchase of high-purity arsenic and single crystal polishing machine, details of which are as follows:

AXT clearly notified its overseas suppliers via email and by telephone in March 2021 that given the fact Beijing Tongmei, the subsidiary in which AXT has a

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controlling interest, seeks to be listed on the STAR Market, the purchase business and purchasing entity will be transferred from AXT to AXT-Tongmei. The Company received the confirmations from the customers via email. In May 2021, the Company acquired AXT-Tongmei, and completed the transfer of the purchase business.

During the process of business transfer, the letter sent by AXT to each supplier states that: 1) AXT will maintain the status as the Issuer's controlling shareholder; 2) AXT-Tongmei is a company incorporated in Delaware, and will conduct purchase business on behalf of AXT; and 3) since AXT-Tongmei leased the original office space of AXT, and relevant sales personnel were transferred from AXT to AXT-Tongmei, the original address and contact information of the customer will remain unchanged, in order for the parties to maintain communication.

As far, AXT has notified all suppliers of the matters relating to business transfer via email, and details of the transfer of top five (5) suppliers before purchase of raw materials by AXT are set out in the table below:

S/N

Name of major customer

Has the letter of CEO been sent?

Has the order been issued concurrently?

Communication process

Symbol for completion of transfer

Particulars of current transaction with AXT-Tongmei

1

H-SQUARE CORPORATION

Telephone

Confirmation by the supplier via email

Still consistently placing orders

2

KNF CLEAN ROOM PRODUCTS

Telephone

Confirmation by the supplier via email

Still consistently placing orders

3

ENTEGRIS, Inc.

Telephone

Confirmation by the supplier via email

Still consistently placing orders

4

CONAX TECHNOLOGIES LLC

Telephone

Confirmation by the supplier via email

Still consistently placing orders

5

SAINT-GOBAIN ADVANCED CERAMICS

Telephone

Confirmation by the supplier via email

Still consistently placing orders

(II) Upon the transfer of business from AXT to AXT-Tongmei, whether the Company is obligated to notify the relevant parties of change of AXT-Tongmei shareholder into the Issuer under such arrangements as original agreements,

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customer certifications and supply arrangements or industry practices; if yes, the impact of the Company's performance of such obligation or acquisition of confirmation on the conduct of business;

1. The Company has no obligation to notify the relevant parties (other than Osram)

According to Osram's supplier manual, any supplier that experiences change of control shall notify it thereof; AXT clearly notified Osram via email and by telephone in March 2021, and received the confirmation from Osram via email. Currently, the Issuer and the intermediary have confirmed with Osram the change of the controlling shareholder of AXT-Tongmei into Beijing Tongmei, and Osram procurement manager confirmed as follows through Osram official email:

(1) The change of the controlling shareholder of AXT-Tongmei into Beijing Tongmei does not affect the cooperation between Osram and AXT-Tongmei;

(2) Osram selects suppliers mainly relying on the production environment and other relevant quality and system certificates of suppliers;

(3) With the production sites, production lines, and other factors remaining unchanged, the choice of the selling entity will not affect Osram's procurement of products produced by Beijing Tongmei; and

(4) Generally, there is only one supplier under one group in Osram's list of suppliers; by now, Osram has changed AXT to AXT-Tongmei in its supplier system, and will no longer retain AXT.

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In addition, in accordance with the practices of the semiconductor materials industry and the regulations of the Company, in the event of any of the following major changes, the Company needs to re-certify customers, obtain the consent from customers and re-sign the Process Change Notification as the case may be. Details of the changes and processing methods are as follows:

Level of change

Definition

Specific change

Processing method

First level

Key changes in production processes

Change of production site

The Process Change Notification needs to be re-signed and obtain the consent of the customer, and the customer needs to be re-certified.

Change of key raw materials

Second level

Key changes in process or materials

Overall change of cleaning equipment

The Process Change Notification needs to be re-signed and obtain the consent of the customer.

Change of cleaning reagent

Change of polishing solution

Packaging change

Change of testing method

Third level

Change of product information or label

Revision of change level classification or standard format

The Process Change Notification needs to be re-signed.

Change of label information

Fourth level

Minor process changes

Minor adjustment or optimization of process parameters that do not fall in the columns of first, second and third levels of change

The Process Change Notification does not need to be re-signed.

As shown in the above table, the change of controlling shareholder of AXT-Tongmei from AXT to the Issuer does not involve change of production site, change of key raw materials, major changes in process or materials, change of product information or label information and minor changes of processes, and does not fall under any of the above four circumstances.

To sum up, AXT has notified Osram and obtained its confirmation based on the relevant agreements between the Company and customers and suppliers, the agreements on customer certification and supply arrangements; in addition, the

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Company is not obligated to notify the relevant parties of the change of the shareholder of AXT-Tongmei into the Issuer.

2. The Company has performed the obligation of notification

In August 2021, AXT disclosed in the "Basic Information" section in 2021 Semi-Annual Report published on NASDAQ that: "AXT sold AXT-Tongmei to Beijing Tongmei for $1". Upon the announcement of the Company's acquisition of AXT-Tongmei, the composition of AXT's subsidiaries is as follows:

In addition, AXT promptly announced the prospectus reviewed and disclosed on the STAR Market and the reply to questions, and also announced the business transfer.

So far, AXT-Tongmei has maintained a good partnership with overseas customers, and the relevant parties have not raised any objection to the cooperation between the parties in relation to this business transfer and the announcement.

3. Good business conduct upon transfer

In March 2021, AXT-Tongmei completed the business transfer with AXT and started overseas procurement and sales; in May 2021, the Issuer completed the acquisition of AXT-Tongmei.

At the end of June 2021, AXT-Tongmei had the total assets of RMB125.7014 million, mainly including the accounts receivable, monetary funds, and other assets formed after the business transfer is completed in March 2021 and subsequent overseas procurement and sales; from Marth to June 2021, AXT-Tongmei realized the revenue of RMB108.3759 million, with the closing balance

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of RMB114.9253 million in total for accounts receivable, monetary funds, and inventories. While making sales to others, AXT-Tongmei needs to purchase semiconductor substrate materials from a domestic entity of the Issuer; therefore, AXT-Tongmei makes monthly payment to the domestic entity according to the billing cycle. As of December 31, 2021, AXT-Tongmei had the balance of monetary funds in the amount of RMB27.5767 million.

So far, it has been nearly twelve (12) months since the Company's acquisition of AXT-Tongmei, and the operation of AXT-Tongmei upon business transfer goes well. The changes in the amount of revenue and sales achieved by overseas customers of the Company in 2020 and 2021 are set out in the table below:

In RMB0'000 or 0'000 units

Name of customer

2021

2020

Amount

Sales

Amount

Sales

Osram

10,668.93

98.35

9,389.14

87.84

LandMark Optoelectronics

2,430.77

9.14

2,804.49

10.71

Mo Sangyo Co, Ltd.

3,626.34

25.62

2,208.70

18.19

IQE

3,973.88

24.81

2,252.91

16.59

VPEC

3,471.19

20.68

1,366.78

3.24

Customer C

1,015.61

3.22

813.45

2.36

Others

8,986.11

181.82

9,383.22

138.93

Total

34,172.83

255.43

28,218.69

220.04

Note: The revenue received in 2021 is estimated based on the sales volume and the average selling price of the products sold in 2020; the sales volume is determined based on 2-inch substrate products.

It can be seen from the above table that, upon business transfer, there was a significant increase in the revenue obtained by major overseas customers, and that the Company can maintain a good partnership with the said customers, and has not experienced a great decline in its business performance due to business transfer.

To sum up, the Company has performed the obligation to notify Osram and obtained Osram's confirmation in accordance with the relevant agreements signed with its

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customers and suppliers, the agreement on customer certification and supply arrangement, but has no obligation to notify the relevant parties of the change of the shareholder of AXT-Tongmei into the Issuer; in order to avoid the misunderstanding of overseas customers and suppliers, AXT published an announcement on the NASDAQ, so that customers, suppliers and global investors can better understand relevant conditions; upon business transfer, AXT-Tongmei has maintained a good partnership with overseas customers, and the purchase quantity and orders placed by the customers have increased; the Issuer has successfully accepted the relevant overseas customers from AXT.

(III) The role of AXT in maintaining the status as the Company's controlling shareholder during the process of business transfer, whether AXT's status as the controlling shareholder of the Company constitutes a precondition or necessary requirement for the business transfer by taking into account the factors that the customer takes into account in establishing cooperation with the Company, and the method of management of its partners and relevant agreement clauses;

AXT's status as the controlling shareholder of the Company has a positive impact on the successful business transfer, but does not constitute a precondition or necessary requirement for successful business transfer, nor does it constitute a precondition or necessary requirement for continuous cooperation with the Company.

1. Customers

(1) Factors that the customer takes into account in establishing cooperation with the Company

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Based on the practices in the semiconductor substrate industry and the Company's actual situation, the factors that a downstream customer takes into account in establishing cooperation with the Company mainly include product performance, product stability and ability to continuously supply products, details of which are as follows:

No.

Major factor

Particular case

1

Product performance

The customer will consider whether the size and performance parameters of the products supplied by the Company can meet its requirements in establishing cooperation with the Company, and the size and performance parameters of the products are closely related to the Company's R&D and technological level.

2

Product stability

The customer elects to focus on the stability of the Company's products in establishing cooperation with the Company, and product stability is mainly reflected in the continuous production by the downstream customer using the substrates supplied by the Company, and in the stable performance and parameters of epitaxial wafers produced by the customer. There will be no major difference between batches of products.

Product stability is closely associated with production lines and processes. Thus, the customer generally will verify the Company's production lines and processes in establishing cooperation with the Company. Meanwhile, the customer will also verify with its downstream customer whether the substrate-based epitaxial wafers and chips can meet its final requirements for product performance; only upon verification will the customer place a formal order to the Company.

3

Ability to continuously supply products

Since the Company's ability to timely deliver a certain quantity of its substrate products will directly affect the customer's production and operation rhythm, the customer needs to maintain long-term and good partnership with the Company, and to regularly inspect the production capability and level of the Company. The quantity of products supplied by the Company may be reasonably determined only after the parties establish a close and trusted partnership, thus the customer will maintain close communication with the Company's sales personnel.

Except for the above factors, the customer will also consider the Company's position in the industry, types of other users of the products and product positioning in the market, and subsequent ability to continuously provide services.

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(2) Method of the customer's management of suppliers

1) Customer C

According to the interview with Customer C, Customer C adopts dual supplier management of "entity subject to product certification + order placement entity", details of which are as follows:

① Management of entities subject to product certification

With respect to product certification, only the entity whose products have been certified by Customer C may be included in its list of eligible suppliers. The entity who has passed the product certification needs to complete and maintain the eligible supplier review procedures in accordance with its supplier management rules and regulations. According to the practices in the semiconductor materials industry, generally, the downstream customer will certify the manufacturer's products, details of which are as follows:

No.

Main process

Particular case

1

Provide relevant materials

Provide the manufacturer's information (e.g. business license, relevant certificates and supplier questionnaire), and confirm whether such information meets the customer's requirements.

2

Provide assistance in production line assessment

Assist the customer's quality, production, procurement and other departments to conduct an audit of the manufacturer's production lines and processes.

3

Multiple delivery of samples for testing

The manufacturer needs to deliver the products multiple times to the customer for testing purposes. After the samples so delivered pass the test, the customer will purchase a small batch of the Company's products; after such batch of products pass the test, the Issuer will include the manufacturer in the list of eligible suppliers and officially commence the cooperation with the manufacturer.

4

Assist the customer to identify production problems

The manufacturer needs to promptly respond to the customer if any production problem has been identified, and to assist the customer to determine the root cause of the problem. If the problem lies in the substandard substrate product, the customer will request replacement or return.

5

Assist the customer to pay regular return visits

Due to long certification cycle and high certification costs, once the supplier passes the certification, the downstream customer usually does not easily change the supplier. During years of cooperation, most overseas customers will regularly and irregularly go to China to inspect production lines, so as to confirm whether the production process and quality management system of the Company's products meet the customer's standards.

Note: The certification process for different customers may differ. For instance, some customers with small purchases only certify product performance and parameters without assessing production lines.

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② Management of contracted supplier (being seller)

According to the interview with Customer C, the contracted supplier needs to provide Customer C with its name, tax identification number, bank account number and other information, in order for Customer C to enter the same into Customer C's supplier system. Upon business transfer, Customer C only maintains Beijing Tongmei and AXT-Tongmei (other than AXT) under its dual supplier management system in its supplier system.

In addition, as shown in the monthly statement sent by Osram to the Company upon business transfer, its supplier has also been changed from AXT to AXT-Tongmei, and it has changed the supplier code in its system.

③ Business relationship under the dual supplier management system

Upon business transfer, the business relationship among Beijing Tongmei (entity subject to product certification), AXT-Tongmei (seller) and the customer (for instance, Customer C) is as follows:

2) Osram, IQE, Visual Photonics Epitaxy (VPEC), Landmark Optoelectronics, VISHAY SEMICONDUCTOR GmbH, Mo Sangyo Co, Ltd. and AUK CORPORATION

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According to the interview with Osram, IQE, VPEC, LandMark Optoelectronics, VISHAY SEMICONDUCTOR GmbH, Mo Sangyo Co, Ltd. and AUK CORPORATION, they have a supplier catalog and accept only an individual entity under the control of the same group as its supplier, and upon business transfer, such customers have deleted AXT from its supplier catalog and system, and replaced AXT with AXT-Tongmei, and entered AXT-Tongmei's enterprise name, tax identification number, bank account number and other information in the system.

(3) Relevant agreement clauses

Osram (the global innovation promoter in the LED field), Customer C, IQE (the world's leading compound semiconductor epitaxial wafer designer and manufacturer) and VPEC (the world-renowned epitaxial wafer manufacturer) from top ten overseas customers of the Company are selected for analysis. In their supplier management manuals or agreements, specific agreements on process, product quality and changes are as follows:

Customer

Agreed clauses

Agreement on process and product quality

Agreement on changes

Osram

Osram's purchase rules

1. The supplier agrees not to change any specifications, form, coordination, functions, design, appearance, materials and technologies and manufacturing processes or facilities of deliverables, or to make any other revision to the warranties provided in GPC that affects or is likely to reasonably affect the quality, performance or compliance of the products without the prior written approval of the company;

2. In case of any unreasonable oversupply or shortfall, or any quality deviation, the supplier shall indemnify and hold the Company harmless from all expenses incurred by the Company due to extra inspections, packaging, return or storage. In any case, returns in excess of ordered quantity or unordered quantity shall be at the supplier's cost and risk.

In case of any change of the control of the supplier, the supplier shall immediately notify Osram. Osram reserves the right to cancel orders for such change of ownership, without bearing further obligations and responsibilities.

Customer C

Customer C's supplier compliance manual

To ensure compliance with agreement clauses, reduce supply chain risks to the maximum extent, ensure quality and supply or secure the items purchased from or sold by the supplier, the supplier will conduct comprehensive cooperation with Customer C or any third party designated by Customer C, and Customer C or such third party may at any time inspect the supplier's work, documents, property, assets, records and communication in a reasonable manner. The supplier may, upon Customer C's written request, carry out in good faith such inspection in accordance with agreement clauses, which inspection shall not cause

N/A

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unreasonable interference with its normal business activities or operations. Within two (2) weeks after receipt of Customer C's written request for such inspection, the supplier will make commercially reasonable efforts to disclose, provide or obtain the request and give any necessary consent, in order for Customer C, any third party or competent government authority to carry out the inspection. In addition, if any third party discovers upon inspection the supplier's non-compliance with agreement clauses, the supplier will reimburse Customer C for all expenses in connection with such inspection.

IQE

IQE's standard supplier terms and conditions

1. The supplier warrants that, within one (1) year following IQE's acceptance of any goods and/or services, the goods and/or services shall: (i) fit their description and conform to any IQE regulations and applicable specifications determined with the supplier (the "Specifications"); (ii) be of satisfactory quality and fit for any purpose proposed by the supplier or expressly or impliedly notified by the supplier to IQE, and be based on the supplier's expertise and judgment; (iii) in the case of finished goods, be free from defects in design, material and workmanship; and (iv) comply with all applicable laws, regulations and regulatory requirements;

2.1 IQE may inspect and test any goods at any time before shipment. Despite that IQE has conducted any such inspection or testing, the supplier shall also be held fully liable with respect to any goods, and any such inspection or test shall not diminish or otherwise affect the supplier's obligations;

2.2 If, upon such inspection or testing, IQE deems that the goods do not conform to or are unlikely to comply with the supplier's undertakings in Clause 2.1, IQE shall notify the supplier, and the supplier shall immediately take necessary remedial measures to ensure compliance;

2.3 After the supplier takes remedial measures, IQE may conduct further inspections and tests;

The supplier shall not assign or transfer any of its rights or obligations hereunder without the prior written consent of IQE (which shall not be unreasonably withheld or delayed). IQE may assign its rights and delegate its obligations. The supplier shall not subcontract any or all of its rights or obligations hereunder without the prior written consent of IQE;

VPEC

Supplier quality manual

1. The supplier is responsible for implementing all test and inspection requirements provided in the purchase documents. VPEC reserves the right to witness or carry out any such tests and inspections provided in the purchase documents, and to review the data generated during the course of the supplier carrying out such tests and inspections;

2. The supplier may be invited to participate in VPEC's quality plans, including quality management system, process chart, production part approval process, failure mode and impact analysis, process control plan, rectification measures, failure analysis and continuous improvement plan.

Upon product certification, any change that requires VPEC's comment is likely to be re-certified. The supplier shall follow the PCN process and provide support data, and shall not make any revision before VPEC's comment.

The Company needs to maintain regular communication with the customer in terms of production management, product quality, process and relevant changes in

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accordance with the supplier management manuals of Osram, Customer C, IQE, VPEC and other key overseas customers or the provisions of relevant agreements regarding the Company. According to Osram's supplier manual, any supplier that experiences change of control shall notify it thereof. The Company has notified Osram, and received its confirmation. So far, the Company has maintained good partnership with the above customers, and relevant agreements or orders signed by such parties are in the process of being performed.

(4) The role of AXT in maintaining the status as the Company's controlling shareholder

1) The role of AXT in maintaining the status as the Company's controlling shareholder

Through comprehensive analysis, the role of AXT in maintaining the status as the Company's controlling shareholder is summarized as follows:

Item

Key indicator to be taken into consideration

Core factor

The role of AXT in maintaining the status as the Company's controlling shareholder during the process of business transfer

Whether or not customer certification is involved

Factors taken into consideration in establishing cooperation

Product performance

Company's R&D and technological level

No material impact; AXT's status as the Company's controlling shareholder is not directly associated with the Company's R&D and technological level

Yes

Product stability

Product production process

No material impact; AXT's status as the Company's controlling shareholder is not directly associated with the stability of the Company's production and processes

Yes

Ability to continuously supply products

Partnership with the Company; cooperation history; the Company's capability for production

AXT has maintained cooperation with overseas customers for many years, and AXT's status as the Company's controlling shareholder is not directly associated with the Company's production capacity and ability to continuously supply products

No

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and prompt response

Management method

Some customers have a catalog of eligible suppliers

Complete and maintain the customer's eligibility review procedures in accordance with the customer's supplier management mode and relevant regulations

No material impact; AXT's status as the Company's controlling shareholder is not directly associated with the Company's ability to complete and maintain the customer's eligibility review procedures in accordance with the customer's supplier management rules and relevant regulations

Yes

Relevant agreement clauses

Quality management, process requirements and change notification

Comply with the customer's supplier management manual or agreement

No material impact; AXT's status as the Company's controlling shareholder is not directly associated with whether the Company complies with the customer's supplier management manual or agreement

Yes

Based on the analysis in the above table, AXT has been maintaining cooperation with key overseas customers for many years, and at the time of business transfer, maintaining its status as the Company's controlling shareholder has reduced the costs of communication of the Company and the customer, which enables the customer to provide coordination and assistance to a greater extent. However, when it comes to customer certification, AXT's status as the Company's controlling shareholder will not directly affect the Company's actual production lines or the performance and process stability of its products. Thus, despite the change of controlling shareholder, the customer does not need to re-certify the Company's products. In addition, the Company has not made any covenant to the customer that AXT will maintain the status as its controlling shareholder in any contract or order signed by and between the Company and the customer.

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2) Take Mo Sangyo Co, Ltd. for example

By taking the Company's customer Mo Sangyo Co, Ltd. for example, according to the statement issued by Mo Sangyo Co, Ltd., as a trader in Japan, it provides semiconductor substrates mainly to Dowa Holdings Co., Ltd. (the world-renowned semiconductor materials enterprise established in 1937), ROHM (the world-renowned semiconductor enterprise established in 1958) and SONY (the world-renowned tech company established in 1946).

Mo Sangyo Co, Ltd. has executed agreements with the said customer, and has purchased relevant products from the Company. The Company does not have any direct business dealing with its downstream customers. The said end customer needs products that meet its performance and parameter requirements, and the relevant delivery obligations, risks and responsibilities are for the account of Mo Sangyo Co, Ltd., the trader in Japan. Based on the above judgment, it has relatively low requirements for sellers.

(5) The Company has not obtained any business by relying on the controlling shareholder

1) AXT-Tongmei is not obligated to notify any customer (other than Osram) of any change of control

Based on the management of the semiconductor substrates industry, the customer's management of suppliers and the relevant agreements with the customer, AXT-Tongmei is not obligated to notify any customer (other than Osram) of any change of control. According to Osram's supplier manual, any supplier that experiences change of control shall notify it thereof; AXT clearly notified Osram via email and by telephone in March 2021, and received the confirmation from Osram via email. Currently, the Issuer and the intermediary have confirmed with Osram the change of the controlling shareholder of AXT-Tongmei into Beijing Tongmei, and obtained confirmation from Osram that: the above matter will not affect the cooperation between Osram and AXT-Tongmei.

To sum up, the Company is not required to notify overseas customers (other than

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Osram) of change of control of AXT-Tongmei, and the change of control of its supplier does not affect the normal course of the transaction between the parties. Thus, it can be seen that the choice of the customer to purchase products from the supplier does not depend on the background of the customer, the supplier or the de facto controller, but mainly depends on whether its products can pass customer certification.

2) Confirmation of interviews with key overseas customers

The intermediary interviewed Osram, Customer C, LandMark Optoelectronics, VPEC, VISHAY SEMICONDUCTOR GmbH, Mo Sangyo Co, Ltd., IQE, WIN Semiconductors and AUK CORPORATION (the revenue of such customers in 2020 represents, in aggregate, 76.52% of the sales generated by the Company through AXT) respectively from May 3 to 8, 2022, details of which upon confirmation of such customers are as follows:

① The cooperation between the customer and the Issuer mainly depends on the certification of the Issuer's products, and the stable performance, good quality and timely supply of the products manufactured by the Issuer.

② If the production site and production line of the Issuer remain unchanged, the selection of any entity to sell the products manufactured by the Issuer does not affect the cooperation between the Issuer and the customer.

③ The Issuer is not required to notify the customer of the change of shareholder of AXT-Tongmei. (Osram has re-confirmed and informed that such matter does not affect its cooperation with AXT-Tongmei)

④ AXT has been replaced by AXT-Tongmei in the customer's supplier system.

3) Industry particulars

The prospectus of National Silicon Industry Group ("NSIG") demonstrates that: "Semiconductor silicon wafer is the core material for chip manufacturing, and the chip manufacturer has extremely high requirements in terms of the quality of semiconductor silicon wafers and is very prudent in supplier selection. According to industry practices, a manufacturer may only be included in the supply chain after certification of the semiconductor silicon wafer products. Once the products pass the

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certification, the chip manufacturer will not easily change the supplier."

The reply to the first-round feedbacks given by SICC shows that: "During the verification of 4-inch semi-insulating silicon carbide substrates, the Company discussed with the customer with respect to specific product parameters, e.g. microtubule, warpage and bending, and used the product parameters to benchmark the testing equipment and testing standards of the parties. After the product and technical parameters of the Company met any key customer's standards, the Company supplied a small batch of goods to the key customer, and the customer conducted internal certification of such goods, so as to verify whether its epitaxial wafer and chip tape-out meet its product performance requirements. During the certification process, the parties continued to conduct technical communication, and the customer placed orders in batch upon such verification.

Thus, it can be seen that the choice of the customer to purchase products from the supplier mainly depends on whether its products can pass customer certification.

To sum up, AXT's status as the controlling shareholder of the Company has a positive impact on the successful business transfer, but does not constitute a precondition or necessary requirement for successful business transfer, nor does it constitute a precondition or necessary requirement for continuous cooperation with the Company. The Company has not obtained any business by relying on the controlling shareholder.

2. Supplier

(1) Factors that the supplier takes into account in establishing cooperation with the Company

The factors that the supplier takes into account in establishing cooperation with the Company mainly include purchasing stability, the Company's market position, purchasing price and payment cycle, details of which are as follows:

No.

Key factor

Particular case

1

Purchasing stability

The supplier will take into account the Company's purchasing stability in choosing to cooperate with the Company. The purchasing stability involves purchase quantity and amount and is closely associated with

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the Company's production lines, production capacity and production yield.

2

The Company's market position

The supplier will take into account the Company's market position in choosing to cooperate with the Company. Generally, the supplier's products need to pass the verification and test by the downstream customer or ultimate brand in terms of reliability, function, resistance in harsh environment before inclusion in its supplier catalog. Thus, if the supplier can be included in the supplier catalog of well-known customers, its industry reputation will also be enhanced.

3

Purchasing price and payment cycle

The supplier will consider the purchasing price of the Company in choosing to cooperate with the Company. Generally, the supplier would prefer to cooperate with price-insensitive customers. On the other hand, customers with short payment period are able to alleviate the financial pressure of the supplier to a great extent, thus the supplier will prefer to cooperate with customers with short payment period.

(2) Method of the customer's management of suppliers

The Company implements management measures with respect to overseas suppliers, and conducts certification of the suppliers' products. The Company will coordinate global sourcing by taking into account such factors as supplier quotation, supply capacity and product quality.

(3) Relevant agreement clauses

The relevant agreement clauses agreed between the Company and key overseas suppliers and orders signed by and between the parties provide as follows:

Supplier

Management clauses

International trade arrangements

Supply cycle

Quality management

Obligations to be assumed by the Company

TOKO SHOJI&CO,LTD

Supplier Management Regulations and orders signed by the parties

1. Sea transport;

2. Notification before shipment;

3. The supplier shall deliver all products and provide all services in compliance with all applicable national and international export control, customs and foreign trade regulations (the "Foreign Trade Regulations"). The

1. If any order cannot be executed, the supplier shall notify the Company within three (3) days thereof;

2. In case of damaged packaging of, collision against or rain damage to the imported goods and materials during transport, the Company shall

1. The product packing list shall indicate the supplier's name, material description, specifications, quantity, place of arrival, transportation method and pricing clause;

2. Coordinate with the purchaser and IQC to confirm the quality of the products that have arrived at the place of arrival. IQC shall confirm the quality of Type A and Type B key materials in accordance with the Inspection Procedures for

The Company shall make timely payments as per the relevant order;

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supplier shall obtain all necessary export permits;

coordinate with the carrier to deal with claims. In the event of delayed delivery or other transportation problems, the Company shall pursue a claim in accordance with contractual clauses based on the degree of impact caused thereby to the production schedule of the Company;

Incoming Materials. In case the products supplied by any non-ASL supplier do not meet the quality requirements, the Company may replace or return such products or pursue a claim therefor;

YONEDA CORPORATION

Supplier Management Regulations and orders signed by the parties

1. CIP;

2. The supplier shall deliver all products and provide all services in compliance with all applicable national and international export control, customs and foreign trade regulations (the "Foreign Trade Regulations"). The supplier shall obtain all necessary export permits;

1. If any order cannot be executed, the supplier shall notify the Company within three (3) days thereof;

2. In case of damaged packaging of, collision against or rain damage to the imported goods and materials during transport, the Company shall coordinate with the carrier to deal with claims. In the event of delayed delivery or other transportation problems, the Company shall pursue a claim in accordance with contractual clauses based on the degree of impact caused thereby to the production schedule of the Company;

1. The product packing list shall indicate the supplier's name, material description, specifications, quantity, date and place of arrival, transportation method and pricing clause;

2. Coordinate with the purchaser and IQC to confirm the quality of the products that have arrived at the place of arrival. IQC shall confirm the quality of Type A and Type B key materials in accordance with the Inspection Procedures for Incoming Materials. In case the products supplied by any non-ASL supplier do not meet the quality requirements, the Company may replace or return such products or pursue a claim therefor;

1. Payment 30 days after arrival;

2. The Company shall make timely payments as per the relevant order;

By taking into account the clauses of relevant agreements executed by and

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between TOKO SHOJI&CO,LTD, YONEDA CORPORATION and other key overseas suppliers and the Company, the cooperation between the Company and the supplier mainly focuses on the Foreign Trade Regulations, price, date of arrival, product quality and payment method, and the Company is not obligated to notify the supplier of the change of shareholder of AXT-Tongmei. Upon completion of the business transfer, the Company still has a global sourcing system and keeps close cooperation with overseas suppliers.

(4) The role of AXT in maintaining the status as the Company's controlling shareholder

Through comprehensive analysis, the role of AXT in maintaining the status as the Company's controlling shareholder during the transfer of the supplier's business is summarized as follows:

Item

Key indicator to be taken into consideration

Core factor

The role of AXT in maintaining the status as the Company's controlling shareholder during the transfer of the supplier's business

Whether or not the supplier's core interests are involved

Factors taken into account in establishing cooperation

Purchasing stability

Production lines, production capacity and production yield

No material impact; AXT's status as the Company's controlling shareholder is not directly associated with production lines, production capacity and production yield

Yes

The Company's market position

The Customer's industry reputation

The capacity as a qualified supplier of AXT, a company listed on NASDAQ, can enhance the industry reputation of the supplier.

No

Purchasing price and payment cycle

The Company's willingness and ability to make payments

No material impact; AXT's status as the Company's controlling shareholder is not directly associated with the Company's willingness and ability to make payments

Yes

Management method

The supplier does not have any

N/A

No material impact; the Company has coordinated global sourcing and provided alternative solutions

No

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management requirements for the Company

by taking into account purchasing price, exchange rate impact, supply cycle and other factors, and has cooperated with overseas suppliers in the purchaser's market

Relevant agreement clauses

Agreement clauses regarding the Company's management of the supplier

Whether or not the supplier complies with the Company's supplier management regulations

No material impact; AXT's status as the Company's controlling shareholder is not directly associated with whether the supplier complies with the Company's supplier management regulations

Yes

Based on the analysis in the above table, the status of AXT (a company listed on NASDAQ) as the controlling shareholder of the Company can enhance the supplier's industry reputation. During the process of business transfer, the supplier will give full consideration to AXT's market positioning and brand effect, and the costs of communication between the parties will be reduced. In addition, AXT's status as the controlling shareholder of the Company will not affect the business transfer between the Company and the supplier.

(5) US-based suppliers do not have special requirements for the background of shareholders of their customers

Upon business transfer, the Company arranges for its subsidiary AXT-Tongmei to purchase products in the United States, and domestic purchases and purchases in other overseas regions are for the account of the Company and domestic subsidiaries. The Company's suppliers in the United States are relatively dispersed. The raw materials supplied by such suppliers are mainly auxiliary materials for production lines, and the suppliers do not have special requirements for the background of shareholders of their customers.

(IV) New customers acquired by the Company and the amount of newly signed orders after the business transfer, and the method of acquiring new customers and newly signed orders, as well as whether the Company's

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controlling shareholder and relevant personnel have actually provided any support or convenience for the Company to acquire customers;

1. New customers acquired by the Company and the amount of newly signed orders after the business transfer, and the method of acquiring new customers and newly signed orders

After the business transfer, AXT-Tongmei signed new contracts or orders with all overseas customers to continue the cooperative relationships. In 2021, the Company achieved revenues of RMB341.7283 million with its overseas semiconductor substrate material business (calculated based on the current sales volume as well as the annual average export selling price of substrate materials of various sizes in 2020), a YoY growth of 21.10%. The acquisition of new orders came from the continuation of the cooperative relationships.

After the business transfer, the Company also acquired some new customers both at home and abroad. However, as the Company is the world's mainstream III-V compound semiconductor substrate supplier, most of the downstream manufacturers with a certain scale around the world have become the Company's customers, details of which are as follows:

Main downstream application sectors

Name of customer

Position in the industry

Some of its major downstream customers

5G, data centers, and optical fiber communications

LandMark Optoelectronics

The world's largest III-V compound semiconductor epitaxy manufacturer

Lumentum and Apple

Win Semiconductors

The world's largest GaAs wafer foundry

Apple, Broadcom

IQE

A listed British company, and the world's second largest III-V compound semiconductor epitaxy manufacturer

Apple

Broadcom

A world-renowned supplier of semiconductor and infrastructure products in the sectors of RF, communications and LED

Apple

Qorvo

A world-renowned communications and RF chip company

Apple

Skyworks

A world-renowned communications and RF chip company

Apple, Samsung, Xiaomi, OPPO and

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VIVO

New-generation displays (including Mini LED and Micro LED)

Osram

One of the world's top two optoelectronic semiconductor manufacturers, with outstanding products in the LED sector

Volkswagen Group, BMW Group, Daimler Group, GM Group and Toyota Group

Broadcom

A world-renowned supplier of semiconductor and infrastructure products in the sectors of RF, communications and LED

Siemens

Epistar

A world-renowned LED fab

Apple

San'an Optoelectronics

A world-renowned LED company

TCL and CSOT

AI and unmanned driving

LandMark Optoelectronics

The world's largest III-V compound semiconductor epitaxy manufacturer

Apple and Broadcom

Win Semiconductors

The world's largest GaAs wafer foundry

Apple and Broadcom

Visual Photonics Epitaxy

One of the world's top three GaAs wafer foundries

Broadcom, Qorvo and San'an Optoelectronics

Meta

Formerly known as Facebook, a world-renowned social media platform company

Wearable devices

Masimo

A world-renowned medical technology company

Philips, Atom, Mindray and GE

Alta Devices

A world-renowned solar thin film manufacturer

-

Aerospace

SolAero

A world-renowned solar panel manufacturer

-

Azur Space

A world-renowned solar panel manufacturer

-

Nanchang Kingsoon

China's largest germanium epitaxy manufacturer

-

Industrial laser

IPG

A world-renowned fiber laser manufacturer

Han's Laser

Trumpf

The world's largest laser device manufacturer

ASML

nLight Photonics

A world-renowned fiber laser module manufacturer

Yaskawa

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Excelitas

A world-renowned laser sensor chip company

Tesla

Everbright Photonics

A renowned Chinese semiconductor laser chip, device and module manufacturer

Max Phonics, Feibo Laser and Raycus

Note: Sorted out according to public information

To sum up, the current purchase amount of new customers is still small, details of which are as follows:

In RMB0'000

No.

Customer name

Main sales contents

Country

Starting time of cooperation

Realized revenues since transfer

1

Gusu Lab

InP and GaAs substrates

China

July 21, 2021

188.24

2

Shanghai Advanced Microsemi Co., Ltd.

InP and GaAs substrates

China

July 27, 2021

95.76

3

AREA51-ESG, INC.

GaAs substrates

USA

April 19, 2021

73.21

4

Zhongke Nano Zhangjiagang Institute of Compound Semiconductors

GaAs substrates

China

March 17, 2021

53.32

5

Xiamen AiErFa Technology Co., Ltd.

InP and GaAs substrates

China

June 17, 2021

47.25

6

Suzhou Jiagang Semiconductor CO., LTD.

GaAs substrates

China

March 18, 2021

46.24

7

ASTRUM LT

GaAs substrates

Czech Republic

March 2, 2022

18.22

8

Zhejiang Lab

GaAs and Germanium substrates

China

June 22, 2021

12.63

9

Wuxi Zhongke Dexin Perception Technology Co., Ltd.

InP and GaAs substrates

China

November 14, 2021

11.50

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10

UNIVERSITY OF ADELAIDE

GaAs substrates

Australia

September 9, 2021

10.16

11

Other

-

-

-

82.75

Total

639.29

Up to now, the total amount of backlog orders from the foregoing customers is RMB1.949 million, which is relatively small. The foregoing customer development is mainly for domestic customers. The main reason is that with the rapid development of the domestic compound semiconductor industry in recent years, the Company has gradually shifted its strategic focus of business to China; during the reporting period, the Company's revenues from domestic business accounted for 39.35%, 42.37% and 51.17% of the business revenue respectively, and the proportion of domestic business has been increasing year by year.

The ways the Company acquires the foregoing new customers include: 1) The Company has a high reputation in the global III-V compound semiconductor sector, and some customers take the initiative to contact the Company to establish cooperative relationships; 2) the Company's domestic and foreign sales teams have been developing new customers independently by participating in expos, taking initiative to visit new customers and other means.

2. Whether the Company's controlling shareholder and relevant personnel have actually provided any support or convenience for the Company to acquire customers

After the business transfer, AXT terminated the labor relationships with its purchase, sales, R&D and other relevant personnel, and AXT-Tongmei re-signed labor agreements with the foregoing personnel. Pursuant to the legal opinion on AXT issued by Burks Johansson LLP, a U.S. law firm, and the explanation of AXT, AXT has three employees for the time being. Wherein, MORRIS SHEN-SHIH YOUNG serves as the CEO, Gary L. Fischer serves as the CFO and Secretary, and Alan Chan serves as the Vice President of Finance and Corporate Controller. Except MORRIS SHEN-SHIH YOUNG, the Chairman of AXT, the other two employees are mainly responsible for financial management and information disclosure, and have nothing to do with marketing and sales.

To sum up, after the business transfer, the Company developed some new

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customers. During the process of new customer development, AXT and its relevant personnel did not actually provide any support or convenience for the Company to acquire customers.

(V) Explain the impact of the change of shareholder of AXT-Tongmei on sales and purchases by taking into account the relevant industry practices of the semiconductor industry and international trade policies;

1. Relevant industry practices of the semiconductor industry

(1) Sales business

The prospectus of NSIG demonstrates that: "Semiconductor silicon wafer is the core material for chip manufacturing, and the chip manufacturer has extremely high requirements in terms of the quality of semiconductor silicon wafers and is very prudent in supplier selection. According to industry practices, a manufacturer may only be included in the supply chain after certification of the semiconductor silicon wafer products. Once the products pass the certification, the chip manufacturer will not easily change the supplier."

The reply to the first-round feedbacks given by SICC shows that: "During the verification of 4-inch semi-insulating silicon carbide substrates, the Company discussed with the customer with respect to specific product parameters, e.g. microtubule, warpage and bending, and used the product parameters to benchmark the testing equipment and testing standards of the parties. After the product and technical parameters of the Company met any key customer's standards, the Company supplied a small batch of goods to the key customer, and the customer conducted internal certification of such goods, so as to verify whether its epitaxial wafer and chip tape-out meet its product performance requirements. During the certification process, the parties continued to conduct technical communication, and the customer placed orders in batch upon such verification.

It can be seen from the above that in the semiconductor material industry, the certification by customers for semiconductor substrate materials is mainly based on the certification of the performance and parameters of substrate products. It is mainly the production line that needs to be inspected on site, while the change in the shareholder will not affect the effectiveness of customer certification.

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In addition, as shown by the case of the acquisition of companies in the semiconductor industry by Wingtech and Secote, there have been no material adverse impact on the business of their acquisition targets just because the shareholders were changed into Chinese companies. Details are as follows:

1) Wingtech's acquisition of Nexperia Group

According to an announcement of Wingtech (600745.SH), in July 2020, it completed the acquisition of 100% equity of Nexperia Group. Headquartered in Nijmegen, the Netherlands, Nexperia Group is a world's leading standard device semiconductor IDM company, focusing on the design, production and sale of discrete devices, logic devices and MOSFET devices, with its products widely used in automobiles, industry and energy, mobile and wearable devices, consumer products, computers and other sectors.

According to public information of Wingtech, from 2019 to 2021, the sales revenue of Nexperia Group was RMB10.307 billion, RMB9.953 billion and RMB13.914 billion respectively, and its customers are distributed all over the world. It can be seen that after it was acquired by the Chinese company Wingtech in July 2020, its sales revenue in 2021 grew significantly, and there was no material adverse impact on its sales revenues just because its shareholder is changed into a Chinese company.

2) Secote's acquisition of Optima

According to an announcement of Secote (600745.SH), in June 2019, it completed the acquisition of 67.53% equity of Optima, a Japanese company. Optima is mainly engaged in the development, manufacture, sale and service business of semiconductor inspection equipment and exposure equipment.

According to public information of Secote, before the acquisition, from January to March 2019, the unaudited operating revenue of Optima was RMB48.1624 million. After the acquisition, from August to December 2019, Optima achieved an operating revenue of RMB85.8231 million, and there was no material adverse impact on its business and revenue just because its shareholder is changed into a Chinese company.

2. International trade policies

According to the WTO Rules of Origin, before and after the business transfer, regardless of whether the Company's export products are sold overseas through AXT or through AXT-Tongmei and whether the shareholders of AXT-Tongmei have

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changed, the "origin" of the products sold by the Company remains China, and overseas customers that need to inspect the production line should go to the Chinese factory for field inspection. Similarly, the raw materials purchased by the Company in the United States, whether purchased by AXT or AXT-Tongmei, need to be re-exported to China by it, and the origin of such raw materials is also not affected by the purchaser.

In recent years, as the international trade situation has been complicated, the U.S. government has promulgated a series of import and export control policies against China in the semiconductor sector, mainly including: Investigating China's trade practices in accordance with Section 301 of the Trade Act of 1974. In terms of import, additional tariffs have been imposed on importing Chinese goods since then, including semiconductors; in terms of export, the U.S. Department of Commerce has included several Chinese companies, on the "Entity List", to control and restrict the export of relevant semiconductor products to them; the U.S. Department of Commerce has released the latest version of the Export Administration Regulations and revised the direct product rules therein, further restricting the sale of products, equipment, raw materials, etc. produced in the United States or containing U.S. semiconductor technologies to some Chinese semiconductor companies. In terms of import, the Chinese government, as stipulated in the Catalogue of Technologies and Products Whose Import Is Encouraged (2016 Edition), provides that semiconductor-related materials and technologies are categorized as relevant products and technologies that China encourages to import; in terms of export, except for those that are explicitly banned or restricted by laws and regulations as they endanger national security, China has not yet issued any relevant regulations to ban or restrict the export of semiconductor products.

Thus, when the Company exports its products to the United States, except for being subject to additional tariffs imposed by the United States, it is not subject to any other restrictions imposed by either the Chinese government or the US government. Similarly, the Company's import of relevant equipment and raw materials from the United States is not subject to relevant restrictions by both governments either. In the event that the U.S. government takes any other import control measures against products originating in China in the semiconductor sector in the future, or further restricts the export of relevant equipment and materials required by the Company to

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China, or the Chinese government issues relevant bans or restrictions on the export of semiconductor products to the United States in the future, the Company's overseas sales and purchase business will be affected.

To sum up, AXT-Tongmei is a company registered in the United States, and the change in its shareholders will neither change the origin of the Company's products it sells or the raw materials it purchases, nor have any extra impact on the Company's purchase and sales in terms of international trade policies.

(VI) Whether the Company relies upon AXT, satisfies independence requirements and has taken specified standard measures to guarantee the independence and the effectiveness thereof by taking into account the above questions.

Based on the foregoing arguments:

1. After the business transfer, the Issuer's production, supply and sales system has become independent and complete.

2. In accordance with industry practices, agreements with customers and suppliers, customer certification procedures and other requirements, regarding the change of the shareholder of AXT-Tongmei into the Issuer, except Osram, the Company is not obliged to notify relevant parties, and the Company has already fulfilled the obligation of notification to Osram and has obtained its reply as confirmation. The change of the shareholder of AXT-Tongmei will not have a substantial impact on agreement clauses, product production, delivery and shipment, products and customer certification, etc.

3. To avoid any misunderstanding of overseas customers and suppliers, AXT has issued an announcement on NASDAQ on the Company's acquisition of AXT-Tongmei. So far, AXT-Tongmei has maintained a good partnership with overseas customers, and the relevant parties have not raised any objection to the cooperation between the parties in relation to this business transfer and the announcement.

4. Factors taken into account by customers and suppliers in establishing cooperation with the Company are mainly the performance and stability of products produced by the Company, the Company's ability to continuously supply products, purchasing stability, market position, purchasing price, payment cycle and other factors. AXT's status as the controlling shareholder of the Company has a positive impact on the business transfer, but does not constitute a precondition or necessary

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requirement for successful business transfer.

5. After the business transfer, the Company developed some new customers on the premise of satisfying the orders and deliveries for the main original customers. In the process of new customer development, AXT and its relevant personnel did not provide any actual support or convenience for the Company to acquire customers.

6. According to industry practices in the sector of semiconductor materials, the certification by customers for semiconductor substrate materials is mainly based on the certification of the performance and parameters of substrate products. It is mainly the production line that needs to be inspected on site, while the change in the shareholder will not affect the effectiveness of customer certification. As long as the other conditions remain unchanged, the change of the shareholder will not have any material adverse impact on the Company's business.

7. The change of the shareholder of AXT-Tongmei will neither change the origin of the Company's products it sells, nor change the origin of the goods it purchases in the United States. Thus, it will not have any extra impact on the purchase and sale of the Company.

To sum up, the Company does not rely on AXT and meets the requirements for independence.

AXT has taken the following measures to guarantee the Company's business independence:

1. Only retained personnel related to the listing status without engaging in any specific business

After the business transfer, AXT terminated the labor relationships with its purchase, sales, R&D and other relevant personnel, and AXT-Tongmei re-signed labor agreements with the foregoing personnel. AXT only retained the necessary personnel to be responsible for information disclosure, investor relations, financial affairs, etc. in the U.S. capital market. And AXT also only retained its listing status on NASDAQ, and no longer engaged in specific business operation.

2. Transferred the overseas sales and purchase business to AXT-Tongmei

After the business transfer, the overseas sales business and purchase business in the United States were undertaken by AXT-Tongmei, who would directly sign orders and cooperate with overseas end customers and suppliers, and the cooperation between AXT and the foregoing customers was also terminated after relevant orders

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were completed. The Issuer has established and improved a complete production, supply and marketing system, operates independently, and has no competition with the controlling shareholder and other peer companies controlled by the controlling shareholder.

3. Granted the Company patents, technologies, trademarks and other intellectual property rights necessary for production and operation

As of May 31, 2022, the Issuer had 60 invention patents in total, including 51 domestic invention patents and 9 overseas invention patents. The Issuer's relevant core technologies and the foregoing patents were all formed by independent research and development. The granted patents, pending patents and intellectual property rights granted by AXT to the Issuers were mainly formed before 2010, which was quite early and does not have any critical impact on the current production and operation of the Company.

In addition, on April 16, 2020, AXT and M entered into a Cross-licensing and Non-prosecution Agreement, under which: M and AXT grant a cross license to each other and the entities under their respective control for patents filed prior to December 31, 2029 (inclusive). This agreement is intended to avoid patent infringement and litigation, hence preventing lawsuits initiated by the parties. We have not used relevant patents licensed by M in our actual production and operation.

The patented technologies licensed by AXT to the Issuer are mainly related to gallium arsenide substrates and germanium substrates, but are not related to indium phosphide substrates, PBN materials, and other high-purity materials. Armanino LLP valued the fair value of such patents by using the income approach. According to the Intangible Assets Evaluation Report issued by Armanino LLP, in 2021, the technology commission rate is 15% (that is, the proportion of incomes from the patents licensed by AXT in the Issuer's revenue realized by selling gallium arsenide substrates and germanium substrates), and it is reasonably predicted that this proportion will decrease at an annual rate of 1.5% over the next ten years. Based on the foregoing technology commission rate and the sales revenues from relevant products of the Company, the revenue of the Company from selling products manufactured with the patents granted by AXT accounted for a small proportion of 6.04% in the operating revenue of the Company.

For semiconductor substrate materials, the Issuer uses the AXT's authorized

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trademarks; for PBN crucibles and relevant materials, high-purity metals and compounds, the Issuer uses its own trademarks. AXT has already granted the Issuer its trademarks permanently; meanwhile, due to the low significance of trademarks in the semiconductor material sector, the type of trademark used does not have a significant impact on the Company's business. Beijing Tongmei has successively obtained some registered trademarks since November 2021. Subsequently, the Company will also use its own registered trademarks for replacement on semiconductor substrate products.

On November 4, 2021, AXT and the Company signed the Technology License Agreement, stipulating that: AXT shall grant the Issuer and its controlled subsidiaries all the authorized patents and patents in application, intellectual property rights (i.e. technical trade secrets, contracting rights and licensing rights and other existing and/or future technical property rights, as updated and extended) owned by AXT for use; the scope of licensing shall cover the manufacturing, use, sale, display, reproduction and distribution of GaAs, InP and germanium crystals and substrate products worldwide, and the licensing period shall be effective from January 1, 2021 and be valid in perpetuity.

On November 4, 2021, the Company signed the Trademark License Agreement with AXT, stipulating that: AXT shall grant the Company and its subsidiaries the foregoing trademarks for free, as an integral part of the Company's corporate name, for the production, marketing and sales of products. The licensing period shall be effective from March 1, 2021 and be valid in perpetuity.

At present, AXT uses its trademark mainly in its annual reports and other relevant disclosure documents, but does not use its trademark in specific business operation.

AXT has issued the following Letter of Undertaking concerning patents, trademarks, and other intellectual property rights:

① Except for M, without the consent of the Issuer, we will not use or authorize other third parties to use the relevant patents and other intellectual property rights licensed to the Issuer under the Technology License Agreement.

② Except for using relevant trademarks in external publicity and information disclosure, without the consent of the Issuer, we will not authorize other third parties to use the relevant trademarks licensed to the Issuer under the Trademark License Agreement, and will not use such trademarks for business operation or other operating

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purposes.

③ We will not unilaterally terminate the license of the technologies and trademarks above with the Issuer, so that the Issuer may use such patented technologies and trademarks on a long-lasting and stable basis.

④ We will not use our patents, intellectual property rights, trademarks, or other resources for businesses or activities in competition with the main business of the Issuer, and will not authorize other third parties except for the Issuer and M for operating relevant businesses or activities.

In terms of assets, AXT has already granted the Company and controlled subsidiaries thereof its intellectual properties, authorized patents, pending patents and trademarks permanently. The asset property rights between the Issuer and the controlling shareholder and other companies controlled by it are clearly defined. The Issuer has the legal ownership or use right to the land, buildings, equipment, trademarks, patents and other intellectual property rights related to production and operation, and the Issuer's assets are independent and complete.

(1) Trademarks used by the Issuer's products

For semiconductor substrate materials, the Issuer uses AXT's authorized trademark; for PBN crucibles and relevant materials, high-purity metals and compounds, the Issuer uses its own trademarks.

(2) The specific use of the relevant assets and their significance to the Issuer

1) Patents

To avoid horizontal competition, AXT has granted the Issuer its authorized patents, pending patents and other intellectual property rights under the premise of meeting the requirements of the US government. However, as the foregoing patented technologies were invented early, most of which were invented before 2010, they are no longer the Company's core patents and technologies now; on the other hand, the foregoing patents mainly involve gallium arsenide and germanium substrate materials, without involving indium phosphide lining substrates.

As of May 31, 2022, the Issuer had 60 invention patents in total, including 51 domestic invention patents and 9 overseas invention patents. The Issuer mainly relies on the technologies formed by its own research and development in production, and applies for relevant patents or forms technical secrets.

2) Trademarks

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On the one hand, Beijing Tongmei's did not register its trademarks until November 2021 and even later; on the other hand, to ensure the continuity of the use of AXT's trademarks, as a controlled subsidiary of AXT, the Company uses relevant trademark patterns mainly in daily management, in-factory signs, product packages, label cards, etc.

As of February 28, 2022, the Issuer and its controlled subsidiaries had obtained 23 registered trademarks in China; AXT had obtained 19 registered trademarks, and has granted the Company such registered trademarks for free use.

In the semiconductor material sector, the Company's customers are all production and manufacturing enterprises, who are mainly concerned about the performance, quality stability, etc. of products when purchasing them. The trademarks used by the Company for sales does not have any significant impact on its business, and the foregoing authorized trademarks are not necessary trademarks for the Company's production and operation.

For instance, as publicly disclosed by Zecheng Electronics, a company in the semiconductor industry, "The Issuer is located in the middle of the electronic information manufacturing industry chain, and its products are modules and printed circuit boards, both of which are not terminal electronic products. Its downstream customers are mainly concerned about the Issuer's R&D, design and process capabilities as well as the performance, quality, etc. of its products, while the trademarks and brands of the Issuer's products are less important."

In addition, as disclosed by Wafer Works, a company in the semiconductor industry, "This trademark shared with Wafer Works is mainly used for the daily management of the company, in-factory signs, product packaging, etc. The Issuer and its subsidiaries are in the semiconductor material sector, and the Issuer does not reply on trademarks when carrying out its business. It is not a trademark necessary for the Issuer to produce and sell its main products."

(3) Reasons for not investing in the Issuer

Regarding technology licensing, due to the cross-licensing agreement between AXT and M, there are restrictions on the transfer of patents by AXT. Besides, AXT's patents cover countries and regions including Europe, the United States, Japan, South Korea, Taiwan, etc. Since 2021, various countries and regions have launched acts to strengthen the support for the semiconductor industry. Under this background, there

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are a lot of restrictions on the cross-border transfer of relevant patents in the semiconductor area and there is great uncertainty in policies. Due to the above reasons, although AXT no longer has any actual business, the Issuer and AXT still undertake the patent use rights related to AXT by means of licensing rather than transfer.

Regarding trademark licensing, since AXT itself is still a NASDAQ-listed company, relevant trademarks will still be used for public relations and information disclosure. To facilitate the integration of the Issuer's sales business and meet the needs of AXT's daily publicity and disclosure, AXT will grant the Issuer the trademark for free use. The licensing starts from March 1, 2021 and is permanently valid.

(4) Fairness of lease fee or royalty

1) Patents

The royalty for the technology that AXT grants to the Issuers include the intellectual property rights, authorized patents and pending patents owned by AXT. Such royalty is determined by both parties through negotiation in accordance with the Intangible Assets Appraisal Report issued by Armanino LLP, an overseas appraisal agency, where the appraisal value is USD1,228,000, the appraisal method is the income method, and the appraisal base date is January 1, 2021.

According to an appraisal report issued by Armanino LLP, an American appraisal agency, Armanino LLP has assessed the fair value of the right to use the patented technology by the income method. Main parameters of the fair value appraisal of the right to use the patented technology are as follows:

Main parameters

Note

Purpose of appraisal

Fair value of the right to use granted patents and intellectual property rights

Appraisal base date

January 1, 2021

Operating forecast period

10 years

Appraisal method

Income method

Contribution rate of the right to use the patented technology

In 2021, the technology commission rate is 15%, and it is reasonably predicted that this proportion will decrease at an annual rate of 1.5% over the next ten years.

Discount rate

13%

Armanino LLP has predicted and calculated the Company's sales revenues of relevant products from 2021 to 2030, and also considered the technical commission

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rate of AXT's patented technologies during the licensing period. In addition, Armanino LLP has selected the royalty rates of 12 US-listed company for comparative analysis, and concluded that the pricing of AXT's royalty is reasonable. The present value of each annual technology royalty is determined as USD1,228,000 upon discount based on the foregoing factors.

To sum up, the foregoing technology royalty is based on the appraisal under the Intangible Assets Appraisal Report issued by the overseas appraisal agency Armanino LLP, and as agreed by the Issuer and AXT through negotiation, the pricing of the royalty is fair.

2) Trademark

As AXT is still using the trademarks, it grants the Issuer the trademarks in a permanent and royalty-free manner, and the trademarks are used jointly by both parties.

(5) Whether it can ensure the Issuer's long-term use and the future plan

In accordance with the Technology License Agreement by and between AXT and the Company, the licensing period of the relevant patents and other intellectual property rights became effective on January 1, 2021 and will remain valid permanently.

In accordance with the Trademark License Agreement by and between AXT and the Company, the licensing period of the trademarks that AXT grants to the Company became effective on March 1, 2021 and will remain valid permanently.

As stated and confirmed by AXT, except the relevant patents granted to M, AXT will not use on its own or authorize any other third parties to use the relevant licensed patents; AXT will not authorize any other third parties to use the relevant registered trademarks except the use by AXT in public relations and information disclosure, etc. In addition, AXT will not unilaterally terminate the foregoing technology and trademark licenses with the Company, so as to ensure that the Company can use such patented technologies and trademarks in a long-term and stable manner.

As of February 28, 2022, the Issuer and its controlled subsidiaries had obtained

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23 registered trademarks in China. In the future, the Company will also continue to use its own registered trademarks on semiconductor substrate products.

4. Ensured the independence of the Company's management and other personnel

During the reporting period, AXT paid RMB2.4354 million, RMB3.8350 million and RMB0.7361 million respectively to Liu Wensen, general manager of the Company, which were advanced compensation. As stated by AXT, AXT does not require the Company to pay this part of the compensation anymore, and the Company has conducted corresponding accounting treatment. After March 2021, the foregoing issues did not occur again, and there was no other payment in advance except the foregoing issue.

To actively promote the Company's R&D work, AXT has dispatched its R&D personnel to assist the Company in the R&D work. During the reporting period, the Company paid allowances of RMB1.0705 million, RMB1.0499 million and RMB0.4156 million respectively to the foregoing personnel. All the relevant R&D personnel worked in AXT and did not work in the Company. Thus, there is no cross-service or part-time job in the Company. The Company has paid relevant allowances according to the service hours of the relevant personnel, which should not be recognized as advanced compensation. Since March 2021, the foregoing R&D personnel have already joined AXT-Tongmei and become employees of the Company.

The Company has an independent personnel management system, and its directors, supervisors and senior officers are all elected and appointed in strict accordance with relevant provisions of the Company Law and Articles of Association. The Company's management personnel and core technical team all work in the Company with full-time jobs and receive compensations from the Company, and do not hold any positions other than directors and supervisors in the controlling shareholder and other companies controlled by it, nor do they hold any positions in any other companies that are engaged in the same or similar businesses as the Company.

5. Issued the Letter of Commitment on Avoiding Horizontal Competition and disclosed it on NASDAQ

To avoid horizontal competition or potential horizontal competition, safeguard interests of the Company, and ensure the normal operation of the Company, AXT, the

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controlling shareholder of the Company, has issued a Letter of Commitment on Avoiding Horizontal Competition, undertaking that:

"1. The Firm (including other companies controlled by the Firm except the Issuer and its holding companies, the same below) is currently not engaged in any form in any business or activity that competes with the main business of the Issuer (including companies directly or indirectly controlled by the Issuer, the same below); the assets of the Issuer are complete, and its assets, businesses, personnel, finance and organization are independent of the Firm, and the Firm will continue to maintain such independence of the Issuer without surpassing the board of directors of the Issuer to exercise the power of operation and management through its management or directly doing so.

2. The Firm has already transferred all its purchase, sales, R&D and other businesses and relevant personnel to AXT-Tongmei, Inc., a subsidiary of the Issuer. Currently, the Firm only retains its listing status on NASDAQ in the United States. It will no longer provide any actual business support and convenience in relation to operating activities for relevant businesses of the Issuer and its subsidiaries in terms of aforesaid businesses.

3. From the date of issuance hereof, the Firm will not engage in any business or activity that competes with the Issuer's main business in any form, or support any company other than the Issuer for its engagement in any business or activity that competes with the main business of the Issuer in any form.

4. From the date of issuance hereof, if the Firm inevitably engages in any business or activity that competes with the Issuer in the future, the Firm will take the initiative to transfer or terminate or after the Issuer raises the objection, transfer or terminate the foregoing business or activity in a timely manner, and the Issuer shall have the right of first refusal for such business.

5. The foregoing commitments will continue to be valid during the period when the Firm is the controlling shareholder of the Issuer."

In addition, MORRIS SHEN-SHIH YOUNG, president of the Issuer, who has been engaged in the business of compound semiconductor materials for more than 35 years, is focusing on his work in factories in Beijing, and seldom participates in any social activities, without any improper speech. He issued the Letter of Commitment on

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Avoiding Horizontal Competition as follows:

"I and enterprises under my control are currently not engaged in any form in any business or activity that competes with the main business of the Issuer (including companies directly or indirectly controlled by the Issuer, the same below), and will not support any company other than the Issuer for its engagement in any business or activity that competes with the main business of the Issuer in any form, including but not limited to making investment or holding positions in an enterprise engaging in such business or activity. "

The relevant commitment of AXT involved in this Offering has gone through the review procedure at AXT's board of directors. Meanwhile, AXT has released such commitment on Nasdaq in January 2022, and released the whole text of such commitment in its 2021 annual report.

According to the legal opinions issued by Burks Johansson LLP, a US law firm, unless otherwise provided in relevant laws, AXT's board of directors has all decision-making authorities of AXT, and the board of directors may participate in and determine operating decisions and daily management of AXT. Generally, if a shareholder of AXT is unsatisfied with a decision made by the board of directors in line with governance practices, in practice, the shareholder may seek relief only by selling his/her stocks, or has to prove that there are improper or illegal acts for any other remedies. In addition, since the directors of AXT have the duties of care and fiduciary duties to shareholders, a shareholder may initiate a lawsuit if the shareholder has a reason to hold that the directors have violated the fiduciary duties and caused damages to the shareholder. Therefore, once AXT's board of directors reviewed and passed the relevant commitment concerning the listing, such commitment is legally binding on AXT.

In the event that AXT violates any of its commitments in the future, on the one hand, domestic investors may freeze the Issuer's equity held by it through judicial channels for subsequent compensation accordingly; on the other hand, AXT, as a NASDAQ-listed company, is simultaneously subject to the supervision of US investors and regulatory agencies, and investors in NASDAQ can also protect their

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legitimate rights in accordance with relevant laws, regulations and judicial precedents of the United States.

To sum up, AXT has taken relevant measures and made relevant commitments to guarantee the independence of the Issuer. The implementation of relevant regulatory measures is effective, and the relevant commitments have binding force in both China and the United States. In the event that it violates any of the foregoing commitments, the right protection measures taken by investors are feasible.

1.2

According to the reply to the inquiry, (1) In each phase of the reporting period, a greater portion of some of the main raw materials and production equipment of the Issuer were purchased from related parties (including purchases from AXT and its shareholding companies and purchases from third parties through AXT). Wherein, all high-purity arsenic came from related-party purchases, with Dongfang Hi-purity as the largest supplier of high-purity arsenic; and the proportions of metal gallium purchased from related parties were respectively 62.41%, 48.73% and 41.75%; (2) Dongfang Hi-purity has not obtained a safety production license and cannot produce and provide the Company with raw materials.

The Issuer is required to explain: (1) the reason why the high-purity arsenic and metal gallium were mainly purchased from related parties. Analyze the role of related suppliers in the Company's raw materials supply and its impact on supply stability according to the actual supply of upstream raw materials, the supply capacity and quality of non-related parties and other factors. (2) impact of and alternative measures against the termination of purchases from Dongfang Hi-purity on the Company's production and operation. (3) specific information about production equipment purchased from related parties, the comparison with non-related purchases, and whether there is dependence on related parties.

Reply:

I. Explanations from the Issuer

(I) The reason why the high-purity arsenic and metal gallium were mainly purchased from related parties. Analyze the role of related suppliers in the

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Company's raw materials supply and its impact on supply stability according to the actual supply of upstream raw materials, the supply capacity and quality of non-related parties and other factors.

1. The reason why the high-purity arsenic, metal gallium and germanium ingots were mainly purchased from related parties

During the reporting period, the Company's purchases of high-purity arsenic, metal gallium and germanium ingots from related parties and non-related parties are as follows:

In RMB0'000

Item

Supplier

2021

2020

2019

Amount

Proportion

Amount

Proportion

Amount

Proportion

High-purity arsenic

Non-related parties

1,112.49

66.41%

-

-

-

-

Related parties

Purchased via AXT from third-party suppliers

97.03

5.79%

308.07

25.36%

201.75

20.34%

Purchased from AXT's shareholding companies

465.66

27.80%

906.54

74.64%

789.97

79.66%

Total

1,675.17

100.00%

1,214.61

100.00%

991.72

100.00%

Metal gallium

Non-related parties

8,190.77

53.71%

3,274.44

51.57%

367.39

37.59%

Related parties

Purchased from AXT's shareholding companies

692.57

4.54%

-

-

-

-

Purchased from the Issuer's

6,366.75

41.75%

3,075.53

48.43%

609.98

62.41%

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shareholding companies

Total

15,250.09

100.00%

6,349.97

100.00%

977.37

100.00%

Germanium ingots

Non-related parties

4,149.61

89.84%

3,989.59

86.38%

1,943.00

67.48%

Related parties

Purchased via AXT from third-party suppliers

-

-

628.89

13.62%

171.62

5.96%

Purchased from AXT's shareholding companies

469.50

10.16%

-

-

764.57

26.56%

Total

4,619.11

100.00%

4,618.48

100.00%

2,879.19

100.00%

Note: In the purchase amount from AXT's shareholding companies, except the purchase of RMB886,500 from Jiamei High-Purity in 2021, all purchases were from Dongfang High-purity during the reporting period. Dongfang High-purity was originally a shareholding company of the Issuer. In November 2021, the Issuer transferred its equity to Chaoyang Limei.

As for the purchases by the Company from third parties via AXT, it has been handed over through AXT-Tongmei, and no such related-party transactions will occur subsequently. For purchases from AXT's shareholding companies and Issuer's shareholding companies, the volume supply from non-related parties in the market can also meet the Issuer's needs.

The reason why high-purity arsenic, metal gallium and germanium ingots of the Company were mainly purchased from related parties:

(1) There are relatively few qualified suppliers for high-purity arsenic, metal gallium and germanium ingots

In terms of high-purity arsenic, it is difficult to obtain arsenic production

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qualifications in China. The manufacturer has to pass the environmental impact assessment first, and then obtain the approval from the competent authorities at the municipal, provincial and other levels. Thus, it will take quite a long time and the manufacturer has to meet strict requirements. As a result, it is difficult to enter the industry. High-purity arsenic suppliers in the domestic market mainly include YONEDA CORPORATION, AMALGAMET CANADA LP, PPM Pure Metals GmbH, Jiamei Hi-purity, Luoning Zhongtianli New Materials Co., Ltd., etc.

In terms of metal gallium, a large number of large and medium-sized aluminum mining companies have not extracted any associated gallium resources under the impact of investment, output and other factors. Main metal gallium manufacturers include Guangxi Tiandong Jinxin Rare Metal Materials Co., Ltd., Aluminum Corporation of China, Xiaoyi Xing'an Gallium Industry Co., Ltd., Beijing Jiya Semiconductor Material Co., Ltd., East Hope Jinzhong Aluminum Co., Ltd., East Hope Mianchi Gallium Industry Co., Ltd. and other professional metal gallium extraction companies affiliated to aluminum plants.

In terms of germanium ingots, there are few manufacturers and suppliers of germanium ingots. On the one hand, the germanium resources are highly concentrated, which builds a strong resource barrier in the industry. Most of the germanium ore resources discovered at present have been owned by the existing germanium manufacturers; on the other hand, to ensure stable quality of germanium ingots and meet the special requirements of different users, germanium ingot manufacturers have to get strong technical R&D, process design, experience accumulation and management capabilities, which can only be formed in a long-term production and operation process. Main germanium ingot suppliers in the domestic market include CNGE, Tongli Germanium, Yunnan Germanium, Shenzhen Zhongjin Lingnan Nonfemet Company Limited, Hengyang Hengrong High Purity Semiconductor Material Co., Ltd., Nanjing Zhemai Metal Trade Co., Ltd. etc.

In order to ensure the stability of products, the Company has high quality requirements for high-purity arsenic, metal gallium, indium phosphide polycrystalline, germanium ingots and other key raw materials, has established strict testing standards, and needs to carry out quality inspection in accordance with the Inspection Procedures for Incoming Materials. Meanwhile, any change involving the main raw material source needs to be reported to the customer in a timely manner, and the

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relevant test report shall be provided.

In terms of high-purity arsenic purchase, YONEDA CORPORATION, AMALGAMET CANADA LP and Jiamei Hi-purity are qualified suppliers of the Company. Wherein, Jiamei Hi-purity is an important supplier of high-purity materials in China, backed by its original shareholder Emei Semiconductor Research Institute. On the other hand, in terms of metal gallium purchase, Guangxi Tiandong Jinxin Rare Metal Materials Co., Ltd., Chinalco Rare EARTH & METALS International Trade Co., Ltd., Xing'an Gallium Industry, Beijing Jiya, East Hope Jinzhong Aluminum Co., Ltd., East Hope Mianchi Gallium Industry Co., Ltd. and some other companies are qualified suppliers of the Company. Wherein, Xing'an Gallium Industry is a sub-subsidiary company held by Coalmine Aluminium (Sanmenxia) Company Limited, which ranks first in metal gallium production capacity in China, while Beijing Jiya's metal gallium production capacity ranks fifth in China. In terms of germanium ingot purchases, Hengyang Hengrong High Purity Semiconductor Material Co., Ltd., Nanjing Zhemai Metal Trade Co., Ltd., Tongli Germanium, etc. are qualified suppliers of the Company. Wherein, Tongli Germanium is a subsidiary held by Ulan Tug Coal Company; Tongli Germanium has an annual output of 30 tons of zone-melting germanium ingots, and Ulan Tug Coal Company has abundant germanium concentrates.

(2) To deepen the cooperative relationship with suppliers and ensure the supply of raw materials, the Company or AXT has held some shares in some qualified suppliers. Thus, the transactions between the Company and such suppliers have become related-party transactions

As there are relatively few qualified suppliers of high-purity arsenic and metal gallium in China, in order to deepen the cooperative relationship with suppliers and ensure the supply of raw materials, the Company or AXT has successively held shares in a number of suppliers in the past 20 years. Such suppliers have thus become related parties of the Company, and the Company's purchases of high-purity arsenic, metal gallium, and germanium ingots from such suppliers have thus become related-party transactions.

2. Analyze the role of related suppliers in the Company's raw materials supply and its impact on supply stability according to the actual supply of upstream raw materials, the supply capacity and quality of non-related parties

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and other factors;

(1) Actual supply of metal gallium, high-purity arsenic and germanium ingots, and supply capacity and quality of non-related parties

1) Overall supply of metal gallium, high-purity arsenic and germanium ingots

① Metal gallium

As disclosed in the Report on Major Assets Replacement, Issuance of Shares to Purchase Assets, Supporting-Fund-Raising and Related-Party Transactions of Fuda Alloy Materials Co., Ltd. (Draft), at present, there are few domestic alumina factories with metal gallium production business, most of which are leading companies. Such domestic companies mainly include Coalmine Aluminium (Sanmenxia) Company Limited, Aluminum Corporation of China, EAST HOPE Group Co., Ltd., etc. According to statistics of Aladdin (Aladdiny.com, Inc., a renowned data research company in the aluminum sector), the gallium production capacity of major domestic manufacturers in 2021 is as follows:

Name of company

Gallium output in 2021 (ton)

Coalmine Aluminium (Sanmenxia) Company Limited

153

Aluminum Corporation of China

132

EAST HOPE Group Co., Ltd.

65

Zhuhai SEZ Fangyuan Inc.

60

Beijing Jiya Semiconductor Materials Co., Ltd.

35

Liulin County Senze Fangyuan Gallium Industry Technology Co., Ltd.

20

Guangxi Debao Gallium Industry Co., Ltd.

16

Zhongjin Lingnan Nonfemet Company Limited Danxia Refinery

16

Xing'an Gallium Industry, a related party of the Company, is a sub-subsidiary held by Coalmine Aluminium (Sanmenxia) Company Limited.

It can be seen from the above table that there are few domestic metal gallium manufacturers. The main ones with certain mass production capacity include Aluminum Corporation of China, Coalmine Aluminium (Sanmenxia) Company Limited, EAST HOPE Group Co., Ltd., Beijing Jiya Semiconductor Materials Co., Ltd., Zhuhai SEZ Fangyuan Inc., etc. Aluminum Corporation of China mainly adopts the resin adsorption acid method, while EAST HOPE Group Co., Ltd., Beijing Jiya

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Semiconductor Materials Co., Ltd. and Zhuhai SEZ Fangyuan Inc. mainly adopt the resin adsorption alkali method. The two technologies have their own advantages. Coalmine Aluminium (Sanmenxia) Company Limited adopts a different metal gallium production technology according to different alumina production process conditions. In addition to the Company's related parties, i.e. Beijing Jiya Semiconductor Materials Co., Ltd. and Xing'an Gallium Industry, the Company also purchases from Aluminum Corporation of China, EAST HOPE Group Co., Ltd. and other suppliers.

To sum up, the Company may purchase gallium metal of the same or similar quality from non-related parties.

② High-purity arsenic

High-purity arsenic is an important semiconductor material. The main usage of high-purity arsenic with a purity of 99.9999% (6N) and 99.99999% (7N) is to prepare gallium arsenide (GaAs) and other semiconductor materials.

It is difficult to obtain arsenic production qualifications in China. The manufacturer has to pass the environmental impact assessment first, and then obtain the approval from the competent authorities at the municipal, provincial and other levels. Thus, it will take quite a long time and the manufacturer has to meet strict requirements. As a result, it is difficult to enter the industry. High-purity arsenic suppliers in the domestic market mainly include YONEDA CORPORATION, AMALGAMET CANADA LP, PPM Pure Metals GmbH, Emeishan Jiamei High-Purity Materials Co., Ltd., Luoning Zhongtianli New Materials Co., Ltd., etc.

Some other companies have invested in the high-purity arsenic sector. For instance, Guangdong Vital Advanced Materials Co., Ltd., a peer company in the industry, plans to carry out an expansion project with an annual output of 100 tons of high-purity arsenic, and Humon, a listed company, has built a 10-ton/year high-purity arsenic production line. In addition to the Company's related party Emeishan Jiamei High-Purity Materials Co., Ltd., the Company also purchases high-purity arsenic from YONEDA CORPORATION, AMALGAMET CANADA LP, etc.

To sum up, the Company may purchase high-purity arsenic of the same or similar quality from the above non-related parties. Besides, the Company has also accelerated the investment in and construction of the high-purity arsenic production line of its subsidiary Chaoyang Xinmei, and has already obtained the "Liao (2022)

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Kazuo County Real Estate Property Right No. 20220000228" real estate certificate and the Reply about the Environmental Impact Report of the High-Purity Arsenic Project with An Annual Output of 100 Tons of Chaoyang Xinmei High-Purity Semiconductor Materials Co., Ltd.

③ Germanium ingots

The germanium metal sector is not large and the number of companies is small. After years of development, domestic germanium manufacturers have approached or reached the world's advanced level in the technology of extracting germanium concentrates from various minerals, the technology of recycling germanium from germanium waste, the wet purification technology, etc. Major domestic germanium manufacturers continue to increase the investment in R&D of germanium deep-processing products, which, however, compared to foreign manufacturers, still have a long way to go in terms of the level of technical equipment and product innovation capabilities.

According to CITIC Securities'Research Report on Upstream Raw Materials in the Electronics and Semiconductor Industry Chain 1 - Germanium: Calmness Before the Next Demand Outlet, the production capacity of the world's major germanium suppliers is as follows:

Company's name

Overview

Teck Cominco (a Canadian company)

Germanium concentrate manufacturer with a capacity of 40 tons (metal germanium content)

Fuse (a Russian company)

Germanium concentrate manufacturer with a capacity of 6 tons in 2009 (metal germanium content)

GEAPP (a Russian company)

Germanium concentrate manufacturer with a capacity of 5 tons in 2009 (metal germanium content)

Yunnan Germanium

Zone-melting germanium ingots of 40 tons and, fiber germanium tetrachloride of 30 tons

CNGE

Germanium dioxide of 30 tons

Yunnan Chihong Zn & Ge

Germanium concentrate capacity of 30 tons

Zhongjin Lingnan

Germanium concentrates of 10 tons, and germanium ingots of 10 tons

Ulan Tug Coal Company

Germanium concentrates of 30-50 tons, and high-

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purity germanium ingots of 20 tons

Luoping Zinc & Electricity

Germanium concentrate capacity of 14.5 tons

The Company's related party, Tongli Germanium, is a subsidiary held by Ulan Tug Coal Company. Tongli Germanium has an annual production capacity of 30 tons of zone-melting germanium ingots. In addition to the Company's related party Tongli Germanium, the Company also purchases germanium ingots from Hengyang Hengrong High Purity Semiconductor Material Co., Ltd., Nanjing Zhemai Metal Trade Co., Ltd., etc. Thus, the Company may purchase germanium ingots of the same or similar quality from the above non-related parties.

To sum up, it is assumed that if the Company purchased all metal gallium, high-purity arsenic and germanium ingots from non-related parties in 2021, the market supply can also meet the Company's needs.

2) Supply capacity and quality of non-related parties

① The overall supply and quality of metal gallium, high-purity arsenic and germanium ingots

Assuming that the Company purchased all metal gallium, high-purity arsenic and germanium ingots from non-related parties in 2021, the market supply can also meet the demand of the Company. Details are as follows:

A. Metal gallium

In 2021, the Company purchased 83.65 tons of metal gallium. According to the above table, in 2021, the total shipment of metal gallium of 6 major domestic suppliers, including Aluminum Corporation of China, (excluding Coalmine Aluminium (Sanmenxia) Company Limited and Beijing Jiya Semiconductor Material Co., Ltd.) was 309 tons, which was enough to meet the demand of the Company. Besides, there are other small manufacturers that were also engaged in the production of metal gallium available to the Company.

B. High-purity arsenic

In 2021, the Company purchased 20.05 tons of high-purity arsenic, and the purchase amount was RMB16.7517 million. According to the statement issued by YONEDA CORPORATION and AMALGAMET CANADA LP, the Company's non-related suppliers, in 2021, their revenues were RMB47.72 million in total. In addition, as shown by public information, Guangdong Vital Advanced Materials Co., Ltd., a peer company in the industry, plans to carry out an expansion project with an

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annual output of 100 tons of high-purity arsenic, and Humon, a listed company, has built a 10-ton/year high-purity arsenic production line. Besides, the Company's subsidiary Chaoyang Xinmei has also accelerated the investment in and construction of its high-purity arsenic production line.

C. Germanium ingots

In 2021, the Company purchased 6.59 tons of germanium ingots. According to the germanium ingot production capacity of the non-related parties Yunnan Germanium, CNGE, and Zhongjin Lingnan shown in the above table, the total annual supply was 80 tons, which was enough to meet the demand of the Company.

② The Company has a number of non-related suppliers that can ensure stable supply of metal gallium, high-purity arsenic and germanium ingots

During the reporting period, the Company or AXT effectively guaranteed the stability of the supply of raw materials by holding shares in some qualified suppliers. However, there are also other qualified suppliers of the foregoing relevant raw materials, whose quality and supply capacity can also meet the demand of the Company. At present, details of the suppliers of the foregoing three raw materials are as follows:

Item

Qualified supplier

Supply capacity, quality and price

Relationship

Supplier

High-purity arsenic

Non-related parties

YONEDA CORPORATION and AMALGAMET CANADA LP

Can meet the demand of the Company; the price is basically the same; upon the Company's testing, there are only minor differences in product quality

Related parties

Jiamei Hi-purity

Metal gallium

Non-related parties

Guangxi Tiandong Jinxin Rare Metal Materials Co., Ltd., Chinalco Rare EARTH & METALS International Trade Co., Ltd., East Hope Jinzhong Aluminum Co., Ltd., East Hope Mianchi Gallium Co.,

Can meet the demand of the Company; the price is basically the same; upon the Company's testing, there are only minor differences in product quality

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Ltd., Pinglu Youying Gallium Industry Co., Ltd., etc.

Related parties

Xing'an Gallium and Beijing Jiya

Germanium ingot

Non-related parties

Hengyang Hengrong High Purity Semiconductor Material Co., Ltd., Nanjing Zhemai Metal Trade Co., Ltd., etc.

Can meet the demand of the Company; the price is basically the same; upon the Company's testing, there are only minor differences in product quality

Related parties

Tongli Germanium

In addition, some other companies have invested in the high-purity arsenic sector. For instance, Guangdong Vital Advanced Materials Co., Ltd., a peer company in the industry, plans to carry out an expansion project with an annual output of 100 tons of high-purity arsenic, and Humon, a listed company, has built a 10-ton/year high-purity arsenic production line. Besides, the Company has also accelerated the investment in and construction of the high-purity arsenic production line of its subsidiary Chaoyang Xinmei, and has already obtained the "Liao (2022) Kazuo County Real Estate Property Right No. 20220000228" real estate certificate and the Reply about the Environmental Impact Report of the High-Purity Arsenic Project with An Annual Output of 100 Tons of Chaoyang Xinmei High-Purity Semiconductor Materials Co., Ltd.

(2) The role of related suppliers in the Company's raw materials supply and its impact on supply stability

As the Company no longer purchases raw materials via AXT, the raw materials purchased by the Company from related parties are mainly metal gallium, high-purity arsenic and germanium ingots. Wherein, related parties Xing'an Gallium Industry and Beijing Jiya supply metal gallium; Jiamei Hi-purity and Dongfang Hi-purity supply high-purity arsenic; and Tongli Germanium supplies germanium ingots. All the foregoing related parties are manufacturers of relevant products.

With the continuous expansion of the Company's sales scale and the gradual release of its new production capacity, the volume of high-purity arsenic, metal gallium and germanium ingots purchased by the Company during the reporting period

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also showed an increasing trend. In 2021, the volumes of the foregoing raw materials purchased were respectively 20,052.50 kg, 83,652.52 kg and 6,590.89 kg.

The Company has established a global sourcing system, and has been coordinating domestic and overseas purchase according to factors such as the price (considering the exchange rate) and the supply cycle based on the principle of marketization. Besides, in the past 20 years, the Company or AXT has deepened the cooperative relationship with suppliers by investing and holding shares in some qualified suppliers, which has played a supportive role in guaranteeing the Company's purchase of raw materials, and can also act as a yardstick for comparing quality and price in cooperation with other suppliers.

During the reporting period, although the volume of main raw materials purchased by the Company continued to increase, the Company never experienced a shortage of raw material supply, and its production was conducted smoothly. Thus, the Company has effectively guaranteed a stable supply of raw materials by holding shares in some qualified suppliers.

In addition, during the reporting period, the Company's purchases from related parties had little impact on its gross profits, gross profit margin and net profits. The specific calculations are as follows:

In RMB0'000

Item

2021

2020

2019

Impact of related-party purchase price differences on gross profits

Gross profits

29,605.26

14,977.61

8,982.29

Gross profits after price differences are deducted

29,541.41

14,778.07

8,920.62

Impact degree

0.22%

1.33%

0.69%

Impact of related-party purchase price differences on the gross profit margin

Gross profit margin

34.53%

25.68%

19.43%

Gross profit margin after price differences are deducted

34.46%

25.34%

19.30%

Impact degree

0.21%

1.32%

0.67%

Impact of related-party purchase price differences on net profits attributable to

Net profits attributable to shareholders of the parent company

9,458.76

4,822.19

-3,338.90

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shareholders of the parent company

Net profits attributable to shareholders of the parent company after price differences are deducted

9,394.91

4,622.65

-3,400.57

Impact degree

0.68%

4.14%

-1.85%

Note: The related purchase price difference is the price difference between related purchases and non-related purchases; the above impact on net profits is calculated without the consideration of the impact of income tax.

(II) Impact of and alternative measures against the termination of purchases from Dongfang Hi-purity on the Company's production and operation;

As Dongfang Hi-purity's production qualification has expired and the new certificate is in the process of handling, since June 2021, the Company has not purchased any high-purity arsenic from it. After the Company stopped purchasing from Dongfang Hi-purity, it increased the purchases from YONEDA CORPORATION, AMALGAMET CANADA LP and Jiamei Hi-purity, which had little impact on its production and operation.

The alternative measures after the Company stopped purchasing from Dongfang Hi-purity mainly include:

1. Increased the purchase cooperation with YONEDA CORPORATION and AMALGAMET CANADA LP, and reserved a safety stock.

2. The related party Jiamei Hi-purity resumed production and operation in 2021, with a production capacity of 20 tons/year of high-purity arsenic. Although Jiamei Hi-purity did not have adequate production capacity due to technical reasons and as it was at the initial stage of production resumption, it can well ensure the stability of the supply of high-purity arsenic.

3. Accelerated the investment in and construction of the high-purity arsenic production line of its subsidiary Chaoyang Xinmei, and has already obtained the "Liao (2022) Kazuo County Real Estate Property Right No. 20220000228" real estate certificate and the Reply about the Environmental Impact Report of the High-Purity Arsenic Project with An Annual Output of 100 Tons of Chaoyang Xinmei High-Purity Semiconductor Materials Co., Ltd.

(III) Specific information about production equipment purchased from related parties, the comparison with non-related purchases, and whether there is dependence on related parties.

During the reporting period, the Company purchased professional equipment for

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the production of compound semiconductor substrates from AXT at an amount of RMB11.5969 million, RMB6.0254 million and RMB5.7605 million respectively.

In RMB0'000

Related party

Transaction content

2021

2020

2019

AXT

Special equipment

576.05

602.54

1,159.69

AXT does not produce production equipment such as single crystal furnaces and vacuum furnace controllers. The production equipment purchased by the Company from AXT is what AXT purchases from equipment suppliers. The prices of the equipment purchased by the Company from AXT is the same as those of the equipment purchased by AXT from other equipment suppliers. Thus, there are no unfair prices in related-party transactions.

In 2021, after AXT completed the original equipment purchase orders, the Company no longer purchased any equipment via AXT, and the equipment originally purchased via AXT was purchased directly by the Company or purchased via AXT-Tongmei. Besides, the single crystal furnace equipment will be produced by Beijing Boyu in the future, to achieve localization.

As AXT-Tongmei mainly purchases 6-inch single crystal furnaces and dual-side polishing machines, which are different from the 4-inch single crystal furnaces and single-side polishing machines originally purchased by the Company via AXT, the prices are not comparable. For the same equipment, the prices of the equipment purchased by the Company via AXT are basically the same as those of the equipment purchased directly by AXT-Tongmei from other suppliers. What's more, AXT-Tongmei has already established good cooperative relationships with the equipment suppliers, and directly signed orders with the suppliers to purchase relevant production equipment. After AXT completed the original equipment purchase orders, it no longer purchased any relevant equipment. In terms of equipment purchase, the Company does not rely on equipment purchases via AXT.

1.3

According to the submissions, the Issuer's listing is actually the asset division of AXT and all of its businesses so as to list on the STAR Market. For

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the purpose of this listing, the Issuer acquired the 5 companies originally controlled by the Controlling Shareholder AXT in 2020 for asset restructuring. Before and after the asset restructuring, the board directors of the Issuer varied significantly.

The Issuer is required to explain: (1) after the asset restructuring, the setting and operation of the Company's management, the way in which the Controlling Shareholder participates in the Company's management, and the existence of institutional confusion with the Controlling Shareholder, and whether the management personnel of the Company work concurrently for or get paid from the Controlling Shareholder, and whether the Controlling Shareholder has exercised the business management right by virtue of the Management or in a direct manner by bypassing the Board of Directors; (2) after the asset restructuring, the way in which the Company controls the holding subsidiaries, the changes of the holding subsidiaries' privilege on business and financial system, directors and Management before and after asset restructuring, and in the eyes of the Company, on what basis can it control over subsidiaries, and whether the Controlling Shareholder has the critical authority such as retaining capital, human resources; (3) before and after asset restructuring, the reason and influence of the major changes in the board composition of the Company, and whether the leaving directors constituted a major adverse change in the Company's operation.

Reply:

I. Explanations from the Issuer

(I) After the asset restructuring, the setting and operation of the Company's management, the way in which the Controlling Shareholder participates in the Company's management, and the existence of institutional confusion with the Controlling Shareholder, and whether the management personnel of the Company work concurrently for or get paid from the Controlling Shareholder, and whether the Controlling Shareholder has exercised the business

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management right by virtue of the Management or in a direct manner by bypassing the Board of Directors;

1. The setting and operation of the Company's management after the asset restructuring

The Company was a wholly foreign-owned enterprise before the completion of asset restructuring with AXT as the sole shareholder, and the Board of Directors was taken as the High Authority. Among them, the Company's Board of Directors had 5 directors, namely MORRIS SHEN-SHIH YOUNG, Liu Wensen, WEI GUO LIU, Gary L. Fischer, and Hao Ze. The Company did not have a supervisor, but had a general manager (Liu Wensen).

In December 2020, the asset restructuring of the Company completed the formalities of industrial and commercial change registration, and the Board of Shareholders was incorporated under law as the high authority. The Board of Shareholders had 8 shareholders, without change in the directors and senior executives, buy a supervisor was added. The setting and operation of the Company's management after the asset restructuring are shown as below:

High Authority

Director(s)

Supervisor(s)

Management

The Board of Shareholders consisting of eight shareholders

MORRIS SHEN-SHIH YOUNG, Liu Wensen, WEI GUO LIU, Gary L. Fischer, Hao Ze

He Jianwu

Liu Wensen (General Manager)

During the period after asset restructuring to April 2021 when the Company was changed to joint-stock company as a whole, the Company held 3 general meeting of shareholders, as follows:

No.

Major Issues under Deliberation

Meeting Date

Resolutions

1

Capital increase, equity transfer, and additional election of directors

January 21, 2021

All shareholders voted in favor

2

Appointment of an agency for stock reform audit and evaluation

March 3, 2021

All shareholders voted in favor

3

Resolved that the Company could be changed to a joint-stock company as a whole

April 1, 2021

All shareholders voted in favor

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In April 2021, the Company was changed to a joint-stock company as a whole. Pursuant to the Company Law and other relevant laws, regulations, normative documents and the Articles of Association thereof, the Company has established the General Meeting of Shareholders, the Board of Directors, and the Board of Supervisors (BOD). The BOD is composed of a Strategic Committee, an Audit Committee, a Nomination Committee, and a Remuneration and Appraisal Committee. Directors (including independent directors) and supervisor (including employee supervisor) have been elected. Moreover, the Company has engaged General Manager, Deputy General Manager, Financial superintendent, Board Secretary and other senior executives have been appointed as well. It has set corresponding functional departments. In the Company, the General Meeting of Shareholders serves as the High Authority, the Board of Directors is the business decision-making body, the Management is the executive body, and the Board of Supervisors acts as the supervisory body.

Rules of Procedures for Shareholders' Meetings, Rules of Procedures for Board of Directors, Rules of Procedures for Board of Supervisors, Working Rules for General Manager, Working Rules for Independent Directors, Working Rules for Board Secretary, Administrative Measures for Related-party Transactions, Management Rules for External Guarantees, External Investment Management System, Internal Audit System, etc. have been formulated by the Company, defining the approval procedures and decision-making authority for external investment, related-party transactions, external guarantees and other issues.

In addition, the Company has all kinds of standardized internal functional departments covering business operation, financial management, internal audit and human resource management in combination with its own operating characteristics. All the internal functional departments have clear division of work, responsibilities and authority. Accordingly, these evidenced itself a high-efficient and reliable operating management organization. As a result, the legal operation management and the efficiency of operation of the Company can be guaranteed.

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The settings of specific operation and management organization the Company as a joint-stock company as a whole are as follows:

High Authority

Director(s)

Supervisor(s)

Management

The Board of Shareholders consisting of 22 shareholders

MORRIS SHEN-SHIH YOUNG, Liu Wensen, Wang Yuxin, Guo Tao, Hao Ze, Wang Huan, Zhao Lun, Pang Fengzheng, and Liu Yanfeng

He Jianwu, Chang Xiuxia, and Liu Zhiyang

Liu Wensen (General Manager), Hao Ze (Financial Administrator), Wang Yuxin (Deputy General Manager), Guo Tao (Deputy General Manager), and Song Jing (Board Secretary)

Totally 5 general meetings of shareholders were held by the Company from the date when it was changed to a joint-stock company as a whole until this reply was issued, as follows:

No.

Meeting Name

Meeting Date

Resolutions

1

The Founding Assembly and the First General Meeting of Shareholders

April 16, 2021

All shareholders voted in favor

2

The First Extraordinary General Meeting in 2021

November 1, 2021

All shareholders voted in favor

3

The Second Extraordinary General Meeting in 2021

December 15, 2021

All shareholders voted in favor

4

The First Extraordinary General Meeting in 2022

April 11, 2022

All shareholders voted in favor

5

The Second Extraordinary General Meeting in 2022

May 27, 2022

All shareholders voted in favor

Totally 17 general meetings of shareholders were held by the Company from the date when it was changed to a joint-stock company as a whole until this reply was issued, as follows:

No.

Meeting Name

Meeting Date

Resolutions

1

The First Meeting of the First Board of Directors

April 16, 2021

All directors voted in favor

2

The Second Meeting of the First Board of Directors

May 6, 2021

All directors voted in favor

3

The Third Meeting of the First Board of Directors

September 22, 2021

All directors voted in favor

4

The Fourth Meeting of the First Board of Directors

October 15, 2021

All directors voted in favor

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5

The Fifth Meeting of the First Board of Directors

November 4, 2021

All directors voted in favor

6

The Six Meeting of the First Board of Directors

November 11, 2021

All directors voted in favor

7

The Seventh Meeting of the First Board of Directors

November 29, 2021

All directors voted in favor

8

The Eighth Meeting of the First Board of Directors

December 3, 2021

All directors voted in favor

9

The Ninth Meeting of the First Board of Directors

December 31, 2021

All directors voted in favor

10

The Tenth Meeting of the First Board of Directors

February 28, 2022

All directors voted in favor

11

The Eleventh Meeting of the First Board of Directors

March 15, 2022

All directors voted in favor

12

The Twelfth Meeting of the First Board of Directors

March 24, 2022

All directors voted in favor

13

The Thirteenth Meeting of the First Board of Directors

April 28, 2022

All directors voted in favor

14

The Fourteenth Meeting of the First Board of Directors

May 12, 2022

All directors voted in favor

15

The Fifteenth Meeting of the First Board of Directors

May 23, 2022

All directors voted in favor

16

The Sixteenth Meeting of the First Board of Directors

June 6, 2022

All directors voted in favor

17

The Seventeenth Meeting of the First Board of Directors

June 9, 2022

All directors voted in favor

In summary, the Company has established operation and management organizations in accordance with the law after the asset restructuring, all of which are operating well.

2. The way in which the Controlling Shareholder participates in the Company's management, and the existence of institutional confusion with the Controlling Shareholder, and whether the management personnel of the Company work concurrently for or get paid from the Controlling Shareholder, and whether the Controlling Shareholder has exercised the business management right by virtue of the Management or in a direct manner by bypassing the Board of Directors

(1) The way in which the Controlling Shareholder participates in the Company's

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management, and whether the Controlling Shareholder has exercised the business management right by virtue of the Management or in a direct manner by bypassing the Board of Directors

After the asset restructuring, the Controlling Shareholder AXT did not participate in operation and management of the Company. In fact, AXT exercises relevant shareholder rights by exercising voting rights and nominating directors at the shareholder meeting/the General Meeting of Shareholders of the Company, without by virtue of the Management or in a direct manner by bypassing the Board of Directors.

After the asset restructuring, the details of such meetings as the shareholder meeting/the General Meeting of Shareholders of the Company are described hereto, i.e. "1. setting and operation of the Company's management after the asset restructuring".

(2) The existence of institutional confusion with the Controlling Shareholder

Pursuant to the legal opinion on AXT issued by Burks Johansson LLP, a US law firm, and the explanation of AXT, AXT has three employees for the time being. Among them, MORRIS SHEN-SHIH YOUNG takes the office of CEO, Gary L. Fischer acts as CFO and Secretary, and Alan Chan serves as Vice President of Finance and Corporate Controller.

Pursuant to the Company Law and laws, regulations, and normative documents, the Company has, in addition to the General Meeting of Shareholders, the Board of Directors, the Board of Supervisors, and the Management and other organizations, all kinds of internal functional departments covering business operation, financial management, internal audit and human resource management in combination with its own operating characteristics. As a result, it does not have institution confusion with the Controlling Shareholder.

(3) Whether the management personnel of the Company work concurrently for or get paid from the Controlling Shareholder

As of the date of this reply, the concurrent positions of the Company's

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management personnel in the Controlling Shareholder AXT and its subsidiaries, as well as shareholding companies, are as follows:

Name

Position Held in the Company

Concurrent Working Unit

Position Held Concurrent Working Unit

Relationship with AXT

Get Paid?

Hao Ze

Deputy General Manager and Financial Superintendent

Beijing JiYa

Director

AXT's shareholding company

No

Guo Tao

Deputy General Manager

Jiamei High Purity

Supervisor

AXT's shareholding company

No

In accordance with the Code of Corporate Governance for Listed Companies in China, "the personnel of a listed company shall be independent from the Controlling Shareholder. The senior executives of a listed company shall not hold other administrative positions other than directors and supervisors in the Controlling Shareholder". In view of the above, the said concurrent positions do not go against the provisions of relevant laws and regulations.

During the report period, AXT advanced RMB2,435,400, RMB3,835,000 and RMB736,100 of remuneration for Liu Wensen, General Manager of the Company, respectively, which can be defined as advance compensation. As explained by AXT, AXT did not request the Company to provide this part of the payment, and the Company has made corresponding accounting treatment for this purpose. After March 2021, the situation above did not occur again, nor was there other advance payment except for those above.

Except for the circumstances above, the Management does not have any concurrent positions in the Controlling Shareholder AXT and its subsidiaries and holding companies. The Management does not have any economic transactions such as getting paid from the Controlling Shareholder AXT, its subsidiaries and holding companies.

(II) After the asset restructuring, the way in which the Company controls

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over the holding subsidiaries, the changes of the holding subsidiaries' privilege on business and financial system, directors and Management before and after asset restructuring, and in the eyes of the Company, on what basis can it control over subsidiaries, and whether the Controlling Shareholder has the critical authority such as retaining capital, human resources;

1. After the asset restructuring, the way in which the Company controls over the holding subsidiaries

After the asset restructuring, the subsidiaries have adopted a new Articles of Association and adjusted the setting of the management organization for enhancing the management of holding subsidiaries, as shown in the section that "3. In the eyes of the Company, on what basis can it control over subsidiaries, and whether the Controlling Shareholder has the critical authority such as retaining capital, and human resources".

The Company has formulated the Subsidiary Management System to protect the legitimate rights and interests of the Company and ensure the standardized, orderly and healthy development of each holding subsidiary. Doing so is to implement internal control and management of holding subsidiaries from business management, human resources and remuneration, financial management, reporting and deliberation of major events, auditing and supervision, etc. The Subsidiary Management System are mainly detailed as follows:

Chapters or Sections

Major Terms

General Provisions

The Company-shareholder of its subsidiaries-shall have the right to asset revenue, to decision-making on major issues, to appoint and remove important personnel (including directors, supervisors, general managers, and financial superintendents), and to audit and supervise the finance of the subsidiary in accordance with the proportion of capital that it has invested in the subsidiary.

The Company adopts the management principle integrating centralization and decentralization of power for its subsidiary. The Company fully exercises management and voting rights over the appointment and removal of important personnel, major investment decisions (including equity investment, investment of creditor's right, major fixed asset investment,

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and major project investment), annual operating budget and assessment, etc. Moreover, it will also endow the operators of its subsidiaries full autonomy in the daily operation and management, thus ensuring the orderly, standardized and benign development of the subsidiaries.

Operation and Management

The Company guides and procures its subsidiaries to develop annual business plans and budgets based on the overall strategic planning. Any changes and adjustment in annual business plans and budgets of subsidiaries shall be reported to the board of directors and the shareholder meeting (the General Meeting of Shareholders) for approval.

Article 8. In case where a subsidiary needs to increase capital, external investment, investment in self-operated project development, and in major fixed assets for business activities due to the need of business activities, relevant issue shall be reported to the Company for in accordance with Chapter V.

Human Resources and Remuneration Management

The Company delegates a corresponding number of directors and supervisors subject to its shareholding ratio in the subsidiary and pursuant to relevant investment agreements.

Managers and deputy general managers of the subsidiaries are nominated by the Company and submitted to their board of directors (or executive directors) for appointment and dismissal.

The financial superintendents of the subsidiaries are delegated by the Company.

With respect to the managers of subsidiaries, the Company adopts general manager reporting system. The managers of subsidiaries specifically implement the business plans of the Company in subsidiaries respectively.

Financial Management

No subsidiary is permitted to borrow funds from other enterprises and individuals and provide any form of guarantee (including but not limited to mortgages, pledges, guarantees, etc.) without the approval of the Company. The financial staff of subsidiaries shall be entitled to stop the violation, if any, failing which the financial staff can report the same directly to the Company.

Subsidiaries shall prepare accounting statements on a monthly basis, and prepare financial reports (including accounting statements and notes thereto) on a quarterly basis, and then submit the same to Financial Department of the Company.

The Financial Department of the Company is responsible for planning and controlling both capital income and expenditure of the Company. Subsidiaries shall prepare forecasts of capital income and expenditure thereof as required by the Company, which shall be reported to the Financial Department of the Company then. To optimize the efficiency of capital use of the Company, the Financial Department of the Company shall be entitled to allocate and adjust the funds of the subsidiaries, with which the subsidiaries shall cooperate, provided that this shall not go

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against laws and regulations, and nor shall this jeopardize the normal operation of subsidiaries.

Reporting and Deliberation of Major Matters

Subsidiaries shall adopt the major event reporting system, which means that any major business matters and major financial matters shall be reported to the General Manager of the Company without delay; in addition, subsidiaries shall promptly submit resolutions of its BOD (or decisions of executive directors) and its shareholders' meetings and other important documents.

In the case a major event occurs or is about to occur in a subsidiary, it is necessary to complete the feasibility analysis and demonstration in advance, and then report the same to the Company for review after being reviewed by the Management of the Company.

Audit and Supervision

All subsidiaries shall be subject to the supervision of Internal Audit Department of the Company, and actively cooperate it to complete the audit work instructed by the Company.

The Company will comprehensively audit its subsidiaries on a quarterly basis, facilitating that it can make a comprehensive assessment with respect to the operating conditions of the subsidiaries and the performance of the operators.

The Company will, from time to time, arrange temporary special audits with respect to major matters in the operation and management of subsidiaries.

The Company will implement an internal control evaluation on the subsidiaries once a year to monitor and facilitate the effectiveness of both design and execution of their internal control.

Supplementary Provisions

All subsidiaries shall earnestly fulfill the provisions and requirements with respect to relevant matters building on this system and the relevant rules of the Company, improve their operation and management in an effective manner, and be subject to the supervision and inspection of the Company.

In addition, such internal control and management systems of the Company as Management Rules for External Guarantees, External Investment Management System, Measures for Related-party Transactions, Internal Audit System, Management System on Preventing Controlling Shareholders and Related Parties from Occupying the Company's Funds, and Internal Reporting System on Material Information, are all applicable to holding subsidiaries, and impose strict control and supervision on their business activities such as operating decisions and capital flows.

2. Changes of the holding subsidiaries' privilege on business and financial system, directors and the Management before and after asset restructuring

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Before the asset restructuring, AXT had the privilege to access to both finance and financial systems of subsidiaries. However, the Company could not access to the same as its brother company. After the asset restructuring, AXT was disentitled to access to relevant business and financial system, while resetting and opening the access right of the parent company, Beijing Tongmei.

Changes of the holding subsidiaries' directors and the Management before and after asset restructuring are shown as follows:

Subject Name

Organizational Structure before Restructuring

Changes after Restructuring

Director(s)

Supervisor(s)

Management

Baoding Tongmei

MORRIS SHEN-SHIH YOUNG, Liu Wensen, WEI GUO LI

Hao Ze

Liu Wensen (General Manager), WEIGUO LIU (Deputy General Manager)

No change

Chaoyang Tongmei

MORRIS SHEN-SHIH YOUNG, Liu Wensen, WEI GUO LI

Hao Ze

Liu Wensen (General Manager), WEIGUO LIU (Deputy General Manager)

No change

Nanjing Jinmei

MORRIS SHEN-SHIH YOUNG, Liu Wensen, Gary L.Fischer

Hao Ze

Xing Zhiguo (General Manager)

No change

Chaoyang Jinmei

MORRIS SHEN-SHIH YOUNG, Liu Wensen, Hao Ze

Gary L.Fischer

Guo Tao (General Manager)

General Manager of Chaoyang Jinmei was chagned from Guo Tao to Xing Zhiguo in July 2021 due to the fact that Guo Tao was transferred to act as the deputy general manager of the Issuer.

Beijing Boyu

MORRIS SHEN-SHIH YOUNG, He Junfang, and Gary L.Fischer

Hao Ze

He Junfang (General Manager)

No change

3. In the eyes of the Company, on what basis can it control over the subsidiaries, and whether the Controlling Shareholder has the critical authority

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such as retaining capital, and human resources

(1) In the eyes of the Company, on what basis can it control over the subsidiaries

After the asset restructuring, the five restructured subjects involved in the restructuring were all changed to the wholly-owned subsidiaries of the Issuer, and adopted the new Articles of Association. The specific operation and management organizations are as follows:

Subject Name

High Authority

Board Composition

Supervisor(s)

Management

Baoding Tongmei

Shareholder (Issuer)

3 directors who are appointed or dismissed by shareholders

1 supervisor who is appointed or dismissed by shareholders

1 General Manager and 1 Deputy General Manager, who are appointed or dismissed by the Board of Directors

Chaoyang Tongmei

Shareholder (Issuer)

3 directors who are appointed or dismissed by shareholders

1 supervisor who is appointed or dismissed by shareholders

1 General Manager and 1 Deputy General Manager, who are appointed or dismissed by the Board of Directors

Nanjing Jinmei

Shareholder (Issuer)

3 directors who are appointed or dismissed by shareholders

1 supervisor who is appointed or dismissed by shareholders

1 General Manager, who is appointed or dismissed by the Board of Directors

Chaoyang Jinmei

Shareholder (Issuer)

3 directors who are appointed or dismissed by shareholders

1 supervisor who is appointed or dismissed by shareholders

1 General Manager, who is appointed or dismissed by the Board of Directors

Beijing Boyu

Shareholder (Issuer)

3 directors who are appointed or dismissed by shareholders

1 supervisor who is appointed or dismissed by shareholders

1 General Manager, who is appointed or dismissed by the Board of Directors

It can be seen from the table above that after the asset restructuring, the five restructured subjects involved in the restructuring were changed from foreign-invested companies to domestic companies. Further, their high authorities were changed to shareholder (Issuer), and their director(s) and supervisor(s) were all

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appointed and removed by the shareholders. In terms of authority, the Company, as the authority of its subsidiaries, can make shareholder decisions. With respect to decision-making body, the Company can decide the candidates for directors of the subsidiaries, thereby resolving the resolutions of BOD. As to business and management, the Company can, through the BOD, decide on the manager candidates of its subsidiaries. In respect of supervision, the Company can finalize supervisor candidates of the subsidiaries.

The Company has further formulated the Subsidiary Management System to implement internal control and management of holding subsidiaries from business management, human resources and remuneration, financial management, reporting and deliberation of major events, auditing and supervision, etc. In the process of daily operation and management, the Company has implemented the systems pertaining to the management of subsidiaries in a strict manner. Of these, the Tenth Meeting of the First Board of Directors was held on February 28, 2022, at which the Proposal on the Investment and Expansion of PBN Product Projects by the Holding Subsidiaries was deliberated and passed, and the investment of Chaoyang Boyu in PBN product expansion project was approved. On March 24, 2022, the Twelfth Meeting of the First Board of Directors was held, at which the Proposal on Baoding Tongmei (Wholly-owned Subsidiary) Applying for Counter-guarantee for Beijing Boyu (Wholly-owned Subsidiary) for the Bank Loan was deliberated and passed, and the external guarantee of Baoding Tongmei was approved as well. The subsidiary management system of the Company has been effectively implemented.

To sum up, the Company can control over its subsidiaries with sufficient basis in this respect.

(2) Whether the Controlling Shareholder has the critical authority such as retaining capital, and human resources

In terms of funds, such internal control and management systems of the Company as Management Rules for External Guarantees, External Investment Management System, Measures for Related-party Transactions, and Management

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System on Preventing Controlling Shareholders and Related Parties from Occupying the Company's Funds should be earnestly implemented by the subsidiaries. Also, any major matters shall be subject to the approval of the Company's BOD. Besides, the Financial Department of the Company shall be entitled to allocate and adjust the funds of the subsidiaries, with which the subsidiaries shall cooperate. The Financial Department also inspects, at regular intervals, the subsidiaries and reports the review of non-operating capital transactions with the Controlling Shareholder and related parties. These systems can completely eradicate the occupation of non-operating capital by the Controlling Shareholder and related parties.

In terms of human resources, the directors, supervisors and financial superintendents of subsidiaries are delegated by the Company; general managers and deputy general managers of the subsidiaries are nominated by the Company and submitted to their board of directors (or executive directors) for appointment and dismissal. With respect to the managers of subsidiaries, the Company adopts general manager reporting system. The managers of subsidiaries specifically implement the business plans of the Company in subsidiaries respectively.

In conclusion, the Controlling Shareholder does not retain any critical authority such as retaining capital, human resources, financial, and institutional authorities of subsidiaries, and these rights are still controlled by the Company.

(3) Before and after asset restructuring, the reason and influence of the major changes in the board composition of the Company, and whether the leaving directors constituted a major adverse change in the Company's operation.

Before and after asset restructuring, the changes in board composition of the Company and the reasons are as follows:

Board Composition before Change

Changing Date

Board Composition after Change

Change Description

Causes

MORRIS SHEN-SHIH YOUNG, Liu Wensen, WEI GUO LIU, Gary L. Fischer, DAVIS SHANXIANG ZHANG

November 26, 2020

MORRIS SHEN-SHIH YOUNG, Liu Wensen, WEI GUO LIU, Gary L. Fischer, Hao Ze

DAVIS SHANXIANG ZHANG left office

Personal reasons

Hao Ze newly participated in the BOD

Delegated by shareholder AXT

MORRIS SHEN-SHIH YOUNG, Liu Wensen, WEI GUO LIU, Gary L. Fischer, Hao Ze

January 21, 2021

MORRIS SHEN-SHIH YOUNG, Liu Wensen, WEI GUO LIU, Gary L. Fischer, Hao Ze, and Wang Huan

Wang Huan newly participated in the BOD

Delegated by shareholders Haitong New Energy Sources and Haitong New Energy

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MORRIS SHEN-SHIH YOUNG, Liu Wensen, WEI GUO LIU, Gary L. Fischer, Hao Ze, and Wang Huan

April 16, 2021

MORRIS SHEN-SHIH YOUNG, Liu Wensen, Wang Yuxin, Guo Tao, Hao Ze, Wang Huan, Zhao Lun, Pang Fengzheng, and Liu Yanfeng

WEI GUO LIU left office

Shareholder AXT suspended its delegation

Gary L. Fischer left office

Personal reasons

Wang Yuxin and Guo Tao newly participated in the BOD

Delegated by shareholder AXT

Zhao Lun, Pang Fengzheng, and Liu Yanfeng newly participated in the BOD

Independent Directors were newly added

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Among the directors that have resigned from the Company, DAVIS SHANXIANG ZHANG resigned from the Company due to getting on in years, and had never participated in the operation and management of the Company after leaving office. Gary L. Fischer was the CFO and Secretary of the Controlling Shareholder AXT, and only served as a director in the Issuer, rather than other positions. Gary L. Fischer had never participated in the operation and management of the Company after leaving office. WEI GUO LIU, after leaving office, still serves as Vice President of Crystal Technology in AXT-Tongmei, a holding subsidiary of the Company, and Deputy General Manager of Baoding Tongmei and Chaoyang Tongmei, being engaged in related research and development work of the Company. Accordingly, the resignation of these directors does not constitute a material adverse change.

Among the new directors above, Wang Huan was appointed by shareholders Haitong New Energy Sources and Haitong New Energy of the Company. Hao Ze, Wang Yuxin and Guo Tao, who have worked for the Company for more than 15 years, were generated from the internal training of the Issuer. Zhao Lun, Pang Fengzheng, and Liu Yanfeng are the independent directors newly delegated when the Company was changed to a joint-stock company as a whole. The delegation of new directors do not constitute a material adverse change.

In conclusion, the changes in directors of the Company before and after the asset restructuring can be considered as an addition or adjustment as per the Company Law, the Articles of Association, and the actual demand of perfecting the governance structure of the Company. Those added or adjusted are directors delegated by shareholders, or external independent directors newly added through internal training of the Issuer. The business development goals, operating principles and policies of the Issuer have not undergone major changes therefore. In this sense, the changes in these human resources do not constitute major adverse changes.

After verifying the influence of the issues concerning restructuring of the Issuer on primary business, management team and core technicians, the Sponsor deems that:

The restructuring issues of the Issuer are carried out based on the industrial chain

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related to its semi-conductor substrate materials, supplementing and improving the composition of primary business of the Issuer. After restructuring, no material change happens on the management team of the Issuer, and core technicians have been working in the Issuer without change.

In summary, after this restructuring is completed, the primary business of the Issuer is improved, and no material change happens on the management team and core technicians of the Issuer. In recent two years, no material adverse change happened on the primary business, directors and senior managerial staff of the Issuer.

1.4

The Sponsor and lawyers of the Issuer are advised to propose clear and definite verification opinions on whether the Issuer meets relevant requirements on independence as set out in Article 12 of the Measures for the Administration of the Registration of IPO Stocks on the Science and Technology Innovation Board (for Trial Implementation).

Reply:

I. Basic Information of the Issuer

In accordance with Article 12, Measures for the Administration of the Registration of IPO Stocks on the Science and Technology Innovation Board (for Trial Implementation), requirements for independence to be met by the Issuer shall, specifically, include that "the Issuer has complete assets, independent business and personnel, finance and institution, has no horizontal competition with the controlling shareholder, the actual controller and other enterprises controlled by it, which has material adverse effects on the issuer, and has no affiliated transaction which seriously affects its independence or is evidently unfair." The Issuer meets these requirements for independence, which specific analysis is shown as follows:

In terms of assets, in November 2021, the Controlling Shareholder license its intellectual property rights, patents and relevant trademarks authorized and in application to the Company and its holding subsidiaries for permanent use. These authorized patented technologies do not have a critical influence on the current

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production and operation of the Company, being that its relevant core technologies and patents were derived from its independent research and development; moreover, the relevant trademarks licensed are not necessary for its production and operation for the time being. As of the date of this reply, the property rights of assets among the Issuer, the Controlling Shareholder and other companies controlled by it are clearly defined. Moreover, the Controlling Shareholder has transferred or licensed patents and technologies that are necessary for both production and operation to the Company. The Issuer legally owns the ownership or right to use of such intellectual property rights as land, houses, equipment, trademarks, and patents pertaining to its production and operation. It is evident that Issuer's assets are independent and complete.

In terms of business, ATX-Tongmei transformed relevant business with AXT in respect to semiconductor substrates in March 2021. In May 2021, the Issuer completed its M&A of ATX-Tongmei and incorporated relevant business systems such as overseas sales into its own system. Before the business transformation, the overseas sales of the Issuer with respect to semiconductor substrate products were undertaken by its Controlling Shareholder AXT based on the internal arrangement of the group before business transformation between the Issuer and AXT, while the Company purchased some major raw materials overseas through AXT. After the business transformation, AXT-Tongmei, the Company's subsidiary, was independently responsible for overseas procurement and sales. AXT would no longer engage in specific business after completing subsequent orders. As of the date of this reply, the Issuer carries out business independently according to law. Moreover, all its businesses are independent of its Controlling Shareholder, and other companies it controls. It is evident that the production, supply and sales system of the Issuer is independent and complete with benign business development.

In terms of human resources, AXT only retained some necessary personnel to be responsible for information disclosure, investor relations, and financial affairs in the U.S. capital market after the business transformation; meanwhile, its human resources such as sales, procurement, R&D, as well as part of financial and administrative personnel, have been under the name of AXT-Tongmei. As of December 31, 2021, the Company has a total of 1,396 employees to independently assume all kinds of functions as procurement, sales, R&D, and management. As of the date of this reply, no senior executives of the Issuer such as General Manager, Deputy General Manager,

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Financial Superintendent, and Board Secretary hold any positions other than directors and supervisors in the Controlling Shareholder of the Issuer and other enterprises controlled by it. Nor do they get paid from the Controlling Shareholder of the Issuer and other companies it controls.

In terms of finance, the Issuer has, as of the date of this reply, an independent Financial Department with specialized financial personnel and an independent financial accounting system. Therefore, it can make financial decisions independently. Also, it has a standardized financial accounting system and a financial management system for its subsidiaries. The Issuer does not share bank accounts with the Controlling Shareholder of the Issuer and other companies it controls as it has established independent accounts for this purpose. No financial staff of the Issuer have concurrently hold offices in or get paid from the Controlling Shareholder and other companies it controls.

In terms of organization, the Issuer has, as of the date of this reply, organized the General Meeting of Shareholders, the Board of Directors, the Board of Supervisors and other corporate governance structures in accordance with the Companies Law and the Articles of Association. What's more, it has sound internal operation and management organizations and independent decision-making and execution organizations, facilitating that it can independently exercise the power of operation and management. In this case, there is no institutional confusion with the Controlling Shareholder of the Issuer and other companies it controls. As mentioned in Question 1.3 of this reply, the Controlling Shareholder did not participate in operation and management of the Company after the asset restructuring. In fact, AXT exercises relevant shareholder rights by exercising voting rights and nominating directors at the shareholder meeting/the General Meeting of Shareholders of the Company, without by virtue of the Management or in a direct manner by bypassing the Board of Directors.

In terms of horizontal competition, AXT increased capital to Beijing Tongmei at the equity of Baoding Tongmei, Chaoyang Tongmei, Nanjing Tongmei, Chaoyang Jinmei, and Beijing Boyu in December 2020; the Issuer acquired AXT-Tongmei in May 2021. Upon such restructuring and business transformation, a complete industrial chain integrating R&D, production and sales of semiconductor substrate materials, consumable PBN crucibles, and high pure metals (a significant raw material) was

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formed. As of the date of this reply, AXT and the companies it controls do not have any substantive business operations, nor do they have any horizontal competition with the Issuer.

In terms of related-party transactions, AXT-Tongmei, subsidiary of the Company, is independently responsible for overseas procurement and sales, while AXT will no longer engage in specific business after completing the follow-up orders. In addition, the related-party transactions during the report period between the Company and related parties have all followed the principles of fairness, voluntariness and reasonableness. All these related-party transactions are at fair price without jeopardizing the benefits of the Company and non-related shareholders. As of the date of this reply, there are no related-party transactions that may seriously affect the Issuer's independence or lack of fairness.

In conclusion, the Issuer has complete assets, independent business and personnel, finance and institution, has no horizontal competition with the controlling shareholder, the actual controller and other enterprises controlled by it, which has material adverse effects on the issuer, and has no affiliated transaction which seriously affects its independence or is evidently unfair. Therefore, these comply with relevant requirements for independence in Article 12 of the Measures for the Administration of the Registration of IPO Stocks on the Science and Technology Innovation Board (for Trial Implementation).

II. Intermediaries' Verification

(I) Verification Procedures

The verification procedures performed by the Sponsor and lawyers of the Issuer are as follows:

1. The Issuer provided Audit Report, sales and procurement details, documents of R&D input, equipment procurement details, fixed assets list, procurement contracts and invoices of important fixed assets, real estate certificates, lists and certificates of intellectual property rights, other asset ownership certificates, staff register, remuneration payment records, organizational chart, and responsibilities description, job standards and systems of departments, cash flow in bank accounts. Further, the setting of sales and procurement, finance, R&D, together with staffing, was checked to get hold of asset ownership and usage status. Moreover, the Issuer was inspected

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for any dispute over the ownership of the important assets produced and operated by the Issuer, and whether its assets were occupied or used by related parties;

2. Legal opinions issued by Burks Johansson LLP, a US law firm, on the Controlling Shareholder AXT, AXT's information disclosure documents, audit reports or financial statements, details and contracts of procurement and sales, list of fixed assets, list of intellectual property rights, staff register, and cash flow in bank accounts were obtained. Further, the development history, industry, main business, products, raw materials, production process, assets, and staffing of AXT and the companies it controls were inspected. AXT and the companies it controls were further investigated for any horizontal competition that may have significant adverse effects on the Issuer, and whether related sales, procurement, assets, personnel, and technologies of the Issuer are confused with those of its Controlling Shareholder and the companies it controls or participates in;

3. During the report period, details of related-party sales and procurement transactions, related-party transaction contracts and transaction vouchers, trademarks and technology licensing contracts of the Issuer were inspected. The explanations of the Issuer's related parties in terms of the related-party transactions and interview transcripts were obtained. The reasons for purchasing from related parties, the impact of stopping purchasing from Dongfang High Purity Materials on the production and operation of the Company, and alternative measures taken with respect thereto, and the procurement of production equipment from related parties, were investigated. The amount and proportion of related-party transactions between the Issuer and related parties, changing trends, background and authenticity of the related party transactions were further investigated. Also, the Issuer was examined for any related-party transactions that seriously affect its independence;

4. Trademark, technology license agreements, capital lending contract and certificates signed by AXT and the Issuer were obtained. The Issuer was inspected for whether it has obtained necessary authorizations for using the trademarks and technologies of related parties, and whether the Issuer's production and operation constitute a major reliance on the authorized trademarks and technologies;

5. Real estate, land, patents, trademarks, software copyrights and other assets through public channels, and the inventory of stock, fixed assets, construction in progress and intangible assets at the end of the period, and the accuracy and integrity

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of the assets, of the Issuer, were checked;

6. AXT issued the Letter of Commitment on Avoiding Horizontal Competition;

7. Production sites and R&D sites of the Issuer and its subsidiaries were investigated on the spot. Production process, project initiation of R&D projects, R&D records, of the Issuer were inspected. Interviews were conducted with the superintendents responsible for management, procurement, marketing, finance, and R&D of the Issuer, with a view to determining whether the Company operates independently in terms of production, supply, marketing, finance, and R&D;

8. After the explanations of the Issuer were obtained, interview were conducted with main customers and suppliers during the report period, as well as those after asset restructuring with AXT, for the purpose of confirming the major customers after restructuring with AXT, understanding the transaction contents, terms, and actual implementation with these customers and suppliers, and their cooperation history, customers' recognition of product quality of the Company, and determining whether there is a related-party relationship with the Issuer and financial disintermediation; doing so is to have a better understanding of the business transformation;

9. Main customers and suppliers, as well as those after asset restructuring with AXT during the report period, of the Issuer were executed the external confirmation procedure;

10. The Issuer, its Controlling Shareholder AXT and its key management personnel, directors, supervisors, senior executives, sales and procurement superintendents, key financial personnel, key sales and procurement personnel, etc. were inspected for the cash flow in bank accounts during the report period, so as to determine whether they have financial disintermediation and advance payment, etc.

11. After the explanations of the Issuer were obtained, the industrial and commercial files of the Issuer and its holding subsidiaries, and its internal governance-related systems were consulted. In addition, interviews were conducted with some resigning directors to get hold of the setting and operation of the management organization, the methods of management and control against its holding subsidiaries, as well as the reasons and effects of changes in directors before and after the asset restructuring.

(II) Verification Opinions

The Sponsor and Issuer's Attorney believe, upon verification, that the Issuer has

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complete assets, independent business and personnel, finance and institution, has no horizontal competition with the controlling shareholder, the actual controller and other enterprises controlled by it, which has material adverse effects on the issuer, and has no affiliated transaction which seriously affects its independence or is evidently unfair. Therefore, these comply with relevant requirements for independence in Article 12 of the Measures for the Administration of the Registration of IPO Stocks on the Science and Technology Innovation Board.

Q2. Business Reorganization

According to the reply to the inquiry, (1) the Issuer considers that it has completed the asset reorganization on December 9, 2020 on the ground that the original shareholders of the reorganized entities have acquired the newly increased shares (consideration of reorganization) of Tongmei Limited, but the industrial and commercial change registration of Baoding Tongmei, one of the reorganized entities, was completed on January 12, 2021; (2) in May 2021, the Issuer acquired AXT-Tongmei from AXT.

The Issuer is required to explain: (1) the transaction process of the acquisition of Baoding Tongmei, the reasons why the Company considers that it acquired the control over Baoding Tongmei on December 9, 2020; (2) the reasons why the acquisition of AXT-Tongmei is not included in the scope of reorganization and the rationality thereof; (3) recalculation and comparison of indicators such as total assets, operating income and total profit of the reorganizing parties in 2020 after AXT-Tongmei is included in the scope of reorganization; (4) Details and relevant reasons of offsetting transactions among the reorganizing parties in 2019 and 2020.

The Sponsor, the Issuer's Attorney and the Reporting Accountant are requested to conduct verifications and issue explicit opinions thereon.

Response:

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I. Explanations from the Issuer

(I) Transaction process of the acquisition of Baoding Tongmei, the reasons why the Company considers that it acquired the control over Baoding Tongmei on December 29, 2020

1. Transaction process of the acquisition of Baoding Tongmei

The transaction process of the Issuer's acquisition of Baoding Tongmei is as follows:

Time

Transaction Process

December 9, 2020

Beijing Zhongfeng Assets Appraisal Co., Ltd. issued the Asset Apprisal Report on the Total Equity Value of Baoding Tongmei Crystal Manufacturing Co., Ltd. involved in the Shareholders' Proposed Transfer of Equity Interest in Baoding Tongmei Crystal Manufacturing Co., Ltd. (Zhong Feng Ping Bao Zi (2020) No. 01234).

December 25, 2020

The shareholders of Baoding Tongmei made a shareholders' decision, agreeing that AXT would transfer all its 100% equity interest in Baoding Tongmei to Tongmei Limited; after the equity transfer, Baoding Tongmei would become a wholly owned subsidiary of Tongmei Limited; the nature of the company would be changed from a limited liability company (sole proprietorship by a foreign legal person) to a limited liability company (sole proprietorship by a legal person).

AXT and Tongmei Limited entered into the Equity Transfer Agreement, pursuant to which AXT agreed to transfer its 100% equity interest in Baoding Tongmei and the corresponding shareholder rights and obligations represented by such equity interest to Tongmei Limited, and Tongmei Limited agreed to accept the transfer of AXT's 100% equity interest in Baoding Tongmei and the corresponding shareholder rights and obligations represented by such equity interest.

Tongmei Limited held a shareholders' meeting, agreeing that AXT would use its 100% equity interest in Baoding Tongmei as a consideration to subscribe for the newly increased registered capital of the Company; AXT and Tongmei Limited entered into the Capital Increase Agreement, providing that AXT would use its 100% equity interest in Baoding Tongmei as a consideration to subscribe for the newly increased registered capital of the Company.

Tongmei Limited executed the new articles of association of Baoding Tongmei Crystal Manufacturing Co., Ltd.

December 29, 2020

Tongmei Limited completed the industrial and commercial change registration and obtained the business license issued by the Beijing Tongzhou District Administration for Market Regulation. AXT, the

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original shareholder of Baoding Tongmei, obtained the newly increased shares of Tongmei Limited (consideration of reorganization), that is, Tongmei Limited has paid all the consideration of reorganization.

January 12, 2021

Baoding Tongmei completed the industrial and commercial change registration and obtained the business license issued by the Dingxing County Administrative Review and Approval Bureau.

2. Reasons why the Company considers that it acquired the control over Baoding Tongmei on December 29, 2020

In combination with the provisions of the application guide of the Accounting Standards for Business Enterprises No. 20 - Business Mergers, the determination standards and actual circumstances in relation to the Company's completion of its control over Baoding Tongmei are as follows:

(1) The contract or agreement on the business merger has been approved by the shareholders' meeting, etc.

On December 25, 2020, AXT and Tongmei Limited entered into the Equity Transfer Agreement which has been deliberated and approved by the shareholders of Baoding Tongmei.

(2) If the business merger is required to be approved by the relevant competent authorities of the state, such approval has been obtained.

Pursuant to applicable laws and regulations, the Company's acquisition of 100% equity interest in Baoding Tongmei is not required to be approved by the relevant competent authorities of the state.

(3) The parties involved in the merger have gone through such procedures as necessary for the transfer of property rights

On December 25, 2020, AXT and Tongmei Limited entered into the Equity Transfer Agreement, agreeing that AXT would transfer its 100% equity interest in Baoding Tongmei to Tongmei Limited. The Agreement took effect on December 25, 2020, the parties thereto have confirmed that the relevant equity transfer has been completed on the same day, Tongmei Limited has become the sole shareholder of Baoding Tongmei on December 25, 2020.

(4) The merging party or the purchasing party has paid most of the merger price

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(generally more than 50%), and has the ability and plan to pay the remaining amount

According to the Equity Transfer Agreement and the Capital Increase Agreement entered into by and between Tongmei Limited and AXT, the consideration for Tongmei Limited's acquisition of 100% equity interest in Baoding Tongmei is new shares issued by Tongmei Limited to AXT, and the acquisition of newly increased shares in Tongmei Limited by the original shareholders of Baoding Tongmei is subject to the consummation of the capital increase, the industrial and commercial change registration and the acquisition of the business license.

On December 29, 2020, Tongmei Limited completed the industrial and commercial change registration with respect to the reorganization matters and obtained a new business license, that is, the original shareholders of Baoding Tongmei have obtained the newly increased shares in Tongmei Limited (consideration of reorganization). Accordingly, Tongmei Limited has paid the consideration for the equity transfer as agreed in the Equity Transfer Agreement on December 29, 2020.

(5) The merging party or the purchasing party has controlled the financial and operational policies of the merged party or the purchased party, and owns the corresponding benefits and bears the corresponding risks

According to the articles of association of Baoding Tongmei Crystal Manufacturing Co., Ltd. which was executed and entered into force on December 25, 2020, upon the completion of the reorganization, the body with the highest authority of Baoding Tongmei remains to be shareholders. Therefore, after Tongmei Limited becomes the sole shareholder of Baoding Tongmei, Tongmei Limited shall have the right to exercise relevant authorities as a shareholder in accordance with the Company Law and the articles of association of Baoding Tongmei, appoint and remove members of the board of directors of Baoding Tongmei, and thereby appoint and remove the management of Baoding Tongmei through the board of directors to exercise the control over Baoding Tongmei.

The Issuer, Baoding Tongmei and AXT, the original shareholder of Baoding Tongmei, jointly issued the Confirmation Letter on the Asset Reorganization,

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confirming that the transfer of equity interest in Baoding Tongmei has been completed on the date of signing the Equity Transfer Agreement; as of the date of the completion of such equity transfer, Tongmei Limited holds 100% equity interest in Baoding Tongmei, controls the financial and operational policies of Baoding Tongmei, has the rights and obligations as a shareholder of Baoding Tongmei, and owns corresponding benefits and bears corresponding risks.

In addition, as confirmed through the interviews with the persons of Baoding Tongmei handling the industrial and commercial change registration and the officials of the industrial and commercial authorities, Baoding Tongmei submitted the application materials for the relevant change registration to them at the end of December 2020, but due to the government's processing time and procedures, the industrial and commercial change registration was completed on January 12, 2021. In consideration of the fact that the Company Law, the Regulations on the Administration of Registration of Market Entities and other laws and regulations have no provision that the industrial and commercial change registration is a condition to the effectiveness of equity transfer, the industrial and commercial change registration of equity interest is only an administrative act, and such change is aimed at making the relevant registration matters of a company public and become effective against a bona fide third party, and the Equity Transfer Agreement does not list the industrial and commercial change registration as a precondition to the equity transfer. Therefore, regardless of whether the industrial and commercial change registration of Baoding Tongmei is completed, the effectiveness of the Equity Transfer Agreement and the equity transfer shall not be affected, nor does the time of completing such industrial and commercial change registration affect the time of completing the equity transfer. Tongmei Limited obtained 100% equity interest in Baoding Tongmei on December 25, 2020, becoming the sole shareholder of Baoding Tongmei, owning relevant rights as a shareholder in accordance with the law, and controlling the financial and operational policies of Baoding Tongmei, it has obtained the control over Baoding Tongmei. The fact that the relevant industrial and commercial change registration of

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Baoding Tongmei was completed on January 12, 2021 has no effect on Tongmei Limited's control over Baoding Tongmei.

In conclusion, as of December 29, 2020, Tongmei Limited has obtained the control over Baoding Tongmei.

(II) Reasons why the acquisition of AXT-Tongmei is not included in the scope of reorganization and the rationality thereof;

1. The asset reorganization in December 2020 and the acquisition of AXT-Tongmei are two separate reorganizations implemented by the Company

To solve horizontal competition and integrate business resources, the Company implemented the asset reorganization in December 2020, upon the completion of such reorganization, the Company holds 100% equity interest in Beijing Boyu, Baoding Tongmei, Chaoyang Tongmei, Nanjing Jinmei and Chaoyang Jinmei. This reorganization is for production resources; after the completion of the said reorganization, the Company has integrated the supply of PBN crucibles, indium phosphide polycrystalline, high-purity gallium and other raw materials in the upstream of semiconductor substrate materials, and their main business covers the R&D, production and sale of semiconductor substrate materials, PBN materials and other high-purity materials.Before and after the reorganization, the Company fails to achieve the independent sale of overseas substrate materials. In this reorganization, the Company and the original shareholders of the reorganized parties entered into the Equity Transfer Agreement and the Capital Increase Agreement in December 2020, which have gone through the review procedure by the board of directors, the shareholders' meeting or any other competent authority, and completed the payment of relevant amounts and the closing of assets in the same month.

The Company's acquisition of AXT-Tongmei is to make the Issuer directly face customers in the overseas substrate material market and further reduce related party transactions and horizontal competition, which is a further extension after the Company's domestic reorganization, mainly intending to reorganize the channels for overseas procurement and the sales of semiconductor substrate materials.

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After the acquisition of AXT-Tongmei, the Issuer owns a full independent marketing ability in the overseas market. On May 6, 2021, the Company held a board meeting to review and approve the Company's acquisition of 100% equity interest in AXT-Tongmei from AXT in cash. On the same day, Beijing Tongmei entered into the Share Transfer Agreement with AXT.

As the Company's overseas investment is subject to the pre-approval procedures such as overseas investment filing, and the time of completion of such procedures is uncertain, the acquisition of AXT-Tongmei was not deliberated by the Company in its board meeting held in December 2020. The acquisition of AXT-Tongmei was deliberated and approved by the Company's board of directors in May 2021 separately, such acquisition and the reorganization in December 2020 are not conditional on each other.

In addition, the agreements signed by the related parties above did not require that the two organizations shall be preconditioned on each other.

In conclusion, the Company's asset reorganization in December 2020 and the acquisition of AXT-Tongmei in May 2021 are two separate reorganizations that were implemented in the fiscal year or period immediately before the Issuer submitted its IPO application documents.

2. Non-existence of circumvention of the Opinions on the Application of the Securities and Futures Law No. 3 in relation to the acquisition of AXT-Tongmei being not included in the scope of reorganization

(1) Relevant provisions of the Answers to Certain Questions on the IPO Business (Revised in June 2020)

According to the relevant provisions of "Question 36, Business Reorganization and Major Changes in Main Business" in the Answers to Certain Questions on the IPO Business (Revised in June 2020):

"The business reorganization of an issuer occurred during the reporting period shall be determined separately based on whether the reorganized business and the issuer are under the same control. If the business reorganization is under the same

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control, it shall be determined and handled in accordance with the relevant requirements of the Opinions on the Application of the Securities and Futures Law No. 3; if the business reorganization is not under the same control, it usually includes the acquisition of the equity interest or operating assets of the reorganized party, increasing the capital of the issuer, merging the reorganized party or otherwise with the equity interest or operating assets of the reorganized party. The issuer and intermediaries may pay attention to the following factors:

If multiple reorganizations occur within 12 months, the impact of the reorganization on the issuer's total assets, net assets, operating income or total profit shall be calculated on a cumulative basis."

Therefore, both the Company's asset reorganization in December 2020 and the acquisition of AXT-Tongmei in May 2021 are business reorganizations under the same control, they shall be determined and handled in accordance with the relevant requirements of the Opinions on the Application of the Securities and Futures Laws No. 3.

(2) Relevant provisions of the Opinions on the Application of the Securities and Futures Law No. 3

According to the Opinions on the Application of "No Major Change in the Issuer's Main Business in the Last Three Years" under Article 12 of the Administrative Measures on the Initial Public Offering and Listing of Stocks - the Opinions on the Application of the Securities and Futures Law No. 3 (hereinafter referred to as the "Opinions on the Application of the Securities and Futures Law No. 3"), if an issuer has undergone multiple reorganizations in the fiscal year or period immediately before its submission of the IPO application documents, the impact of such reorganizations on the issuer's total assets, operating income or total profit shall be calculated on a cumulative basis.

According to the Opinions on the Application of the Securities and Futures Law No. 3, the Issuer submitted its IPO application documents in December 2021, as

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required by the above provisions, the Issuer shall consolidate the reorganization (i.e., the reorganization of five entities, including Beijing Boyu) in the fiscal year immediately before its submission of IPO application documents; and the reorganization in the period immediately before its submission of IPO application documents (i.e., the acquisition of AXT-Tongmei) will be calculated. After separately calculating the impact of the two reorganizations on the Issuer's total assets, operating income or total profit, and then adding up them. As AXT-Tongmei had not actually operated and did not open any bank account, the amount of paid-in capital and related financial indicators are all zero, and the proportion of the total assets, operating income or total profit of AXT-Tongmei to the relevant financial indicators of the Issuer in 2020 is also zero. Therefore, the acquisition of AXT-Tongmei will not affect the comparison of indicators such as total assets, operating income and total profit of the reorganizing parties in 2020, without circumvention of the Opinions on the Application of the Securities and Futures Law No. 3.

(III) Recalculation and comparison of indicators such as total assets, operating income and total profit of the reorganizing parties in 2020 after AXT-Tongmei is included in the scope of reorganization

1. Calculation based on the indicators of 2019

In December 2020, the Issuer completed the acquisition of 5 entities including Beijing Boyu. The table below shows the comparison of relevant indicators of 2019:

In RMB0'000

Entity/Item

Total assets as at the end of 2019

Operating income in 2019

Total profit in 2019

Beijing Tongmei A

80,072.95

35,728.47

-1,507.98

Baoding Tongmei B

28,635.15

1,953.43

-2,902.24

Chaoyang Tongmei C

24,219.28

2,470.16

-1,457.28

Chaoyang Jinmei D

7,005.23

1,095.62

360.31

Nanjing Jinmei E

9,340.66

5,781.28

942.58

Beijing Boyu F

12,659.92

9,492.30

1,541.82

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Offsetting transactions against the reorganizing parties G

-8,238.45

-8,856.82

-881.63

Total amount of the acquired parties H=B+C+D+E+F+G

73,621.79

11,935.97

-2,396.44

Proportion (H/A)

91.94%

33.41%

158.92%

(1) The reorganization above is intended to integrate the industry chain, and the Company has been in operation for over one complete accounting year after the reorganization

The reorganized party Beijing Boyu is mainly responsible for the production and sales of PBN crucibles and other PBN materials, so as to provide PBN crucible consumables for the Issuer's semiconductor substrate materials; the reorganized parties Nanjing Jinmei and Chaoyang Jinmei are responsible for the production and sales of high-purity gallium and other high-purity compounds, in which high-purity gallium is one of the main raw materials for the Issuer to produce gallium arsenide substrates; the reorganized parties Chaoyang Tongmei and Baoding Tongmei are mainly responsible for the production and sales of gallium arsenide, and its business and production line come from the Issuer's production line that has been relocated.

In summary, the reorganization above is integration implemented focusing on the semiconductor substrate material business of the Issuer. The assets reorganization above did not lead to a change in the main business of the Issuer; instead, after the reorganization, related-party transactions are reduced and horizontal competition is avoided, which further enhanced the independence of the Issuer.

(2) Relevant indicators are in compliance with the relevant provisions of the Opinions on the Application of the Securities and Futures Law No. 3

According to the above, neither the total assets as of the end of 2019 nor the indicators related to the operating revenue of the year exceeded 100%, but the calculation result of the total profits exceeded 100% because the profits of both parties are negative. However, with reference to relevant cases and practices on the market at present, such conditions are not included for the scope of indicator

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calculation. For details, refer to the explanation below.

In summary, with December 2020 as the completion time, the relevant indicators of 2019 are not subject to the circumstance provided in the Opinions on the Application of the Securities and Futures Law No. 3 that the offering may be requested only after operation for a complete accounting year.Moreover, by now, the Company has been in operation for over a complete accounting year from the completion time of the reorganization.

(3) Relevant cases on the market

1) Shenzhen Pacific Union Precision Manufacturing Co., Ltd.

During the reporting period, Shenzhen Pacific Union Precision Manufacturing Co., Ltd. established Put Tech (Hong Kong), and Put Tech (Hong Kong) acquired 100% equity interests in Pacific Union (Hong Kong). The total profit of the reorganized party is negative, and the Issuer did not include such total profits into the scope of calculation when explaining whether it was in compliance with the Opinions on the Application of the Securities and Futures Law No. 3.

In RMB0'000

End of 2018/2018

Total assets

Operating revenue

Total profits

Book value of the reorganizing party

16,020.73

12,694.33

1,081.66

Book value of the reorganized party

3,750.72

7,997.49

-288.53

Proportion=/

23.41%

63.00%

-

2) SICC Co., Ltd.

When SICC Co., Ltd. determined whether its acquisition of the equity interests in and assets of Tianyue Crystal in 2020 constituted major assets reorganization, given that the total profits of both the acquired entity and the acquiring entity in the previous year were negative, the impact on the total profits were not calculated.The information disclosed is as follows:

In RMB0'000

End of 2019/2019

Total assets

Operating revenue

Total profits

Book value of the reorganizing party

115,032.01

26,567.32

-16,531.68

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Book value of the reorganized party

42,413.92

122.56

-2,690.50

Proportion=/

36.87%

0.46%

-

3) Beijing Qilin Hesheng Network Technology Co., Ltd.

In 2016, Beijing Qilin Hesheng Network Technology Co., Ltd. acquired the overseas entities APEX and Cybertron under common control with Beijing Qilin Hesheng Network Technology Co., Ltd. Given that the total profits of the reorganizing party and the reorganized parties in the previous year were negative, the Company did not include such total profits in the scope of calculation when explaining whether it is in compliance with the Opinions on the Application of the Securities and Futures Law No. 3. The information disclosed is as follows:

In RMB0'000

End of 2015/2015

Total assets

Operating revenue

Total profits

Book value of the reorganizing party

5,366.64

-

-3,341.33

Book value of the reorganized party

3,670.03

5,516.54

-13,994.18

Proportion=/

68.39%

>100%

-

In summary, given that the total profits of both the Issuer and the reorganized party (excluding the related-party transaction with Tongmei Limited) were negative in 2019, and the loss of the reorganized party was greater than Tongmei Limited, this reorganization did not improve the total profits of Tongmei Limited in 2019; therefore, Tongmei Limited is not subject to the circumstance of making up profits, hence not subject to the circumstance provided in the Opinions on the Application of the Securities and Futures Law No. 3 that the offering may be requested only after operation for a complete accounting year.Moreover, by now, the Company has been in operation for over a complete accounting year from the completion time of the reorganization.

2. Calculation based on the indicators of 2020

If AXT-Tongmei is included in the scope of reorganization, the process of recalculating and comparing indicators such as total assets of the reorganizing parties

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as at the end of 2020, operating income and total profit of the reorganizing parties in 2020 is as follows:

In RMB0'000

Entity/Item

Total assets as at the end of 2020

Operating income in 2020

Total profit in 2020

Beijing Tongmei A

168,634.49

40,800.67

2,149.40

Baoding Tongmei B

32,811.80

7,159.40

-2,383.11

Chaoyang Tongmei C

29,939.56

6,018.06

-522.43

Chaoyang Jinmei D

10,828.24

3,890.71

1,559.89

Nanjing Jinmei E

12,407.95

8,538.73

886.41

Beijing Boyu F

17,030.67

11,149.72

3,361.01

AXT-Tongmei G

-

-

-

Offsetting transactions against the reorganizing parties H

-6,642.24

-8,840.99

-2,064.60

Total amount of the acquired parties I=B+C+D+E+F+G+H

96,375.98

27,915.63

837.18

Offset against the long-term equity investment held by the reorganizing parties in the reorganized parties J

-55,782.07

-

-

Excluding financing amount from an external investment institution of the reorganizing party K

-31,447.38

-

-

Percentage (I/(A+J))

85.40%

68.42%

38.95%

Proportion (I/(A+J+K))

118.39%

68.42%

38.95%

According to the table above, if AXT-Tongmei is included into the scope of reorganization, in 2020, the total assets, operating income, and total profit of the acquired entities excluding related-party transactions did not reach or exceed 100% of the relevant indicators of Tongmei Limited; therefore, it is not subject to the circumstance provided in the Opinions on the Application of the Securities and Futures Law No. 3 that the offering may be requested only after operation for a complete accounting year. The indicator of total assets may exceed 100% only if May 2021 is taken as the completion time of the reorganization, the calculation is

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made based on the relevant indicators of 2020, and the additional capital contribution received by the Issuer from external investment institutions in 2020 are excluded.

From November to December 2020, 10 external institutions including Haitong New Energy entered into capital increase agreements and supplementary agreements with the Company, and such external institutions paid the additional capital contribution to the Issuer successively from November to December 2020 in the total of RMB314 million, including RMB149 million paid in November 2020 and RMB166 million paid in December 2020. The Issuer has made corresponding accounting treatment of the additional capital contributions received in November and December 2020. Such events are external financing acts occurred during the operation of the Issuer according to its needs.

In summary, in 2020, the total assets, operating income, and total profit of the acquired entities excluding related-party transactions did not reach or exceed 100% of the relevant indicators of Tongmei Limited; therefore, it is not subject to the circumstance provided in the Opinions on the Application of the Securities and Futures Law No. 3 that the offering may be requested only after operation for a complete accounting year.

(IV) Details and relevant reasons of offsetting transactions among the reorganizing parties in 2019 and 2020.

Pursuant to the Opinions on the Application of the Securities and Futures Law No. 3, if an issuer reorganizes any identical, similar or related business under the same controller as a company during the reporting period, if the total assets of the reorganized party at the end of the fiscal year immediately before the reorganization or its total operating income or total profit in the last fiscal year reaches or exceeds 100% of the issuer's corresponding item before the reorganization, in order to facilitate investors' understanding of the overall operation after the reorganization, the

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issuer shall not apply for offering until it has operated for a full fiscal year. If the reorganized party has any related party transaction with the issuer before the reorganization in the fiscal year immediately before the reorganization, the total assets, operating income or total profit shall be calculated after deducting such transactions.

According to the above provisions, the reorganizing party has deducted the total assets, operating income or total profit of Beijing Tongmei. The details of the offsetting transactions in 2019 and 2020 are as follows:

In RMB0'000

Entity/Item

2020

2019

Total assets

Notes receivable of the reorganized Party to Beijing Tongmei A

303.22

497.05

Accounts receivable of the reorganized party to Beijing Tongmei B

2,430.45

4,070.00

Receivable financing of the reorganized party to Beijing Tongmei C

691.47

594.30

Other receivables of the reorganized party to Beijing Tongmei D

3,217.10

3,077.10

Total amount offset against total assets E=A+B+C+D

6,642.24

8,238.45

Total revenue and profit

Operating income that should be offset by the reorganized party against Beijing Tongmei F

8,840.99

8,856.82

Operating costs of the reorganized party to Beijing Tongmei G

6,756.98

7,975.19

Interest expenses of the reorganized party to Beijing Tongmei H

19.41

-

Total amount offset against total profit I=F-G-H

2,064.60

881.63

II. Intermediaries' Verification

(I) Verification procedures

The Sponsor, the Issuer's Attorney and the Reporting Accountant mainly performed the following verification procedures:

1. Inspecting the resolutions of the shareholders' meeting, the resolutions of the board of directors, the articles of association, the Equity Transfer Agreement, the Capital Increase Agreement, the industrial and commercial registration materials, the new business license issued after the change, and other documents and materials involved in the asset reorganization, and the latest articles of association of Baoding Tongmei after the asset reorganization, the Company's explanation and confirmation,

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inspecting the relevant provisions of the application guidance of the Accounting Standards for Business Enterprises No. 20 - Business Mergers, and verifying the transaction process of Tongmei Limited's acquisition of Baoding Tongmei;

2. Inspecting the latest business license obtained by Tongmei Limited after the asset reorganization, the Confirmation Letter on the Asset Reorganization issued by the Issuer, Baoding Tongmei and AXT, interviewing persons of Baoding Tongmei handling the industrial and commercial change registration and officers of the competent industrial and commercial authorities, interviewing MORRIS SHEN-SHIH YOUNG, Chairman of Baoding Tongmei, and LIU Wensen, General Manager of Baoding Tongmei, and verifying the reasons for the Company to have the control over Baoding Tongmei on December 29, 2020;

3. Inspecting the financial statements of the reorganizing party (Tongmei Limited) and the reorganized party (the acquired entity) provided by the Issuer for the reporting period, calculating the total assets at the end of the fiscal year immediately before the reorganization or the percentage of the operating income or total profit in the fiscal year immediately before the reorganization to the corresponding item of the Issuer before the reorganization, and verifying whether it complies with the relevant laws and regulations such as the Opinions on Application No. 3.

(II) Verification opinions

Upon verification, the Sponsor and the Issuer's Attorney consider that:

1. As of December 29, 2020, Tongmei Limited has obtained the control over Baoding Tongmei, and the relevant reasons therefor are sufficient;

2. The asset reorganization in December 2020 and the acquisition of AXT-Tongmei are two separate reorganizations implemented by the Company, the relevant indicators in relation to the acquisition of AXT-Tongmei will not affect the indicators of the reorganized party in the Issuer's asset reorganization in December 2020 accounting for the Issuer's total assets, operating income, or total profit. The fact that the acquisition of AXT-Tongmei is not included in the scope of reorganization does not circumvent the Opinions on the Application of the Securities and Futures Law No.

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3.

3. The total assets of the reorganized party as at the end of 2019 and 2020, and the operating income and total profit of the reorganized party for 2019 and 2020 are lower than the corresponding items of the Issuer, which is not the situation under which an entity shall not apply for offering until it has operated for a full fiscal year in accordance with the Opinions on Application of the Securities and Futures Law No.3.

Upon verification, the Reporting Accountant considers that as of December 29, 2020, Tongmei Limited has obtained the control over Baoding Tongmei, and the relevant reasons therefor are sufficient.

Q3. Fundraising Projects and Relocation and Construction of Production Lines

3.1

According to the reply to the inquiry, (1) the Issuer intends to raise about RMB1.16 billion, of which about RMB360 million will be invested in the gallium arsenide semiconductor materials project and RMB800 million will be used to replenish working capital; (2) the gallium arsenide project will help the Issuer achieve the mass production of 8-inch GaAs substrates and it is expected that about RMB1.12 billion will be invested. Among them, the crystal sub-project intends to use the raised funds in the amount of RMB360 million and the wafer sub-project intends to use the self-owned funds. At the end of the reporting period, the Issuer's cash and bank balances amounted to RMB170 million; (3) a company's production capacity of large-size substrates can, to a certain extent, reflect its technical strength. At present, the Issuer's main products include 3-inch indium phosphide and 6-inch gallium arsenide, and its main competitors have the mass production capacity of 6-inch InP substrates and 8-inch GaAs substrates. The Issuer's current market shares and ranking are behind its main competitors, and its capacity scale is insufficient.

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The Issuer is required to explain: (1) production line construction status and mass production progress of the large-size InP substrates and GaAs substrates, as well as the capital demands and sources; (2) necessity and scale rationality for using the raised funds to replenish working capital in conjunction with the production line construction demand, cash and bank balances and usage arrangements, as well as the specific arrangements for the investment of the majority of the raised funds in the field of scientific and technological innovation.

Reply:

I. Explanations from the Issuer

(1) Production line construction status and mass production progress of the large-size InP substrates and GaAs substrates, as well as the capital demands and sources;

1. Production line construction status and mass production progress of the large-size InP substrates and GaAs substrates

The Company's production line construction status and mass production progress of the large-size InP substrates and GaAs substrates are as follows:

Project

Production line construction status

Current mass production progress

Large-size InP substrates

Have not planned to build a separate production line for large-size InP substrates

Have small mass production capacity

Large-size GaAs substrates

Plan to invest in the gallium arsenide semiconductor materials project and build a production line with an annual production capacity of 500,000 pieces of 8-inch GaAs substrates

Have small mass production capacity

At present, the processing technology of 8-inch gallium and 6-inch indium phosphide single-crystal growth and wafer has been developed basically, with small batch production capacity. The construction progress of the special production line for large-size InP substrates and GaAs substrates mainly depends on the demands of downstream markets.

It can be seen from the future development trend of the industry that at present, the diameter of the global GaAs substrates is 4-6 inches generally; with the gradual

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maturity of Mini LED and Micro LED technology, the demand for LED chips registers the geometric growth, and the GaAs substrates have also trended to be 8-inch ones; and from the perspective of competition, Sumitomo and Freiberger, the main global competitors of the Company, have the capacity to produce 8-inch GaAs substrates, so it's necessary for the Company to speed up the layout and gain market opportunities in the new round of industrial cycle; meanwhile, Osram, a downstream customer, has made the request for purchasing 8-inch GaAs substrates for next three years to the Company and IQE has also purchased 8-inch wafer samples for testing. Therefore, the Company plans to build a production line with an annual production capacity of 500,000 pieces of 8-inch GaAs substrates to meet the demands of downstream customers as soon as possible.

At present, 2-inch and 3-inch InP substrates are mainly used to produce optical modules and are ultimately applied in the data centers, 5G communications and other fields that have begun commercial promotion on a large scale. Due to the large demand in the field of data centers and 5G communications, and the extra demand for 2-inch and 3-inch InP substrates generated by the national computing network approved by the State, the Company is planning to expand the production capacity of 2-inch and 3-inch InP substrates. Further, 4-inch and 6-inch InP substrates of the Company are mainly used in high-end sensors, silicon optical chips and other devices, and at this stage, they are mainly provided to overseas customers to be used in cutting-edge fields such as vehicle lidar, VR/AR glasses, and have not been commercialized on a large scale. Therefore, the Company does not plan to build a separate production line for large-size InP substrates.

2. Capital demands and sources

The production line construction project of large-size GaAs substrates, i.e., the gallium arsenide semiconductor materials project to be invested by the Company using the raised funds, with a total investment amount of RMB1,120,536,300, is divided into two sub-projects including gallium arsenide (crystal) semiconductor materials project and gallium arsenide (wafer) semiconductor materials project. The

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gallium arsenide (crystal) semiconductor materials project, with an investment of RMB366,887,300, intends to use the raised funds in the amount of RMB366,887,300, and the gallium arsenide (wafer) semiconductor materials project intends to use the self-owned funds, with the funds sources being as follows:

(1) Profits over the years

During the reporting period, the Issuer achieved the net profit of RMB-28,063,500, RMB60,274,200 and RMB94,034,500, respectively, with the profitability soaring. As the project construction needs a certain period, the Company will invest in the construction of wafer projects by instalment out of the profit achieved over the past years.

(2) Bank loans

At the end of 2021, the Company's short-term loans amounted to RMB77,824,700, mainly being mortgage loans and credit loans from banks. The Company's asset-liability ratio was 27.85%, relatively low as a whole; in 2021, the Company's interest coverage ratio was 30.18, a good solvency ability.

At the end of 2021, the carrying amount of the Company's fixed assets was RMB647,253,800 and the carrying amount of accounts receivable was RMB218,634,500. The majority of the Company's customers are global well-known and have large scale and good reputation, so there is no large risk of receipt of payments. In the future, the Company may apply for loans with banks based on the capital demand and arrangements, or raise funds by pledge of accounts receivable and factoring.

(II) Necessity and scale rationality for using the raised funds to replenish working capital in conjunction with the production line construction demand, cash and bank balances and usage arrangements, as well as the specific arrangements for the investment of the raised funds in the field of scientific and technological innovation.

The Company's original fundraising projects include the gallium arsenide (crystal) semiconductor materials project and replenishment of working capital, and

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intend to use the raised funds in the amount of RMB1,166,887,300. In order to consolidate the Company's leading position in the field of InP substrates and further clarify the usage of the funds, the Company plans to add indium phosphide (wafer) semiconductor materials project and semiconductor materials R&D project, without change in the total fundraising amount. The investment directions of the raised funds before and after change are as follows:

In RMB0'000

Before change

Amount of the raised funds to be used

After change

Amount of the raised funds to be used

Gallium arsenide (crystal) semiconductor materials project

36,688.73

Gallium arsenide (crystal) semiconductor materials project

36,688.73

Replenishment of working capital

80,000.00

Indium phosphide (wafer) semiconductor materials project

18,118.98

Semiconductor materials R&D project

17,560.14

Replenishment of working capital

44,320.88

Total

116,688.73

Total

116,688.73

The specific information regarding the changed fundraising projects is as follows:

Project

Gallium arsenide (crystal) semiconductor materials project

Indium phosphide (wafer) semiconductor materials project

Semiconductor materials project

Specific product size involved

8-inch GaAs single crystal ingot

2-inch and 3-inch InP substrate

Research of related processes of 8-inch GaAs and 6-inch InP substrates

Production capacity

96.25 tons

810,000 pieces (converted into 2 inches)

Not involved

Corresponding substrate production capacity

500,000 pieces

810,000 pieces (converted into 2 inches)

Not involved

Whether to not apply for

According to the Explanations on GaAs Crystal

Not involve "window guidance"

Non-production projects do not involve

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"window guidance"

Semiconductor Materials Project of Chaoyang Tongmei Xtal Technology Co., Ltd. issued by the Development and Reform Commission of Chaoyang City, Liaoning Province, and according to the query made by the Issuer to the Development and Reform Commission of Chaoyang, it is confirmed that the construction projects such as integrated circuit chips and large silicon wafer production lines need to apply for the national "window guidance", while the GaAs (crystal) semiconductor materials project does not need to apply for "window guidance" because it does not fall within the scope of "window guidance" in accordance with the requirements of the national and provincial documents on "window guidance", and it is in compliance with the guidelines of the State Development and Reform Commission and Liaoning Provincial Development and Reform Commission.

"window guidance"

Filing status

Project Filing Certificate on GaAs (Crystal) Semiconductor Materials Project of Chaoyang Tongmei Xtal Technology Co., Ltd. (Chao Ka Kai Shen Fa Gai Bei [2021] No. 22)

Project Filing Certificate on InP (Wafer) Semiconductor Materials Project of Chaoyang Tongmei Xtal Technology Co., Ltd. (Chao Ka Kai Shen Fa Gai Bei [2021] No. 24)

Project Filing Certificate on Semiconductor Substrate Materials R&D Project of Chaoyang Tongmei Xtal Technology Co., Ltd. (Chao Ka Kai Shen Fa Gai Bei [2022] No. 20)

To sum up, except the projects for replenishment of working capital, the

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changed fundraising projects have undergone project filing and obtained certificate on project filing; the above-mentioned fundraising projects do not fall within the scope of "window guidance", the "window guidance" is not required, but the environmental assessment formalities will be undergone subsequently pursuant to the relevant provisions, and there is no substantive obstacle to undergo the relevant procedures.

Regarding the change of fundraising projects, the Company held the 14th meeting of the first session of the board of directors and the 14th meeting of the first session of board of supervisors for review on May 12, 2022, at which independent directors issued independent opinions. After that, the Company held a general meeting of shareholders for review on May 27, 2022, at which the event was passed. Among the changed fundraising projects, except that the projects for replenishment of working capital do not need to undergo the filing and environmental assessment formalities, other projects have undergone the project filing and obtained the filing certificate, and will undergo the environmental assessment formalities subsequently pursuant to the relevant provisions. Besides, the changed fundraising projects do not go through other approval or review formalities.

1. Production line construction status

(1) Current production line building status

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At the end of 2021, the Company's main production lines under construction are as follows:

In RMB0'000

Project

Intended purpose

Budget

Amount already invested

Construction progress at the end of 2021

InP crystal growth and wafer processing and production expansion project

Expansion of 2~4-inch InP crystal and substrate production workshop and supporting facilities

6,968.14

5,488.80

78.77%

Single-crystal wafer and related semiconductor materials production project

2~4-inch GaAs substrate production workshop and supporting facilities

24,232.45

17,546.72

72.41%

PBN product project II

Production workshop and supporting facilities of Tianjin Boyu for PBN crucible and other materials

7,233.00

4,835.26

66.85%

GaAs crystal semiconductor materials production project

2~6-inch GaAs crystal production workshop and supporting facilities

19,263.18

15,410.54

80.00%

InP single-crystal wafer production project

2~4-inch InP substrate production workshop and supporting facilities

3,475.71

2,992.93

86.11%

High-purity semiconductor preliminary materials production project

Production workshop and supporting facilities for high-purity gallium and other materials

7,692.70

7,138.06

92.79%

High-purity arsenic project

High-purity arsenic production workshop, supporting facilities and administrative building

9,242.83

5,429.24

58.74%

Total

78,108.01

58,841.55

-

Fund gap

19,266.46

The table above shows that as of the end of 2021, the estimated capital gap for the Company's main production line construction projects was about RMB192,664,600.

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(2) Future construction status of production lines

In the field of GaAs substrates, the GaAs substrates with a size of 6 inches or below have achieved the mass production around the world, while 8-inch GaAs substrates will become the focus of the market. The Company's strategic policy is to seize the market share of the large-size GaAs substrates on the basis of consolidating current market position and improving the production capacity of GaAs substrates with a size of 6 inches or below. Therefore, the Company plans to build a production line with an annual production capacity of 500,000 pieces of 8-inch GaAs substrates and with an annual production capacity of 4,000,000 pieces of GaAs substrates (converted into 2 inches), with a total investment of RMB1,120,536,300.

In the field of InP substrates, after many years of operation and development, the Company wins high recognition from customers and the market by capitalizing on its excellent performance and high technical advancement, and enjoys strong industry influence and brand effect. Thus, the Company's strategic policy is to deepen the development of main business, expand the production and sale scale of InP substrates, with a view to further improving the scale efficiency and cost advantage and boost the leading position in the industry. Therefore, the Company plans to build a production line with an annual output of 810,000 pieces of InP substrates (converted into 2 inches), with a total investment of RMB181,189,800.

To sum up, the Company has planned and will plan to carry out a series of production expansion plans with the focus on the semiconductor substrate materials, which, in turn, needs to raise funds to meet the Company's needs of rapid growth.

2. Cash and bank balances and usage arrangements

At the end of each period of the reporting period, the Company's cash and bank balances amounted to RMB107,376,700, RMB388,755,600 and RMB173,268,400, respectively. The sharp decline in 2021 was primarily due to the large increase of inventories and accounts receivable with the growth of business on one hand and the heavy investment by the Company in fixed assets and other long-term assets in that year on the other hand.

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At the end of 2021, the Company's cash and bank balances amounted to RMB173,268,400, which will continue to be used for procurement of raw materials and personnel expenses related to the Company's daily operation and will be properly invested in the production line construction.

During the reporting period, the Company mainly introduced external investors to alleviate the growing demand for working capital generated by the expansion of production and operation scale. With the growing demand in the downstream 5G, new generation display, data center and other markets, the Company urgently needs to replenish working capital by implementing this fundraising project, broaden the Company's external financing channels and guarantee the working capital necessary to conduct the daily business activities of the Company.

3. Necessity and scale rationality for using the raised funds to replenish working capital

(1) Necessity for replenishment of working capital

The Company's current cash and bank balances are mainly used for daily raw material and equipment procurement, goods preparation, project R&D and other related expenses, project expenses, expenses related to business activities such as receiving labor services and paying employee compensation, taxes and fees, as well as expenses related to long-term development. With the continuous growth of the Company's production capacity and income scale, the Company's expenditure on raw material procurement, R&D and employee compensation will further increase, so it is urgent to raise more funds to meet the working capital needs.

In this Offering, RMB442,893,800 will be raised to replenish working capital, mainly because that, on the one hand, with the continuous growth of the Company's income scale, the Company's demand for raw material procurement has increased correspondingly, and the expenditure on R&D and investment in projects have also kept increasing, which is expected to produce the demand for working capital investment; on the other hand, the rapid development of the market requires the Company to continue to pay attention to changes in market demand and expand core

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technological advantages, the Company still has the demand for further R&D to launch new products in the future, and it is expected to increase the demand for working capital investment. In addition, with the gradual investment, construction and operation of the Company's fundraising projects, and with the continuous improvement of the Company's overall business scale, the demand for working capital is further increasing.

When the working capital is in place, it will provide sufficient working capital for the Company's project construction, avoid the dilemma of cash flow shortage caused by the increase of capital expenditure, and meet the needs of the Company's long-term development. At the same time, the increase of working capital is conducive to improving the Company's anti-risk ability, avoiding serious adverse impact on the Company's going-concern ability due to price fluctuations of raw materials and finished products and fluctuations in exchange rate, and ensuring the stability of the Company's main business. In addition, in order to adapt to the trend of rapid development of industry technology and the need for continuous upgrading of product performance, the Company will continue to carry out technological transformation of production lines and new product R&D in the future, which requires the Company to have strong financial strength. The use of the raised funds will help optimize the capital structure of the Company, improve the anti-risk ability, provide financial support for the sustainable development of the Company's business, and provide a strong guarantee for the implementation of the Company's future development strategy.

(2) Scale rationality for replenishment of working capital

1) Calculation process and principle

The amount occupied by working capital is mainly affected by the Company's operating current assets and operating current liabilities. The Company uses the sales percentage method to estimate the changes of relevant current assets and current liabilities caused by the growth of future operating income, and then estimates the working capital gap in the next three years.

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The Company has forecast the operating current assets and operating current liabilities and calculated the amount of working capital to be occupied (i.e., the difference between the operating current assets and operating current liabilities), respectively at the end of 2022, 2023 and 2024. The proportion of operating current assets (accounts receivable, notes receivable, receivables financing, prepayments, and inventory) and operating current liabilities (accounts payable, and contract liabilities) to operating income is determined according to the average of actual indicators in 2019-2021.

The Company's new working capital gap in the next three years is calculated as per the following formula:

New working capital gap = Amount of working capital occupied at the end of 2024 - amount of working capital occupied at the end of 2021

2) Assumption of income growth rate

The operating income and growth from 2019 to 2021 are as follows:

Item

2021

2020

2019

Operating income (in RMB0'000)

85,734.52

58,317.04

46,222.68

Compound growth rate of income

36.19%

The Company's compound growth rate of operating income from 2019 to 2021 is 36.19% and based on this, it is assumed that the Company's growth rate of operating income is 36.19% from 2022 to 2024, and the corresponding expected amount of operating income is RMB1,167,618,400, RMB1,590,179,500 and RMB2,165,665,500, respectively. (This calculation does not represent the Company's or AXT's income and profit forecast for the next three years or constitute the Company's or AXT's commitment to performance.)

3) Calculation of the Company's new working capital gap in the future

According to the Company's audited financial statements for 2021, the proportion of the operating current assets and operating current liabilities for the Company's main business to the operating income for the current period is as follows:

In RMB0'000

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Item

At the end of 2021

Average proportion for the past three years

Accounts receivable

22,195.99

26.88%

Notes receivable

1,489.15

3.16%

Receivables financing

6,188.39

5.21%

Prepayments

779.51

0.84%

Inventories

40,103.45

52.11%

Total operating current assets

70,756.49

88.20%

Accounts payable

12,251.26

20.92%

Contract liabilities

515.39

0.37%

Total operating current liabilities

12,766.65

21.19%

Amount occupied by working capital

57,989.84

67.01%

By assuming that there is no material change in the Company's overall operating environment, international trade policies, market demand and external conditions, the calculation process of the Company's demand for replenishing working capital from 2022 to 2024 is as follows:

In RMB0'000

Item

2022 (Forecast)

2023 (Forecast)

2024 (Forecast)

Operating income

116,761.84

159,017.95

216,566.55

Accounts receivable

31,379.86

42,736.23

58,202.47

Notes receivable

3,690.16

5,025.63

6,844.41

Receivables financing

6,083.56

8,285.20

11,283.62

Prepayments

976.16

1,329.43

1,810.55

Inventories

60,849.06

82,870.33

112,861.11

Total operating current assets

102,978.80

140,246.82

191,002.16

Accounts payable

24,428.44

33,269.09

45,309.18

Contract liabilities

429.42

584.83

796.48

Total operating current liabilities

24,857.86

33,853.92

46,105.66

Amount occupied by working capital

78,120.94

106,392.90

144,896.50

New working capital demand

86,906.66

According to the above calculation, the Company's new working capital demand

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in the next three years amounts to RMB869,066,600. It is reasonable for the Company to use the raised funds of RMB442,893,800 to replenish the working capital.

To sum up, the Company calculates its working capital gap in the next three years using the sales percentage method based on reasonable assumptions and parameters setting and in accordance with rational calculation process. The amount of RMB442,893,800 to be used by the Company for replenishing working capital is in line with its existing assets and business scale.

4. Specific arrangements for the investment of the raised funds in the field of scientific and technological innovation

According to the Guidelines for the Industry Classification of Listed Companies (2012 Revision) published by the CSRC, the industry of the Company is classified into the "computer, communication and other electronic equipment manufacturing industry (industrial code: C39)." According to the Industrial Classification for National Economic Activities (GB/T4754-2017) published by the National Bureau of Statistics, the industry of the Company is classified into the "manufacturing of electronic components and special-purpose electronic materials" (C3985) under the "computer, communication and other electronic equipment manufacturing industry". According to the Tentative Provisions for Application for and Recommendation of Listing of Enterprises on the Sci-tech Innovation Board of the Shanghai Stock Exchange, the Company is classified into a new generation of information technology industry in line with the positioning of the STAR Market.

The raised funds will be fully used for the development of the Company's main business after deducting the issuing fees, including construction of the gallium arsenide semiconductor materials project with an annual production capacity of 500,000 pieces of 8-inch GaAs substrates and 4,000,000 pieces of 2-inch GaAs substrates, and of the indium phosphide semiconductor materials project with an annual production capacity of 810,000 pieces of 2-inch InP substrates, and addition of new production lines to expand production capacity, speed up the response to customers' orders, improve the supply capacity, consolidate the Company's

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competitive position in the market, meet customers' demand for products of larger quantities, faster delivery and higher quality, and lay a solid foundation for the Company's continuous growth.

The Company will carry out the semiconductor material R&D projects based on its own business layout, the development trend of III-V compound semiconductor material industry and the changes of end-customer demand. The Company plans to conduct the research and development of such technologies as high-quality 8-inch gallium arsenide polishing wafer process, characterization technology of gallium arsenide and indium phosphide semiconductor wafer, high-quality indium phosphide wafer with low surface defects, improvement and upgrading of 6-inch indium phosphide crystal growth process, and 8-inch gallium arsenide crystal growth process. The implementation of the R&D projects of semiconductor materials will help the Company take the initiative in the continuous launch of technologies and products on the market and obtain competitive advantages, and will provide a solid guarantee for the Company's future profit growth.

With the growth of its business scale, the Company's demand for equipment and material procurement has increased accordingly, and its R&D expenses and new project investments have also continued to increase. It is expected that there will be a demand for working capital investment. On the other hand, the development of the semiconductor industry is ever changing. The Company needs to continuously pay attention to any change to the market demand and expand its core technology advantages. In the future, the Company will still need to further develop and launch new products, and it is also expected that there will be a demand for working capital investment. The Company intends to make supplementary working capital investment in the field of technological innovation of semiconductor materials, including but not limited to the upgrading and transformation of existing production lines, increasing the investment in R&D of new products and new technologies, and building R&D teams, so as to ensure the smooth operation of its business, and enhance its competitiveness in the compound semiconductor materials market.

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The implementation of the foregoing fundraising projects will further improve the core strength of the Company's scientific and technological innovation, which will not result in horizontal competition between the Company, on one hand, and the AXT as the controlling shareholders and other enterprises controlled by them, on the other hand, or adversely affect the Company's asset integrity and independence. The production and R&D field invested with the raised funds belongs to a "new generation of information technology" industry under Paragraph (I), Article 4 of the Tentative Provisions for Application for and Recommendation of Listing of Enterprises on the Sci-tech Innovation Board of the Shanghai Stock Exchange, which has the property of scientific and technological innovation.

3.2

According to the submissions, (1) the Issuer relocated several production lines during the reporting period, for example, the production line for GaAs substrates was relocated from Beijing to Chaoyang City, Liaoning Province and Baoding City, Hebei Province, Nanjing Jinmei relocated its production line to Chaoyang Jinmei, and Beijing Boyu successively relocated its production equipment to Chaoyang Boyu and other factories; (2) according to the industry practice, if material changes happen on the production equipment, production location and production process, product certification is required again, with the cycle taking 3 months to 1 year generally; (3) the fixed assets of the Issuer were comprised, primarily, of production equipment and properties and buildings, and the construction in progress of the Issuer was mainly for production line expansion. At the end of the reporting period, the carrying amount of fixed assets was RMB647,253,800, and the carrying amount of the construction in progress was RMB218,832,100.

The Issuer is required to explain: (1) the reasons for relocation of the Issuer's production lines and the progress, as well as the effects of relocation on

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the Company's production and operation; (2) the production capacity of semiconductor substrate products of different categories and sizes, and the main production links, equipment and resources for limiting production capacity; the matching between the capacity growth and the scale of machinery and equipment as fixed assets during the reporting period; (3) whether the progress of the construction in progress is line with the original plan, if no, explain the reasons for delay of construction progress and whether there are any substantial obstacles.

Reply:

I. Explanations from the Issuer

(I) The reasons for relocation of the Issuer's production lines and the progress, as well as the effects of relocation on the Company's production and operation;

The Issuer relocated several production lines during the reporting period, for example, the production line for GaAs substrates was relocated from Beijing to Chaoyang City, Liaoning Province and Baoding City, Hebei Province, Nanjing Jinmei relocated its production line to Chaoyang Jinmei, and Beijing Boyu successively relocated its production equipment to Chaoyang Boyu and other factories. The specific information is as follows:

Entity prior to relocation of production line

Entity after relocation of production line

Content of relocation

Time of relocation

Beijing Tongmei

Chaoyang Tongmei

Gallium arsenide production line

2019

Baoding Tongmei

Gallium arsenide wafer production line

Nanjing Jinmei

Chaoyang Jinmei

High-purity metal and compound production line

Beijing Boyu

Chaoyang Boyu

Main equipment for producing PBN products

The reasons for relocating the production lines above are as follows:

1. Beijing Tongmei is located in Tongzhou District, Beijing, and Tongzhou District has become the sub center of Beijing. The industrial policies have been adjusted greatly and there are major changes in urban planning, so the room for further growth of the manufacturing industry will be limited. Meanwhile, Beijing

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Boyu received a notice from the Housing Expropriation Office of the People's Government of Tongzhou District, Beijing in the second half of 2018 that the leased plant would be expropriated, so Beijing Boyu can no longer use the relevant leased property.

2. The policies concerning investment promotion in Chaoyang City, Baoding City and other regions, especially in Chaoyang City, Liaoning Province, have advantages. A new semiconductor material industrial park is established in Kazuo Economic Development Zone, Chaoyang City, and Chaoyang City is committed to realizing the industrial chain layout from high-purity materials of compound semiconductor to substrates of compound semiconductor, and strives to build China's "Northern Silicon Valley", which has strong policy advantages and industrial agglomeration effect. Further, the costs for land, plant construction, labor services, water and electricity and other fuel expenses are relatively low in Chaoyang City, Baoding City and other regions, which help the Company reduce costs, increase efficiency and further enhance profitability.

3. The Company's main business focuses on the compound semiconductor substrate materials. Beijing Boyu is mainly engaged in the production and sales of PBN crucibles, and Nanjing Jinmei is mainly engaged in the production and sales of high-purity gallium and other relevant high-purity materials. These products are important consumables and raw materials of the Company's compound semiconductor substrate materials. Therefore, the relocation of the production lines to Chaoyang City, Liaoning Province is conducive to further improving the geographical closeness of the Company's upstream and downstream industrial chains, reducing transportation costs, forming industrial agglomeration and enhancing synergy.

Such relocation started in 2019 and basically completed in the same year, and the customer certification and production were conducted anew in Chaoyang City and Baoding City.

The Company achieved the revenue of RMB490,280,000, RMB462,226,800, RMB583,170,400 and RMB857,345,200, respectively in 2018, 2019, 2020 and 2021. In 2019, as affected by the relocation, the Company's revenue declined slightly, while in 2020 and 2021, the Company's revenue increased by 26.17% and 47.01% year-on-year, respectively, showing a rapid growth trend.

To sum up, the relocation of production lines by the Company is caused by

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changes in Beijing urban planning policies, enterprise cost reduction and efficiency increase, industry agglomeration and other factors. At present, the relocation has completed basically, and the customer certification for new production lines has also completed basically. The Company operation is in good condition, and the revenue during the reporting period showed a rapid growth trend. There is no material adverse impact of the relocation on the Company's future production and operation.

(II) The production capacity of semiconductor substrate products of different categories and sizes, and the main production links, equipment and resources for limiting production capacity; the matching between the capacity growth and the scale of machinery and equipment as fixed assets during the reporting period;

1. The production capacity of semiconductor substrate products of different categories and sizes, and the main production links, equipment and resources for limiting production capacity;

The production of compound semiconductor substrates covers processes including, among others, poly-crystal synthesis (indium phosphide and gallium arsenide), single-crystal growth, cutting, edging, grinding, polishing, cleaning and packaging. The main production links and the relevant main equipment required are as follows:

Step

Main production process

Main equipment required

Poly-crystal synthesis (indium phosphide and gallium arsenide)

Poly-crystal synthesis furnace

Single-crystal growth

Single crystal furnace

Cutting

Cutting machine, engraving and milling machine

Edging

Edge trimming machine

Grinding

Grinding machine

Polishing

Polishing machine and spinning machine

Cleaning

Cleaner, drying machine and acid mist tower

Packaging

Packaging machine, detector and marking machine

In the back-end process of single crystal ingots (generated by single crystal production process) as one of the above-mentioned production processes, e.g., cutting, grinding and polishing, the relevant equipment may be commonly used, but it's

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necessary to replace the corresponding suction cups and other molds for products of different sizes and carry out process commissioning. Therefore, the Company's production capacity is flexible to a certain degree, which depends on the relevant equipment and processes in the single-crystal growth link of the front-end process.

The main equipment used in the single-crystal growth link is the single crystal furnace. The crystal growth needs a closed environment, and the supporting equipment such as the single crystal furnace and controller needs to occupy relatively large area of production premises, so the category and number of the single crystal furnace are the main factors that determine the bottleneck capacity and thus affect the overall capacity of the Company.

The single crystal furnace of the Company is mainly divided into the small-size single crystal furnace (2, 3 and 4 inches) and the large-size single crystal furnace (6 and 8 inches), both of which have the ability to produce smaller-size single crystals in a compatible manner, but the furnace core needs to be replaced and the relevant process needs to be adjusted. At the end of each of reporting periods, the production capacity of the Company's semiconductor substrates of different categories and similar sizes is as follows:

Category of semiconductor substrates

Size

Production capacity (10,000 pieces)

2021

2020

2019

InP substrate

(converted into 2 inches)

4 inches or below

40.60

30.70

26.70

6 inches

0.18

-

-

Total

40.78

30.70

26.70

GaAs substrate

(converted into 2 inches)

4 inches or below

115.00

97.25

82.50

6 inches or above

198.64

135.00

108.00

Total

313.64

232.25

190.50

Germanium substrate materials

(converted into 2 inches)

4 inches or below

121.70

100.80

113.00

6 inches

21.60

21.20

9.00

Total

143.30

122.00

122.00

2. The matching between the capacity growth and the scale of machinery and equipment as fixed assets during the reporting period;

During the reporting period, the production capacity (converted into 2 inches) of the Company's small-size semiconductor substrates (2, 3 and 4 inches) and large-size semiconductor substrates (6 and 8 inches) for various years, and the specific

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information regarding the size of single crystal furnaces in the machinery and equipment as fixed assets are as follows:

Category

Size

Item

2021

2020

2019

InP substrate

Small size

Production capacity (piece)

406,000

307,000

267,000

Index of number of single crystal furnaces

1,544

1,160

1,000

Production capacity index per set of equipment

263

265

267

Large size

Production capacity (piece)

1,800

-

-

Index of number of single crystal furnaces

1,000

-

-

Production capacity index per set of equipment

1.80

-

-

GaAs substrate

Small size

Production capacity (piece)

1,150,000

972,500

825,000

Index of number of single crystal furnaces

1,444

1,190

1,000

Production capacity index per set of equipment

796

817

825

Large size

Production capacity (piece)

1,986,400

1,350,000

1,080,000

Index of number of single crystal furnaces

1,866

1,255

1,000

Production capacity index per set of equipment

1,065

1,076

1,080

Germanium substrate

Small size

Production capacity (piece)

1,217,000

1,008,000

1,130,000

Index of number of single crystal furnaces

1,071

893

1,000

Production capacity index per set of equipment

1,136

1,129

1,130

Large size

Production capacity (piece)

216,000

210,000

90,000

Index of number of single crystal furnaces

2,143

2,143

1,000

Production capacity index per set of equipment

101

98

90

Note: The index of number of single crystal furnaces is converted based on 2019. Production capacity index per set of equipment = production capacity / index of number of single crystal furnaces.

During the reporting period, the growth in the index of number of single crystal furnaces was basically in line with the growth trend of the Company's overall production capacity and growth rate. Regarding product category, the substrate products of different categories have a big difference in the production capacity index per set of equipment as affected by production characteristics, differences in single crystal furnaces used, different crystal growth processes and other factors;

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(1) InP substrates

During the reporting period, the production capacity index per set of equipment for small-size InP substrates was relatively stable, and the overall production capacity increased with the rise in the index of number of single crystal furnaces. In 2021, with the advancement of research and development of the Company's 6-inch indium phosphide products, the Company added 6-inch InP single crystal furnaces. However, the production capacity index was relatively low because large-size single crystal growth had a relatively high difficulty and 6-inch crystal growth process had not yet completely matured.

(2) Gallium arsenide and germanium substrates

During the reporting period, the average production capacity of gallium arsenide and germanium substrates was relatively stable as a whole. Among them, the production capacity index per set of equipment for large-size germanium substrates in 2019 was relatively low. During the reporting period, the Company applied the silicon-boron-gallium co-doping technology to the production of large-size germanium crystals, gradually improving the axial doping uniformity of germanium crystals, increasing the unit production capacity of large-size germanium substrates, and improving the production capacity index per set of equipment year by year.

To sum up, during the reporting period, the increase in the Company's production capacity of semiconductor substrate materials of various categories was basically in line with the index scale of number of single crystal furnaces.

(III) Whether the progress of the construction in progress is line with the original plan, if no, explain the reasons for delay of construction progress and whether there are any substantial obstacles.

At the end of 2021, the carrying amount of the Company's construction in progress was RMB218,832,100, and the progress thereof is as follows:

Item

Intended purpose

Budget

Balance at the end of 2021

Amount already invested

Construction cycle

Estimated completion date

Originally planned completion date

Construction progress at the end of 2021

InP crystal growth and wafer

Expansion of 2~4-inch InP crystal and substrate

6,968.14

781.85

5,488.80

51 months

2022.12

2022.12

78.77%

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processing and production expansion project

production workshop and supporting facilities

Single crystal wafer and related semiconductor material production project

2~4-inch GaAs substrate production workshop and supporting facilities

24,232.45

996.97

17,546.72

48 months

2022.5

2021.12

72.41%

PBN product project II

Production workshop and supporting facilities of Tianjin Boyu for PBN crucible and other materials

7,233.00

909.11

4,835.26

48 months

2022.6

2022.5

66.85%

GaAs crystal semiconductor materials production project

2~6-inch GaAs crystal production workshop and supporting facilities

19,263.18

5,023.19

15,410.54

48 months

2022.6

2022.6

80.00%

InP single crystal wafer production project

2~4-inch InP substrate production workshop and supporting facilities

3,475.71

2,264.51

2,992.93

60 months

2022.12

2022.9

86.11%

High-purity semiconductor preliminary materials production project

Production workshop and supporting facilities for high-purity gallium and other materials

7,692.70

3,018.03

7,138.06

36 months

2022.5

2021.9

92.79%

High-purity arsenic project

High-purity arsenic production workshop, supporting facilities and administrative building

9,242.83

5,428.89

5,429.24

15 months

2022.10

2022.10

58.74%

Others

-

-

3,460.66

-

-

-

-

Total

-

-

21,883.21

58,841.55

-

-

-

It can be seen that the overall progress of the construction in progress is basically in line with the original schedule, and the slight delay of some projects is mainly caused by changes in some designs and the COVID-19 epidemic. Specifically:

1. For the single crystal wafer and related semiconductor material production project, it was originally planned that the construction shall be completed in December 2021; it's expected that this project may be completed in May 2022. The main reason of the delay is that during the preliminary completion inspection and acceptance of this project in 2021 by relevant authorities, the experts raised rectification comments, which lead to certain postponement of subsequent inspection and acceptance. By now, the inspection and acceptance for this project has been completed.

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2. For the InP single crystal wafer production project, it was originally planned that the construction shall be completed in September 2022; it's expected that this project may be completed in December 2022. The main reasons of the delay are the change in the designing due to adjustment of the construction process, and the delay in the supply of light-gauge steel materials, hydrogen and oxygen manifolds, elevator equipment, etc. by relevant suppliers due to the epidemic.

3. For the high-purity semiconductor preliminary materials production project, it was originally planned that the construction shall be completed in September 2021; it's expected that this project may be completed in May 2022. The main reason is that, given the many outsourced customized products for this project, relevant manufacturers failed to deliver such products as scheduled due to the epidemic.By now, such equipment has been successively delivered and installed, and the construction of this project is basically completed.

Since the filing and environment assessment formalities for all the projects above have been completed, there is no substantial obstacle to subsequent construction and relevant progress.

Q4. Sales Revenue and Gross Profit Margin

4.1

According to the Prospectus and the replies to the first round of inquiries, (1) the Issuer provided AXT with processing supplied materials, with the revenue recognized using the net method. Since August 2018, the above-mentioned business has changed from entrusted processing to general trade, with the revenue recognized using the gross method; (2) the intermediaries verified the operating revenue during the reporting period by means of seeking confirmation, video or field interview, and sampling inspection, but failed to distinguish the domestic revenue from overseas revenue, and specify the verification procedures and conclusion regarding the sales revenue from AXT and AXT-Tongmei.

The Issuer is required to explain: the changes in business cooperation modes and the specific situations between the Company and AXT around August 2018, the basis for the transfer of the nature of business from entrusted processing to

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general trade, and the matter whether the recognition of revenue by using the gross method during the reporting period complies with the Accounting Standard for Business Enterprises.

The Sponsor and the Reporting Accountant are required to explain: (1) the verification results of seeking confirmation and interview or video inquiry by domestic and overseas sales revenue; (2) the results of interview or video inquiry regarding the overseas sales revenue, the verification of identity of the interviewees during video inquiry, video inquiry contents and confirmation of subsequent alternative procedures, the additional measures taken in view of the limitations of video interview, and whether the relevant external evidence has been obtained; (3) the adequacy of the proportion of verification of substantive procedures such as the test of details; (4) the verification method, proportion and conclusion of terminal sales with sales revenue through AXT, and whether a third-party basis has been obtained; (5) the verification method, proportion and conclusion of terminal sales with sales revenue through AXT-Tongmei, and whether a third-party basis has been obtained.

Reply:

I. Explanations from the Issuer

(I) The changes in business cooperation modes and specific situations between the Company and AXT around August 2018

At the beginning of its establishment, the Company had only a few domestic qualified suppliers, and mainly focused on overseas customers. Therefore, for a long period of time, the Company had mainly provided its controlling shareholder AXT with the processing and production services of crystals and wafers, and also signed the Sales Contract for Processing with Supplied Materials with AXT. With the development of domestic semiconductor industry, the Company has attracted more domestic customers, and with the gradual improvement of the production level of domestic raw material suppliers, the proportion of domestic procurement of raw materials has been increasing. Since August 2018, the Company has adjusted the

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trading mode with AXT, and turned it into the general trade mode so that the processing with supplied materials had been basically stopped, and signed a General Trade Sales Contract with AXT. The changes in the cooperation modes and specific situations between the Company and AXT around August 2018 are shown below:

Item

Before August 2018

After August 2018

Type of sales

Processing with supplied materials

General trade

Business mode

AXT, as the entity making sales and purchasing raw materials overseas, provided the Company with main raw materials for the production of crystals and wafers, took delivery of semiconductor substrate products from the Company after processing by the Company, and sold them to overseas customers.

The Issuer is required to purchase the main raw materials and auxiliary materials for production from the suppliers such as AXT and other third-party suppliers, determines the quality, specifications and other items of the raw materials, and then sells the products to AXT. Specifically, the Company independently arranges the purchase of raw materials from AXT, without a physical correspondence with product sales; price of raw materials purchased by the Company from AXT refers to the price of materials purchased by AXT from its suppliers, without an unfair transaction price.

Sources of main raw materials

Raw materials are mainly supplied by AXT or purchased from suppliers designated by AXT, and the entrusted processing technical standards and quality requirements are formulated by AXT.

According to the agreement on the product quantity and standard between the Issuer and AXT, the suppliers of raw materials, and their specifications are independently determined by the Issuer; AXT does not specify the specific suppliers, nor restrict the price, quantity or production of the raw materials purchased by the Issuer from the suppliers.

Whether the the Issuer bears inventory risks in relation to the goods before or after the transfer thereof

For the raw materials supplied by AXT, the ownership and control of their inventories remain with AXT, with the Issuer only bearing the risk of damage to and loss of such inventories caused by improper storage.

For the purchased raw materials, the ownership and control of their inventories remain with the Issuer bearing the risk of damage to and loss of such inventories and price fluctuation. In addition, the Issuer should track the whole process of product quality control, and take charge of the arrangement of shipment and export of products.

Whether the the Issuer has the right to independently

The price of the products does not include the cost of the raw materials supplied by AXT, but includes the

With the independent pricing power, covering self-purchased main and auxiliary materials, labor, depreciation, amortization, etc. The purchase price of raw materials and the sales

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decide on the price of the traded goods

processing cost and other costs (the costs of self-purchased main and auxiliary materials, labor, depreciation, amortization, etc.); the the Issuer has no full right to decide on the sales price of the final products.

price of finished products are negotiated by the Issuer with the suppliers and AXT respectively in accordance with the market business principles; the Issuer has the right to independently decide on the sales price of the final products.

(II) The basis for the transfer of the nature of business from entrusted processing to general trade, and the matter whether the recognition of revenue by using the gross method during the reporting period complies with the Accounting Standard for Business Enterprises

1. The basis for the transfer of the nature of business from entrusted processing to general trade

The basis for the transfer of the nature of business from entrusted processing to general trade is that when the Company sells GaAs substrate, InP substrate, and germanium substrate to AXT, such goods are controlled by the Company prior to the transfer to AXT, and the Company dominates the use of the goods and gains almost all economic benefits therefrom, assumes the primary responsibility for customers, bears the inventory risks and has the pricing power.

In addition, under the mode of processing trade, the Company shall handle the Manual for Supplied Material Processing with the Customs for the quantity of imported materials and corresponding exported finished products. The Company shall submit the case closing application to the customs and after verification and review, write off the Customs Manual and issues the Case Closing Notice after executing the Manual. The Company shall no longer apply for the new Customs Manual for Supplied Material Processing after the business mode is changed to general trade.

2. Whether the recognition of revenue by using the gross method during the reporting period complies with the Accounting Standard for Business Enterprises

During the reporting period, the Company implemented the Accounting Standard for Business Enterprises No. 14 - Revenue (Cai Kuai [2006] No. 3) issued by the Ministry of Finance in 2006 from January 1, 2019 to December 31, 2019, and Accounting Standard for Business Enterprises No. 14 - Revenue (Cai Kuai [2017] No. 22) revised by the Ministry of Finance in 2017 after January 1, 2020. According to the

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provisions in the old and new revenue standards and combining with the trade between the Company and AXT, the Company was the principal responsible person for the trade with AXT during the reporting period, therefore the operating revenue was calculated by the gross method, which complies with the Accounting Standard for Business Enterprises. Relevant standards and specific analysis are shown below:

(1) Relevant standards

1) Pursuant to Article 34 of the Accounting Standards for Business Enterprises No. 14 - Revenue (2017 Revision), an enterprise shall judge whether it acts as the principal responsible person or an agent when conducting transactions based on the fact whether it has the right to control the goods before transferring them to the customer. If the enterprise is able to control the goods before transferring them to the customer, the enterprise acts as the principal responsible person and shall recognize revenue according to the total consideration received or receivable; otherwise, the enterprise acts as an agent and shall recognize revenue according to the amount of expected commission or handling charge to which the enterprise is entitled, and such an amount shall be determined according to the total consideration received or receivable deducted by the price to be paid to other parties, or according to a specified commission amount or proportion, among others.

The cases that the enterprise is able to control the goods before transferring them to the customer include: ① the enterprise transfers the control of commodities or other assets to the customer after obtaining the control right from a third party; ② the enterprise can guide a third party to provide services for customers on behalf of the enterprise; ③ after obtaining the control over commodities from a third party, the enterprise integrates such commodities with other products into a portfolio and transfers it to the customer by providing significant services.

For determining whether it has the right to control the goods before transferring them to the customer, the enterprise should not limit itself to the legal form under the contract, but take into account all the relevant facts and circumstances, including: ① the enterprise bears the main responsibility for transferring goods to the customers; ② the enterprise bears the inventory risk before or after the transfer; ③ the enterprise has the right to independently determine the price of the goods; ④ other relevant facts and circumstances.

2) The principles of judgment of the principal responsible person or agent in the

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Accounting Standards for Business Enterprises No. 14 - Revenue (Application Guide 2018)

When determining the principal responsible person or agent, the enterprise shall determine its role of a principal responsible person or agent in a certain transaction according to the nature of its undertaking, namely the nature of performance obligation. If the enterprise undertakes to provide specific goods to the customer by itself, it is a principal responsible person; and if it undertakes to arrange others to provide such goods, namely it provides assistance for others, the enterprise can be deemed as an agent.

The enterprise shall first identify the specific goods provided for the customers, and then evaluate whether it controls the goods prior to the transfer to the customer. If the enterprise is able to control the goods prior to the transfer, it is a principal responsible person; on the contrary, if it fails to control prior to the transfer, it is an agent.

3) Guidance on recognition of revenue according to gross or net value in the Guidelines for the Application of Regulatory Rules - Accounting No. 1

According to the relevant provisions in the revenue standard, when the sales of goods or the rendering of services involves other parties, the enterprise shall determine whether it is a principal responsible person or an agent according to the terms of the contract and the nature of transaction. If an enterprise controls the specific goods or service before transferring the same to the customer, namely, the enterprise is able to dominate the use of such goods or service, and obtain almost all the economic benefits therefrom, it is the principal responsible person; otherwise it is an agent. When determining whether it is a principal responsible person, the enterprise shall comprehensively consider whether it bears the main liability to the customer, whether it bears the inventory risk, whether it has the pricing power, and other relevant facts and circumstances. The enterprise shall determine the transaction price according to the amount of consideration collected from its customer, and measure the revenue. The principal responsible person shall recognize the revenue according to the total consideration received or receivable and the agent shall do so according to the commission or handling charge (net) that is expected to be collected.

(2) Specific analysis

According to the above accounting standard, when the Company purchases raw

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materials from AXT and sells the products such as GaAs substrate, InP substrate, and germanium substrate to AXT, such products are controlled by the Company prior to the transfer to AXT, therefore the Company is the principal responsible person, which complies with the requirements for the recognition of revenue by using the gross method; the specific analysis is shown below:

1) The Company is able to control the goods prior to the transfer to the customer

① The Company has obtained the right to control the raw materials purchased from AXT

When the Company purchases the relevant raw materials from AXT, it can arrange the production of GaAs substrate, InP substrate, and germanium substrate for other customers according to the order, and they can also be used for producing AXT-related products, rather than products specifically sold to AXT.

Therefore, the Company can guide the use of raw materials purchased from AXT, and obtain the economic benefits from the sales of the products manufactured from the above raw materials, namely, the Company has obtained the right to control the above raw materials.

② The Company produces substrate products with the raw materials purchased from AXT and the main raw materials, for selling to AXT

The raw materials purchased from AXT mainly include high-purity arsenic, crucible materials, germanium ingot, cutting, grinding and polishing materials, and packaging materials; the products sold to AXT mainly include GaAs substrate, InP substrate, and germanium substrate. After purchasing raw materials from AXT, the Company shall match them with other main raw materials, to produce GaAs substrate, InP substrate, and germanium substrate through complex production processes including poly-crystal synthesis, crystal growth, cutting, grinding, polishing, cleaning and testing, and finally sell such products to AXT. Therefore, the element composition of relevant materials and the use of products have significantly changed after production.

In summary, after obtaining the right to control the raw materials purchased from AXT, the Company produces GaAs substrate, InP substrate, and germanium substrate combined with other main raw materials, for selling to AXT. Therefore, the Company is able to control the goods prior to the transfer to AXT.

2) The Company is primarily responsible for transferring goods to the customer

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The products provided by the Company shall comply with the agreed quality standard. If the customer finds that any product is unqualified in the production process, the Company shall replace or replenish the product and bear the expenses incurred; the Company shall also provide quality assurance and after-sales service. Therefore, the Company serves as the principal responsible person in the transaction with AXT, and assumes the primary responsibility for the transfer of goods to AXT.

3) The Company bears the risks of inventory

The risks of inventory mainly include the risk of fair value change, the risk of sluggish overstock, and the risk of damage and loss. The Company undertakes such risks of inventory, and the specific analysis is shown below:

① The relevant risks after delivery of the raw materials/products are transferred to the Company/AXT;

② When the Company and AXT sign a purchase order of raw materials, it is uncertain whether the products manufactured from the raw materials are sold for getting return; the Company bears the risk of sluggish overstock of the raw materials;

③ The price of the raw materials purchased by the Company from AXT is determined based on the price of the purchase by AXT from its suppliers; the Company bears the risk of change in the fair value of raw materials;

④ The Company arranges the use of raw materials purchased from AXT, and there is no physical correspondence with the sales of the products; the Company bears the risk of change in the fair value of the finished products;

Therefore, the Company bears the risks of inventory caused by the purchase of raw materials from AXT and the sales of the products to AXT.

4) The Company has the right to determine the sales price

The Company sells products to AXT on the price determined by the cost-plus method. The discrepancy between the sales price of the products sold to AXT and the average sales price is mainly reflected in the different performance requirements for substrate products, and it is determined by the product dimensions, technical parameters, thickness and angle of the edge. In general, the prices of GaAs substrate, InP substrate, and germanium substrate sold by the Company to AXT are reasonable.

Therefore, the Company has the full right to determine the sales price.

5) The Company undertakes the credit risk of payment regarding the sales to AXT

8-1-140

① There is a certain credit period for settlement between the Company and AXT.

② The procurement and sales between the Company and AXT are separately settled, without the case of discrepancy settlement.

Therefore, the Company undertakes the credit risk of payment regarding the sales to AXT.

In summary, as for the sales of GaAs substrate, InP substrate, and germanium substrate from the Company to AXT in the mode of general trade, the goods are controlled by the Company prior to the transfer to AXT, and the Company dominates the use of the goods and gains almost all economic benefits therefrom, assumes the primary responsibility for customers, bears the inventory risks and has the pricing power, which complies with the relevant provisions on the principal responsible person. According to the accounting standard mentioned above, the principal responsible person shall recognize the revenue based on the total consideration received or receivable during the reporting period, which is consistent with the sales revenue of GaAs substrate, InP substrate, and germanium substrate through general trade recognized by the Company by using the gross method.

(III) Concerning sales mode of the Company

The Company sells products mainly by way of direct sale; of which, its domestic sale mainly adopts direct sale mode, and overseas sale mainly adopts the modes of direct sale, agents, traders and consignment. The specific circumstances of overseasl sale are as follows:

In RMB0'000

Sales mode

2021

2020

2019

Amount

Proportion

Amount

Proportion

Amount

Proportion

Direct sale

16,193.18

38.68%

30,474.37

90.67%

24,050.97

85.79%

Agents

14,563.58

34.79%

3,135.30

9.33%

3,983.49

14.21%

Consignment

7,219.57

17.25%

-

-

-

-

Trader

3,884.27

9.28%

-

-

-

-

Total

41,860.60

100.00%

33,609.67

100.00%

28,034.46

100.00%

1. Aforesaid sales modes comply with industrial common practice

According to information disclosed by listed companies in the semiconductor industry, the industry usually adopts similar sales mode; the

8-1-141

specific circumstances are as follows:

Company

Sales mode

Introduction

Grinm Advanced Materials

1. Direct sale

2. Agency

Its subsidiary Grirem Optoelectronics adopts direct sale and agency: domestic sale adopts direct sale channels, and overseas sale adopts agency mode.

Its subsidiary Grirem Advanced Materials adopts direct sale for its domestic sale: rare earth and alloy products, accounting for about 90% of its domestic sales amount, adopt direct sale, and phosphor products, accounting for about 10% of its domestic sales amount, adopt agency sale. Its overseas sale mainly adopts agency sale.

Its subsidiary GRIKIN adopts direct sale or agency based on different products and customers. Direct sale is usually adopted for domestic sale, and agency mode is usually adopted for international market, exploiting market through agents.

KFMI

1. Direct sale

2. Agency

Its sales modes include direct sale and agency by trading firm. Under direct sale, after the company and its products passing customer certification, customers will issue monthly or quarterly orders to the company, and the company will deliver goods to the customers according to agreed time limit. Agency by trading firm means the Japanese end customers of the company purchase products from the company through famous trading firms such as comprehensive trading firm under Mitsubishi Chemical.

Nata Opto-electronic

1. Direct sale

2. Consignment

3. Distribution

Its sales modes include direct sale and distribution. For domestic customers, the company mainly adopts direct sale mode, that is, products are sold to end customers directly, including partial sale made by consignment. Its overseas sale usually adopts distribution mode based on the agency (distribution) agreements signed with customers and common practices.

Thinkon Semiconductor

1. Direct sale

2. Agency

Its main sales mode is direct sale; its main customers include Mitsubishi Materials, SK Chemicals, CoorsTek, Hana, Silfex, Trinity, Wakatec and WDX; except for Trinity, which is the agent designated by Mitsubishi Materials, Mitsubishi Materials, SK Chemicals, Hana, CoorsTek, Silfex, Wakatec and WDX are direct downstream customers of the company, and all products of the company realize final sale.

MTCN

1. Direct sale 2. Distribution

It adopts the sales mode of "focusing on direct sale and supplemented by distribution". Products are included in qualified supplier systems of customers after sending samples for trial use, small batch stability argumentation, production site assessment and enlarged purchase from qualified suppliers. Afterwards, mass production starts and products are sold to customers.

Yoke

1. Direct sale

It adopts direct sale and distribution, and certain subsidiaries may sell

8-1-142

Technology

2. Distribution 3. Agency

by agency occasionally. After customers issuing orders or purchase contracts, the company will arrange procurement, production and delivery based on customers' requirements, and customers will pay after receiving and inspecting goods. Its subsidiary Chengdu Kemeite also sells by agency, that is, products are firstly sold to agents, which sell to end customers in the brand of Kemeite.

GrandiT

1. Direct sale

2. Consignment

3. Distribution

It mainly adopts the direct sale mode (selling to customers directly), and sells through distributors occasionally. The direct sale mode can be further divided into consignment mode and non-consignment mode; the latter includes common direct sale and agency.

National Silicon Industry Group

1. Direct sale

2. Agency

All its products are sold through direct sale. Since high barrier exists in semiconductor wafer industry, with concentrated manufacturers and downstream customers, the company usually acquires orders through actively searching potential customers and negotiating with customers directly. In addition, the company also contacts small and medium-size customers through some agents.

Note: the company data in the industry originate from annual reports or prospectus.

The sales mode of the Issuer is adopted based on its business characteristics, customers' needs and regional trade custom, similar with other listed companies in the semiconductor industry. The aforesaid sales mode comply with industrial common practice and are commercially reasonable.

2. Main customers

(1) Domestic direct sale

During the reporting period, the type and sales amounts of products sold to top five customers of the Company under domestic direct sale are as follows:

In RMB0'000

Year

No.

Customer

Revenue

Main products sold

2021

1

Nanchang Kingsoon

3,487.18

germanium substrate

2

Epi Solution Technology Co., Ltd.

3,137.32

Indium Phosphide, GaAs substrate

3

Everbright Photonics

2,789.80

Indium Phosphide, GaAs substrate

4

Customer A

2,751.24

Indium Phosphide substrate

5

Customer B

2,663.40

Indium Phosphide, gallium arsenide, germanium substrate; High Purity Gallium

8-1-143

Total

14,828.94

-

2020

1

Nanchang Kingsoon

3,027.45

germanium substrate

2

Customer B

2,938.71

Indium Phosphide, gallium arsenide, germanium substrate

3

Epi Solution Technology Co., Ltd.

1,981.64

Indium Phosphide, GaAs substrate

4

Everbright Photonics

1,620.88

Indium Phosphide, GaAs substrate

5

Customer A

1,308.82

Indium Phosphide substrate

Total

10,877.50

-

2019

1

Customer A

4,755.70

Indium Phosphide, GaAs substrate

2

Nanchang Kingsoon

2,280.93

germanium substrate

3

Epi Solution Technology Co., Ltd.

1,825.25

Indium Phosphide, GaAs substrate

4

Customer B

1,681.73

Indium Phosphide, gallium arsenide, germanium substrate;High Purity Gallium

5

Yunnan Germanium

1,258.46

Indium Phosphide polycrystal; PBN crucible; High Purity Gallium

Total

11,802.07

-

The basic information of aforesaid customers is as follows:

No.

Customer

Time of incorporation

Registered capitals

Introduction to the enterprise and its status in the industry

Controlling shareholder /Actual controller

Affiliated with the Issuer?

1

Nanchang Kingsoon

2015

RMB 114,015,000

It is engaged in R&D, production and sale of quaternary LED epitaxial wafers, chips and high-efficiency gallium arsenide solar cell epitaxial wafers. The germanium substrates purchased by Nanchang Kingsoon from the Company are processed into epitaxial wafers, which are applied to solar cells used in more than 50% of satellite

Xiangwu Wang

No

8-1-144

spacecrafts in China, and relevant products have been used in aerospace equipment such as Chang'e 4 and Tianwen-1.

2

Epi Solution Technology Co., Ltd.

2011

RMB 60,000,000

As a leading enterprise in the gallium arsenide MBE epitaxy field in China, EPI supplies high-quality epitaxial wafers with MBE to global markets of compound semiconductor.

Dima Technology

No

3

Everbright Photonics

2012

RMB 101,700,000

As a manufacturer of core components in laser industry in China such as semiconductor laser chips, devices and modules, Everbright Photonics has the largest market share in China in the field of high power semiconductor laser chip.

No

No

4

Yunnan Germanium

1998

RMB 653,120,000

Germanium products and other metallurgy products; production, smelting and marketing of mineral products. As a famous company listed in China, it has a complete industrial chain in the germanium industry, and rich and excellent germanium ore resources, ranking No. 1 in China in terms of sales volume of germanium products; it is the largest manufacturer and supplier of germanium products in China.

Kaihui Wu, Wendong Bao

No

(2) Overseas direct sale (excluding traders and consignment customers)

During the reporting period, the type and sales amounts of products sold to top five customers of the Company under overseas direct sale are as follows:

In RMB0'000

Year

No.

Customer

Revenue

Main products sold

2021

1

AXT

5,979.70

Indium Phosphide, gallium arsenide, germanium

8-1-145

substrate

2

IQE

3,060.02

Indium Phosphide, GaAs substrate

3

Customer C

1,921.83

Indium Phosphide substrate

4

PROWTECH, INC.

863.84

GaAs substrate, polycrystal and crystal bar

5

SUMIDEN SHOJI CO.,LTD

853.94

PBN crucible

Total

12,679.33

-

2020

1

AXT

28,196.51

Indium Phosphide, gallium arsenide, germanium substrate

2

SUMIDEN SHOJI CO.,LTD

1,233.81

PBN crucible

3

Freiberger

415.87

PBN crucible

4

CVT GMBH & CO. KG

214.22

PBN crucible, PBN plate

5

Veeco Instruments Inc.

188.70

PBN crucible, PBN plate

Total

30,249.11

-

2019

1

AXT

22,144.98

Indium Phosphide, gallium arsenide, germanium substrate

2

SUMIDEN SHOJI CO.,LTD

1,304.47

PBN crucible

3

Freiberger

241.32

PBN crucible

4

Veeco Instruments Inc.

171.91

PBN crucible, PBN plate

5

CVT GMBH & CO. KG

102.76

PBN plate

Total

23,965.44

-

Prior to March 2021, as arranged by the Group, AXT had been selling semiconductor substrate materials to overseas customers as the principal part of overseas sale. Therefore, in years of 2019 and 2020, except for AXT, other major customers of the Company under overseas direct sale purchased PBN crucible, PBN plate and other products from Beijing Boyu.

After looking through AXT, during the reporting period, the type and sales amounts of products sold to top five customers of the Company under overseas direct sale are as follows:

In RMB0'000

Year

No.

Customer

Revenue

Main products sold

8-1-146

2021

1

IQE

3,751.44

Indium Phosphide, GaAs substrate

2

Customer C

2,281.34

Indium Phosphide substrate

3

PROWTECH, INC.

863.84

GaAs substrate, polycrystal and crystal bar

4

SUMIDEN SHOJI CO.,LTD

853.94

PBN crucible

5

VISHAY SEMICONDUCTOR GmbH

771.44

GaAs substrate

Total

8,522.00

-

2020

1

IQE

1,634.70

Indium Phosphide, GaAs substrate

2

SUMIDEN SHOJI CO.,LTD

1,233.81

PBN crucible

3

Customer C

813.45

Indium Phosphide substrate

4

AZUR SPACE SOLAR POWER GMBH

687.65

germanium substrate

5

Freiberger

415.87

PBN crucible

Total

4,785.48

-

2019

1

IQE

1,678.48

Indium Phosphide, GaAs substrate

2

AZUR SPACE SOLAR POWER GMBH

1,471.69

germanium substrate

3

SUMIDEN SHOJI CO.,LTD

1,304.47

PBN crucible

4

VISHAY SEMICONDUCTOR GmbH

385.58

GaAs substrate

5

SHIN-ETSU HANDOUTAI CO., LTD.

289.11

GaAs substrate

Total

5,129.33

-

The basic information of aforesaid customers is as follows:

No.

Customer

Time of incorporation

Registered capitals

Introduction to the enterprise and its status in the industry

Controlling shareholder /Actual controller

Affiliated with the Issuer?

1

AXT

1986

USD 42,700

Listed in NASDAQ (AXTI), controlling shareholder of the Issuer, not dealing in specific business.

No

Yes

2

Mo Sangyo Co, Ltd.

1998

JPY 10 million

Japan trader of semiconductor materials, downstream customers are famous enterprises such as

Yukitoshi Ozaki

No

8-1-147

Sony. Renowned trader in Japan, serving as trader for several semiconductor enterprises.

3

IQE

1988

Not disclosed

Listed in London Stock Exchange (IQE.L), III-V epitaxy manufacturer, leading compound semiconductor wafer designer and manufacturer in the world. The second largest III-V compound semiconductor epitaxy manufacturer in the world.

Invesco

No

4

PROWTECH, INC.

2004

-

A South Korea manufacturer dealing in gallium arsenide materials and infrared LED epitaxial wafer

-

No

5

SUMIDEN SHOJI CO.,LTD

1936

JPY 930 million

A company under Sumitomo (listed in Japan Exchange Group (5802.T)), which is famous communication provider and manufacturer in the world.

Sumitomo Electric Industries, Ltd

No

6

Freiberger

1949

EUR 512,000

One of major competitors of the Issuer, dealing in GaAs substrate. Renowned material enterprise in Germany, with largest market share of GaAs substrate in the world in 2019

Federmann Enterprises Ltd

No

7

CVT GMBH & CO. KG

1980

EUR 140,000

High performance ceramics manufacturer in Germany

CVT

Verwaltungs

GmbH

No

8

Veeco Instruments Inc.

1945

Not disclosed

Listed in NASDAQ (VECO), leading precision measuring instruments and process equipment manufacturer in the world, and globally leading MOCVD enterprise

No

No

9

VISHAY SEMICONDUCTOR

1998

EUR 7.15 million

Vishay offers a variety of products, from discrete

Vishay Intertechnology,

No

8-1-148

GmbH

semiconductors to passive components, from the smallest diodes to the most powerful capacitors, which serve as the basis of modern technology and life of the people.

Inc

10

AZUR SPACE SOLAR POWER GMBH

1964

EUR 100,000

A German enterprise, developing and producing solar cells applied to space PV and ground CPV.

-

No

11

SHIN-ETSU HANDOUTAI CO., LTD.

1967

-

A branch of ShinEtsu Group (Japan), engaged in production and sale of semiconductor wafers, with the largest market share of semiconductor wafer in the world.

Shin-Etsu Group

No

(3) Overseas agency

During the reporting period, the type and sales amounts of products sold to top five customers of the Company under overseas agency are as follows:

In RMB0'000

Year

No.

Customer

Revenue

Main products sold

2021

1

LandMark Optoelectronics

4,731.71

Indium Phosphide substrate

2

VPEC

3,100.29

Indium Phosphide, GaAs substrate

3

LOUWERSHANIQUE

1,775.26

PBN plate

4

WIN Semiconductors

1,090.65

Indium Phosphide, GaAs substrate

5

PROWTECH, INC.

863.84

GaAs substrate, gallium arsenide polycrystal, gallium arsenide crystal bar

Total

11,561.75

-

2020

1

LOUWERSHANIQUE

1,758.69

PBN plate

2

ALPHA PLUS

1,294.25

PBN crucible, PBN plate

3

SFA ENGINEERING CORPORATION

33.73

PBN crucible

4

SVMTECH CO., LTD.

13.97

PBN plate

5

ZENITH TECH

12.07

PBN plate

8-1-149

Total

3,112.71

-

2019

1

ALPHA PLUS

2,277.28

PBN crucible, PBN plate

2

LOUWERSHANIQUE

1,445.72

PBN PLATE

3

SVMTECH CO., LTD.

114.79

PBN PLATE

4

SFA ENGINEERING CORPORATION

93.56

PBN crucible, PBN plate

5

KPM

10.39

PBN crucible, PBN plate

Total

3,941.74

-

Prior to March 2021, as arranged by the Group, AXT had been selling semiconductor substrate materials to overseas customers as the principal part of overseas sale. Since March 2021, the Issuer has been selling products to customers in Taiwan and South Korea such as LandMark Optoelectronics, and has signed agency agreements with agents. Information about aforesaid customers is as follows:

No.

Customer

Time of incorporation

Registered capitals

Profile

Controlling shareholder /Actual controller

Whether affiliated with the Issuer

1

LandMark Optoelectronics

1997

NTD 913,692,000

Listed in Taiwan, China (3081.TWO), a global III-V semiconductor material epitaxy enterprise, and the largest III-V compound semiconductor epitaxy manufacturer in the world

Jingyi Zhang

No

2

VPEC

1996

NTD 2600 million

Listed in Taiwan, China (2455.TW), a global III-V semiconductor material epitaxy enterprise, Top 3 gallium arsenide foundry in the world

Chen

No

3

LOUWERSHANIQUE

2012

Not disclosed

Formed after combination of Louwers Glastechniek (established in 1961) and Pulles & Hanique (established in 1950) in 2012, headquartered in Netherlands, it is a precision glass and ceramic producer, supplying parts

Muon. B.V.

No

8-1-150

and components of Mask Aligner to ASML

4

WIN Semiconductors

1999

NTD 1,000,000

An OEM of global III-V semiconductor material, listed in Taiwan, China (3105.TWO), the largest gallium arsenide foundry in the world

Tien Ho Industrial Co., Ltd.

No

5

PROWTECH, INC.

2004

Not disclosed

A South Korea manufacturer dealing in gallium arsenide materials and infrared LED epitaxial wafer

-

No

5

ALPHA PLUS

2000

WON 10,000 million

Manufacturer of vacuum accessories and vacuum evaporation equipment, supplying products to major OLED manufacturers in South Korea

CEP ATHENS HOLDINGS LIMITED

No

6

SFA ENGINEERING CORPORATION

1998

WON 75,000 million

An automation and logistics system manufacturer listed in South Korea (056190); its products include manufacturing system used to produce kinescope, and it also produces stacker, sorter, conveyor and loader systems for automated distribution center.

DY Holdings Co., Ltd.

No

7

SVMTECH CO., LTD.

2006

WON 4,000 million

A professional company with welding technologies and equipment in semiconductors, displays, aerospace, defense industry, nuclear energy and other application fields on the basis of design and manufacturing technologies in special bonding field.

KIM, KI-SOO

No

8

ZENITH TECH

2014

WON 50 million

Manufacturing electronic information products and optical products, diodes, transistors and similar

-

No

8-1-151

semiconductor devices

9

KPM

2010

WON 200 million

Manufacture and sale of electronic tubes, interface cards and other electronic components

-

No

Since overseas semiconductor industry developed earlier, overseas customers have huge demands for III-V compound semiconductor materials. In order to understand specific needs of overseas customers, get in on the ground floor of market, and respect usages of trade and operation of different regions, the Company also sells products through agents in Europe, America, South Korea, Taiwan (China) and other regions according to business practice. Under the circumstance of entrusting agents to promote, the Company concludes sales agency agreements with agents, which are responsible for promotion of relevant products in specific regions; the Company will conclude sale contracts with relevant customers and deliver goods to customers directly, and pay commissions to the agents according to type of products sold on commission and agreed commission percentage.

Sale by agent is common in semiconductor industry; listed companies such as ACM Shanghai, National Silicon Industry and Montage Technology have entrusted agents to sell.

In summary, using agency mode for sale by the Company in foreign countries is based on actual conditions of the Company and the common practice of semiconductor industry; the agents are not affiliated with the Company or relevant parties, and there is no commercial bribe or tunneling.

(4) Trader

During the reporting period, Mo Sangyo Co, Ltd. is the sole trader customer before and after business switch of the Company and AXT; the Company and AXT have no other trader customer.

In the course of development, Japanese IC enterprises form the industrial tradition of purchasing raw materials through agents. Based on the commercial custom of Japanese enterprises, the semiconductor enterprises in Japan usually

8-1-152

purchase products from foreign enterprises through traders or agents.

In order to understand specific needs of Japanese customers, get in on the ground floor of market, and respect local usages of trade and operation, the Company has entrusted Mo Sangyo Co, Ltd as the trader in Japan to exploit Japanese market since 2005. Mo Sangyo Co, Ltd is not engaged in any production; it is responsible for sale of products in Japan as the trader.

Prior to March 2021, the Issuer's overseas sale of semiconductor substrate materials was carried out by AXT according to the arrangement of the Group; therefore, in 2019 and 2020, the Company had no trader customers; except for Mo Sangyo Co, Ltd., AXT had no other trader customers. In 2021, the Company sold to Japan trader customer Mo Sangyo Co, Ltd. directly after completing business switch.

Mo Sangyo Co, Ltd is mainly responsible for promoting and selling the Company's products to customers in Japan, settles with the Company monthly based on the sale to end customers, and pay for corresponding goods.

The cooperation agreements between Mo Sangyo Co, Ltd and the Company stipulate the rights and obligations of both parties, and have following main terms:

Items

Specific provisions

Sales region

Mo Sangyo Co, Ltd is only responsible for promoting and selling products of AXT-Tongmei in Japan; customers in Japan shall own business sites and place orders in the territory, and deliver products to the sites within the territory.

Price and settlement

Mo Sangyo Co, Ltd can obtain corresponding profits based on the product sale services offered by it according to provisions hereof, and specific amount of profits is subject to separate agreement.

Based on the fact and circumstance of license from AXT-Tongmei, Mo Sangyo Co, Ltd shall purchase products and sell them to end customers. Based on the business mode of "purchase-resale", AXT-Tongmei issues invoices to Mo Sangyo Co, Ltd. Mo Sangyo Co, Ltd issues invoices to end customers and pays to AXT-Tongmei for relevant goods according to agreement.

Responsibility of performance

AXT-Tongmei is solely responsible for product design, development, supply, production and performance. AXT-Tongmei shall indemnify and defend Mo Sangyo Co, Ltd against any losses and claims incurred by it arising from any patent infringement of the products of AXT-Tongmei.

Product standard

Mo Sangyo Co, Ltd does not have any express or implicit rights of making any direct or indirect modification, supplement or limitation on updated written warranty of corresponding products offered by AXT-Tongmei or warranties or

8-1-153

representations expressly included in product specifications. AXT-Tongmei may, at its own discretion, revise product warranty or specifications from time to time, and the revised product warranty or specifications only become effective when Mo Sangyo Co, Ltd receives information on revision.

Pursuant to agreements between Mo Sangyo Co, Ltd and AXT-Tongmei, Mo Sangyo Co, Ltd is responsible for the sale of products of AXT-Tongmei in Japan, and shall use its utmost efforts to promote and sell products of AXT-Tongmei to customers in Japan, provided that Mo Sangyo Co, Ltd is not entitled to confirm, revise or guarantee the product standards, parameters such as quality or normative documents of AXT-Tongmei to its customers. Therefore, Mo Sangyo Co, Ltd only assists the Company in exploiting Japan market as the trader of the Company in Japan, and does not play a role in key information involving production line certification such as place of origin, production standard and selection of raw materials.

Mo Sangyo Co, Ltd. began to cooperate with AXT since 2005; in 2021, the Company generated revenue of RMB38,842,700 from Mo Sangyo Co, Ltd., which mainly purchases Indium Phosphide and GaAs substrates from the Company.

Based on the explanations given by Mo Sangyo Co, Ltd., during the reporting period, its top 5 downstream customers are Dowa Holdings Co., Ltd., ROHM, SONY, SCIOCS, SHOWA DENKO, NEOPHOTONICS SEMICONDUCTOR GK and SEI YOKOHAMA RESEARCH LAB; the aforesaid customers are famous semiconductor enterprises in Japan.

Based on the explanations given by Mo Sangyo Co, Ltd., it has been purchasing semiconductor products from suppliers such as Epi Solution Technology, Opto Solution Technology, MONOCRYSTAL PLC and Silicon Technology since 2003, except for Beijing Tongmei.

(5) Consignment

Prior to business switch, Osram, Broadcom and Sumika Electronic Materials, Inc were consignment customers of AXT and had cooperated with AXT for many years; in March 2021, due to switch of sales business and customers to AXT-Tongmei, the

8-1-154

Issuer obtained aforesaid three consignment customers. In 2021, its subsidiary Beijing Boyu changed the sales mode into the mode of consignment after negotiating with customer Freiberger in consideration of its needs.

In 2021, the type and sales amounts of products sold to top five customers of the Company under the mode of consignment are as follows:

In RMB0'000

Year

No.

Customer

Revenue

Main products sold

2021

1

Osram

5,506.52

Indium Phosphide, gallium arsenide, germanium substrate

2

Sumika Electronic Materials, Inc

572.38

GaAs substrate

3

Broadcom

571.43

GaAs substrate

4

Freiberger

569.24

PBN crucible, other PBN materials

Total

7,219.57

-

The basic information of aforesaid customers is as follows:

No.

Customer

Time of incorporation

Registered capitals

Profile

Controlling shareholder /Actual controller

Affiliated with the Issuer?

1

Osram

1906

EUR 5 million

Listed in Frankfurt Stock Exchange (OSR.DF), dealing in optical semiconductors, auto parts and digital technology. Top 2 Opto Semiconductor manufacturer, especially in the field of LED.

Osram GmbH

No

2

Sumika Electronic Materials, Inc

2003

-

It mainly products and sells optical film, projector optical accessories, etc.

Sumitomo

No

3

Broadcom

1961

USD 289 million

Broadcom (NASDAQ: AVGO), a leading semiconductor enterprise in the world, acquired Avago Technologies in 2016, designing, developing and manufacturing wide range of semiconductor and facility software products.

-

No

8-1-155

4

Freiberger

1949

EUR 512,000

One of major competitors of the Issuer, dealing in GaAs substrate. Renowned material enterprise in Germany, with largest market share of GaAs substrate in the world in 2019

Federmann Enterprises Ltd

No

In summary, the main customers of the Company under modes of direct sale, agency and consignment are renowned customers with high fame, influence and status in the industry; under the mode of trader, the Company only has one customer, i.e., Mo Sangyo Co, Ltd., whose downstream customers are renowned enterprises in Japan, such as Dowa Holdings Co., Ltd., ROHM and SONY; it is commercially reasonable to sell products through it since it complies with the common practice in the semiconductor industry in Japan.

(IV) Increase of incomes during reporting period

During reporting period, the incomes of the Company from its primary business are as follows (based on product category):

In RMB0'000

Item

2021

2020

2019

Amount

Proportion

Amount

Proportion

Amount

Proportion

Semiconductor substrate materials

62,675.18

73.39%

44,346.06

76.05%

35,771.29

77.39%

PBN crucible

5,502.47

6.44%

5,186.24

8.89%

4,729.22

10.23%

High-purity metals and compounds

12,201.00

14.29%

5,501.42

9.43%

2,531.92

5.48%

Other

5,025.79

5.88%

3,275.00

5.62%

3,188.36

6.90%

Total

85,404.44

100.00%

58,308.72

100.00%

46,220.79

100.00%

The income increase during reporting period was realized due to following factors:

1. Switch of business between the Company and AXT

In March 2021, AXT-Tongmei assumed overseas sale business and relevant customers of AXT; in May 2021, the Company acquired AXT-Tongmei. From 2019 to

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March 2021, overseas sale of semiconductor substrate materials of the Company were completed through AXT, which assumed overseas sale and personnel costs, and obtained certain profits; after business switch is completed, the Company assumed original overseas sales team of AXT and directly sold products to overseas end customers; the incomes from Indium Phosphide substrates increased fast due to increase of product prices, driving the increase of overall incomes for 2021.

2. Obvious increase of market demand

Among main products of the Company, Indium Phosphide substrate is mainly used in fields of optical communication and data center, GaAs substrate is mainly used in fields of radio frequency devices and new generation display, and germanium substrate is mainly used in the field of solar cells. During the reporting period, the aforesaid markets developed fast, and the demands increased rapidly, with details as follows:

(1) The fields of optical communication and data center

In the field of optical communication, the usage of optical modules in 5G base stations is significantly higher than that in 4G base station, and large-scale deployment of 5G base stations will greatly drive the increase of the demands for optical modules. According to Yole statistics, global sales volume of the optical module Indium Phosphide substrates (converted into 2 inches) is expected to exceed one million by 2026, with a compound growth rate of 13.94% from 2019 to 2026.

In the field of data center, along with the popularity of mobile Internet in recent years, data traffic increases fast, driving the fast development of cloud computing industry, stimulating the demands for construction of data centers, and also bringing more demands for optical modules of data centers. According to Yole statistics, global market size of optical modules of data center will increase from USD 4 billion in 2019 to USD 12.1 billion in 2025, with a compound growth rate of 20% from 2019 to 2025.

(2) The fields of radio frequency devices and LED display

In the field of RF, 5G smartphone PA (power amplifier) market will still be

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dominated by gallium arsenide. According to Yole statistics, in 2021, the market of RF devices accounted for 30.15% of the market of gallium arsenide semiconductor and contributed 32.50% of the output value. According to statistics of Orient Securities Research Institute, in the era of 4G, each mobile phone used 7 PA on average. Since 5G increases the frequency, and will increase high frequency in future, and for purpose of being compatible with 4G, 3G and 2G standards, so 5G smartphone requires more PA, with maximum of 16, or 10 on average; the RF devices made on basis of gallium arsenide are expected to have higher rate of penetrating mobile terminals in the era of 5G.

In the field of LED display, the new generation of displays adopt Mini LED and Micro LED chips of sub-millimeter and micron scale, raising high technical requirements on GaAs substrate; therefore, the popularity of Mini LED and Micro LED will bring new opportunity for the application of gallium arsenide. As forecasted by Yole, the demands for GaAs substrates in Mini LED and Micro LED increase fast; global sales volume of GaAs substrates (converted into 2 inches) in Mini LED and Micro LED is expected to increase from 2,079,000 pieces in 2019 to 6,138,000 pieces in 2025, with an annual compound growth rate of 19.77%.

(3) Field of solar cells

As disclosed by 2020 Blue Book of China Aerospace Science and Technology Activities, in 2020, launch vehicles were launched 114 times around the world, and 1,260 satellites were launched. According to SIA statistics, the size of market of global satellite industry reached USD 371 billion in 2020, and the number of satellites in orbit increased from 958 in 2010 to 3,371 in 2020. In recent years, China and USA accelerated the frequency of launching satellites; in 2020, the two countries totally launched 1,101 communication satellites, remote sensing satellites and navigation satellites. The competition among countries in the aerospace field focus on communication satellites and remote sensing satellites, and low earth orbit can contain about 60,000 satellites. In current phase, the solar cells used in the satellites launched by China are produced by Chinese enterprises and scientific research institutions. In

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future, it is expected that enterprises will have access to the market of space solar cells, driving the increase of demands for germanium substrates in relevant fields.

3. Policies greatly support development of the industry

In recent years, relevant authorities of China promulgated a series of policies to encourage the development of compound semiconductor substrate materials. For example, The 14th Five-Year Plan for National Informatization issued by The Central Commission for Cybersecurity and Informatization in Dec. 2021 encourages strategic research layout and technology accommodation & innovation in key frontier fields such as Non-Silicon-Based Semiconductors; In Catalog of Key New Materials for First Application Demonstration and Guidance (Version 2021), MIIT lists low dislocation germanium single crystals of 4-6 inches in Catalog of Advanced Semiconductor Materials and New Display Materials; In Catalog for Industrial Structure Adjustment Guidance (Version 2019) issued by NDRC, Czochralski compound semiconductor materials with diameters more than 125mm (5-inch), materials for electronic products such as semiconductors, semiconductor lighting materials and semiconductor lighting substrates are listed as encouraged categories.

On Feb. 17, 2022 NDRC, The Central Commission for Cybersecurity and Informatization, MIIT and National Energy Administration jointly issued a circular, agreeing to construct national computing hub nodes in eight regions such as Jingjinji, Yangtze River Delta, the Greater Bay Area, Chengyu, Inner Mongolia, Guizhou, Gansu and Ningxia, and planning ten national data center clusters; overall layout design was completed for national integrated big data center system, indicating a strategy is in full swing to channel more computing resources from the eastern areas to the less developed western regions. As the basic raw material of such infrastructure project, Indium Phosphide will usher in new space of market growth.

4. New demands produced by new applications, bringing new opportunities

III-V compound semiconductor substrate material has excellent performance, but its market scale is far less than that of silicon substrate due to small market of

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downstream application field and high cost. However, in recent years, several new application fields occur in III-V compound semiconductor, bringing incremental market for substrate enterprises, such as Mini LED, Micro LED, Wearable Device Sensor, Vehicle LiDAR and Biometric Laser. Such demands are in the process of industrialization; due to low scale base of III-V compound substrate market, scaling up of each aforesaid market will significantly improve the overall III-V semiconductor substrate market. In addition, in the inherent application fields of III-V compound semiconductor, such as optical modules for base stations and data centers, smartphones and base station RF devices, the fast development of 5G Communication, Big Data and Cloud Computing brings the opportunities of construction of 5G base stations and data centers as well as 5G smartphone replacement, indicating large growth potential in the III-V semiconductor substrate market.

5. Substrate products drive relevant raw materials and consumables

Along with the increased demand for semiconductor substrate products in the world, relevant factories enlarged the production lines of III-V compound semiconductor substrate materials, increasing the demands for PBN crucible (as the consumables in the growth sector of semiconductor substrate monocrystal) and High Purity Gallium (as raw material of GaAs substrate); in addition, the prices of gallium metal (as the raw material of High Purity Gallium and gallium compound) have been increasing due to domestic economic environment and influence of COVID-19 epidemic, and the purchase unit price of gallium metal surged during the reporting period, improving the pricing of the Company and driving the fast increase of incomes from high-purity metals and compound products.

After verifying the product substitution risk and market prospect of the Issuer, the Sponsor deems that:

1. Product substitution risk

Different semiconductor materials have different characteristics of materials. Currently, the downstream application fields of silicon, germanium, gallium arsenide, Indium Phosphide, Silicon Carbide and Gallium Nitride do not overlap to a high

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degree, therefore, there is no iteration relationship among different semiconductor materials. III-V compound semiconductor materials are mainly applied to 5G, next-generation displays, data centers, driverless and wearables, and there is no risk of being replaced by other semiconductor material; in future, along with occurrence of new materials, new products and new applications, there may be risk that III-V compound semiconductor materials will be replaced by other materials, but such risk is low.

2. Market prospect

Currently, the direct downstream markets of products of the Company, such as optical communications, data centers, RF devices and LED, have high degree of prosperity; continuous promulgation of industry supporting policies, constant emerging of new products and applications, and prosperous market will greatly enhance the demands in relevant fields for semiconductor substrate materials of the Company. In addition, the Company has rich experience in the field of III-V compound semiconductor substrate, has completed integration of assets under AXT and accumulated lots of technologies, achieving leading status in global market through competition; the rising demand for substrate products will drive fast increase of the Company's incomes from PBN products, high-purity metals and compound products. In future, the Company will increase its efforts in R&D, enlarge production scale, strengthen development of products, customers and market, and improve its market share based on its current technologies, product advantages and market status. As a whole, the Company's market presents brighter prospects.

(V) Pricing fairness for transactions between the Issuer and AXT

During the reporting period, the Company sold GaAs substrate, InP substrate, germanium substrate, and other products to AXT with the amounts of RMB 221.4498 million, RMB 281.9651 million, and RMB 59.7970 million, respectively. During the reporting period, the products sold by the Company to AXT were mainly sold to Osram, Landmark Optoelectronics, Win Semiconductor, and other overseas customers.

1. Pricing mechanism for main products

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The selling prices at which the Company sold compound semiconductor substrates to AXT were determined according to the production costs of the Issuer with the addition at a certain profit margin. The profit margin is corresponding to the positions of the Company and AXT in the transaction chain and the roles played by the Company and AXT. Given the status of the Company as a wholly-owned subsidiary of AXT and the weak industry chain in China at the early stage, previous transactions between the Company and AXT were completed in the manner of services for processing materials supplied by AXT; from August 2018, the Company basically no longer provided such services for processing materials supplied by AXT, transferring the transactions to general trading. In 2019, 2020, and 2021, the transactions between the Company and AXT were priced with reference to the profit margin of the previous mode of processing materials supplied by customers in combination with the range of profit margins of comparable companies engaging in similar businesses in the Analysis Report for Transfer Price issued by a transfer price consulting institution. The details are as follows:

(1) In 2019 and 2020, the Issuer adopted the pricing method of full production markup

In transactions with AXT, the Company carried out production tasks according to overseas orders placed by AXT, mainly including the implementation of routine functions such as procurement, production, quality control, sales, and after-sales services; moreover, the Company assumed quality warranty and product liability risks but no overseas market risks.

AXT, as the entity for overseas sales, assumed the functions of developing overseas customers and providing research on the performance matching for epitaxy processing. For selling compound semiconductor substrates, especially InP substrates, to overseas customers, AXT had to communicate closely with overseas customers about the downstream production process, and provide reasonable suggestions for epitaxy production for overseas customers. In 2019 and 2020, AXT made investment in sales and R&D in the amount of USD 4.5084 million and USD 4.9676 million,

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respectively, and invested much expenses for the overseas sales, customer maintenance, and performance matching of compound semiconductor substrates, especially InP substrates.

Article 39 in the Notice of the State Administration of Taxation Concerning Issuing the "Implementation Measures for Special Tax Adjustment (For Trial Implementation)" provided that "Enterprises that engage in processing and manufacturing according to orders of an affiliate without assuming functions of operation decision-making, product research and development, sales, etc., hence not assuming the risks and losses from errors in decision-making, insufficient production, unmarketable products, etc., generally shall maintain a certain profit margin".

The Company adopted the method of full production markup to determine the selling prices of products sold to AXT. That is, all the compound semiconductor substrates sold were taken into consideration together to determine a rate for markup on the basis of costs, so as to implement markup based on the overall costs of compound semiconductor substrates.

(2) In 2021, transactions were priced according to the fixed operating profit margin of AXT

On November 4, 2021, AXT and the Company entered into a Technology License Agreement, under which: AXT licenses its intellectual property rights, granted patents, and pending patents to the Company and the Company's controlled subsidiaries, where the intellectual property rights are licensed on an exclusive, non-transferrable, royalty, and irrevocable basis; the patents are granted on a non-exclusive, non-transferrable, royalty, and irrevocable basis; AXT undertakes that, except for M, AXT will not license the patents under the agreement to other third parties without the consent of the Company; the license covers the manufacturing, use, sales, presentation, duplicate, and distribution of gallium arsenide, indium phosphide, germanium crystals and substrate products; the term of license is perpetual from January 1, 2021;

In other words, from January 1, 2021, having acquired the license for intellectual property rights, patents, etc., the Company is capable of using such intellectual

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property rights, patents, etc. for production and sales at its own discretion. As a result, in 2021, AXT no longer assumed core R&D risks and market risks, and the intangible assets owned by AXT have been licensed to the Issuer, so that AXT assumed limited risks and functions in related-party transactions; therefore, AXT shall maintain a certain profit margin. On the other hand, given the significant activities and risks assumed by the Issuer in such related-party transactions, the Issuer was entitled to all the remaining profits after deducting profits at a certain rate for AXT. Therefore, the Issuer determined the selling price for AXT according to market prices and the operating profit margin of AXT.

The table below lists the gross profit and gross profit margin for sales made by the domestic entity to AXT-Tongmei in 2021:

Item

2021

Gross profit

Proportion

Gross profit margin

Semiconductor substrate

5,511.94

99.95%

20.22%

Others

2.55

0.05%

36.01%

Total

5,514.49

100.00%

20.22%

Given that the intellectual property rights were created from the sales and R&D functions of AXT, after acquiring the license of such intellectual property rights, the Issuer realized the gross profit margin of 22.24% for sales to AXT in 2021, which is basically equivalent to the gross profit margin for sales made by domestic entities to AXT-Tongmei in 2021.

In summary, generally speaking, the pricing mechanism for substrate products sold by the Company to AXT is in compliance with the actual conditions of the Company.

2. Determination of the range of gross profit margins and reasons for changes in the actual gross profit margins

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During the reporting period, the gross profit margin for transactions between the Company and AXT were -5.67%, 6.59%, and 22.24%, respectively. The table below lists specific changes:

In RMB 0'000

Item

2021

2020

2019

Revenue

Gross profit margin

Revenue

Gross profit margin

Revenue

Gross profit margin

InP substrate

1,960.76

8.85%

7,166.79

13.59%

4,815.89

-1.63%

GaAs substrate

3,501.74

32.87%

17,621.86

2.52%

14,008.88

-14.76%

Germanium substrate

500.79

0.37%

3,389.34

12.63%

3,320.21

26.82%

Others

16.14

19.15%

18.52

55.78%

-

-

Total

5,979.43

22.24%

28,196.51

6.59%

22,144.98

-5.67%

During the reporting period, the gross profit margin at which the Company sold GaAs substrate, InP substrate, germanium substrate, and other products to AXT changed mainly due to changes in the demands for products of various specifications by Osram, Landmark Optoelectronics, Win Semiconductor, and other customers, changes in the prices of raw materials, factory relocation, and decrease in production costs.

(1) From 2019 to 2020

From 2019 to 2020, when determining the rate of full cost markup, the Company referred to the range of profit margins of uncontrolled comparable companies engaging in similar businesses, which were 1.36% to 7.85% in 2019, and 0.52% to 7.45% in 2020. The Company determined the unit selling prices of products to maintain the full cost markup rate of the Company with respect to AXT close to such ranges.

According to historical experience of the Company, in the full cost markup rate, except for the gross profit, other operating expenses accounted for about 10% of the operating revenue. Therefore, the Company determined the range of gross profit

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margin from 11.36% to 17.45% for 2019, and from 10.52% to 17.45% for 2020. (The data is taken from the Analysis Report for Transfer Price issued by a transfer price consulting institution)

In 2019 and 2020, the gross profit margins for sales made by the Issuer to AXT were -5.67% and 6.59%, respectively, which were lower than the ranges of gross profit margins above mainly because:

① The Company relocated the GaAs substrate production line from Beijing to Chaoyang, Liaoning and Baoding, Hebei, and recruited new production staff; since the production line was in the process of commissioning and the production staff were in the process of getting familiar with the production, there were much loss of raw materials, resulting in a low yield rate of GaAs substrates and higher operating costs; In 2020 and 2021, the improvement in the operation proficiency of employees and the optimization of machine and equipment processes lead to improvement in productivity and reduction in operating costs; therefore, the gross profit margin at which the Company made sales to AXT improved. Because the factory relocation and trial production are production and operation arrangement made by the Company, which are not related to AXT, such factors were not considered for determining the unit prices for sales to AXT.

② For a long period of time, the InP substrate products of the Company were mainly marketed and sold by AXT on overseas markets. In 2019, the quantity of overseas sales accounted for 79.88%. The large-scale production of the Company's InP substrates are still greatly dependent on overseas orders. Given the small domestic market size for InP substrates, and in consideration of the significant role played and the high costs and expenses paid by AXT in market development, customer maintenance, and application R&D for InP substrates, the Company discounted the prices of InP substrates sold to AXT to a certain extent, which resulted in the negative gross profit margin of InP substrates in 2019. Given the small sales amount, the InP substrates sold by the Company to AXT has little impact on the gross profit margin of the products sold by the Company to AXT.

On the background of the development of optical modules and other industries in

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China, the domestic sales team of the Company made great achievements in market development, and the proportion of domestic sales of InP substrate products has been increasing rapidly. Therefore, the Company gradually resumed the prices of InP substrates sold to AXT, which improved the gross profit margin of InP substrates.

In addition, the gross profit margin at which the Company sold germanium substrates to AXT decreased year on year mainly because Yunnan Germanium and other competitors have started the production and sales of germanium substrates, and the more intense market competition resulted in obvious decrease in the average unit prices of germanium substrates. Moreover, the rapid increase in demands for device products, such as solar cells and high-performance light emitting diodes in the aerospace field lead to rapid increase of orders from downstream customers, so that the Company offered certain discount in product pricing. Despite the foregoing, generally speaking, there is little variation between the prices at which the Company sold germanium substrates to AXT and the average selling prices for photovoltaic germanium products charged by Yunnan Lincang Xinyuan Germanium Industry Co., Ltd. (002428.SZ). The prices at which the Company sold germanium substrates to AXT were reasonable.

(2) 2021

In 2021, when determining the unit prices for sales to AXT, the Issuer referred to the range of operating profit margins from 2.88% to 5.20% of the IT and technology industry in North America (the data is taken from the Analysis Report for Transfer Price issued by a transfer price consulting institution), and determined the prices so that the operating profit margin of AXT was maintained close to such range of operating profit margins.

The process of verifying the range of gross profit margins is as follows:

Let the unit price of the final product sold be R0, the unit price of sales made by the Company to AXT be R1, the unit production cost of the Company be C, and the operating profit margin of AXT be A. According to historical experience of the Company, other operating expenses accounted for about 10% of the operating revenue.

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The gross profit margin of 34.93% of semiconductor substrates of the Issuer in 2021 is taken as the gross profit margin of the final product.

The simultaneous equations are as follows:

① (R0-C)/R0=34.93%

② (R0-R1-10%*R0)/R0=A

③ 2.88%<=A<=5.20%

The range of the calculated gross profit margin (R1-C)/R1 at which the Company made sales to AXT is from 23.27% to 25.31%, which is close to the gross profit margin of 22.24% at which the Issuer made sales to AXT in 2021.

3. The transactions between the Company and AXT are reasonable without obviously unfair related-party transactions

During the reporting period, the products sold by the Company to AXT were mainly sold to Osram, Landmark Optoelectronics, Win Semiconductor, and other overseas customers. The Company sold products to AXT by pricing in the manner of cost markup. The table below lists the prices at which the Company sold products to AXT and the comparison of average selling prices:

In RMB/piece

Item

2021

2020

2019

Price for sales to AXT

Average selling price

Variation

Price for sales to AXT

Average selling price

Variation

Price for sales to AXT

Average selling price

Variation

GaAs substrate

347.36

431.1

-19.42%

439.92

466.33

-5.66%

352.88

378.5

-6.77%

InP substrate

662.39

964.88

-31.35%

500.58

683.54

-26.77%

415.8

751.87

-44.70%

Germanium substrate

389.15

300.6

29.46%

438.06

336.81

30.06%

427.3

351.05

21.72%

Note: Since the Company made sales to AXT from January to June 2021, the average selling prices of the Company for January to June 2021 are compared for analysis.

(1) From the perspective of products, the variation between the prices at which the Company sold products to AXT and the average selling prices is mainly caused by different performance requirements of customers for substrate products; the variation in product prices is dependent on product sizes, technical parameters, thicknesses, and edges.

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(2) From the perspective of the pricing mechanism of the Issuer for sales to AXT, in 2019 and 2020, the Company carried out production tasks according to overseas orders placed by AXT, mainly including the implementation of routine functions such as procurement, production, quality control, sales, and after-sales services; moreover, the Company assumed quality warranty and product liability risks but no overseas market risks. Therefore, the Company adopted the pricing method of full production markup to maintain a certain space of gross profit margin. In 2021, AXT no longer assumed core R&D risks and market risks, and the non-common intangible assets owned by AXT have been licensed to the Issuer, so that AXT assumed limited risks and functions in related-party transactions; therefore, AXT shall maintain a certain profit margin. Therefore, the transactions were priced according to the fixed operating profit margin of AXT.

(3) Analysis of specific products:

1) During the reporting period, the average unit prices at which the Company made sales to AXT are lower than the average selling prices mainly because: ① some GaAs substrates purchased by overseas customers are used in common LEDs, and the prices of such GaAs substrates are lower than the prices of GaAs substrates intended for radio frequency devices and lasers; ② given the lower ranking of the Company for GaAs substrates compared with Freiberger and Sumitomo, and the intense competition on the international market, in order to develop the international market for GaAs substrates, the Company adopted a more radical market policy, which resulted in the lower prices of sales to AXT; ③ the GaAs substrate products purchased by domestic customers from the Company are mostly used for smartphones, artificial intelligence, unmanned driving, and other fields with higher technical requirements on GaAs substrates, which leads to higher added value, hence higher selling prices for products sold by the Company on the domestic market.

2) The average unit prices at which the Company sold InP substrates to AXT are lower than the average selling prices mainly because: ① Since AXT played a significant role and paid high costs and expenses in market development, customer maintenance, and application R&D for InP substrates, AXT made high markup on the

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basis of the selling prices of Beijing Tongmei; ② the Company made sales at average selling prices higher than AXT for customers developed by the domestic sales team of the Company; except for the market development and R&D expenses borne by the Company, the InP substrates sold by the Company to Customer A and Customer B are subject to extremely high requirements on performance parameters because such customers are purchasing InP substrates for cutting-edge fields, hence having higher requirements on the dopant concentration, conductivity performance, dislocation density, and other performance indicators than overseas customers.

3) The Company sold germanium substrates to AXT at prices higher than the average selling prices, mainly because the place of raw materials for germanium substrates are mainly located in China and there are less overseas manufacturers of germanium substrates; germanium substrates purchased by overseas customers are mostly used for high-end solar cells, which lead to higher prices of sales to AXT; and the intense competition on the domestic market leads to relatively low selling prices on the domestic market.

There is little variation between the prices at which the Company sold germanium substrates to AXT and the average selling prices for photovoltaic germanium products charged by Yunnan Lincang Xinyuan Germanium Industry Co., Ltd. (002428.SZ). The details are as follows:

In RMB/piece

Item

2021

2020

2019

Price for sales to AXT

Selling price of

Yunnan Germanium

Variation

Price for sales to AXT

Selling price of Yunnan Germanium

Variation

Price for sales to AXT

Selling price of

Yunnan Germanium

Variation

Germanium substrate (converted into 2 inch)

337.96

283.70

19%

346.64

390.06

-11%

392.78

380.07

3%

Generally, the prices at which the Company sold germanium substrates to AXT were reasonable.

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In summary, the transactions between the Company and AXT are reasonable without obviously unfair related-party transactions.

4. Transfer pricing and tax risk

The gross profit margin of AXT semiconductor substrates for the Issuer in 2019 and 2020 was lower than the above range of gross profit margin, which was mainly caused by the relocation of the plants in Chaoyang, Liaoning and Baoding, Hebei, as well as the trial production.

The cost of sales under normal operation and production conditions was simulated and calculated based on the average unit cost of the less affected gallium arsenide substrates in 2018 and the sales volume of gallium arsenide substrates in 2019 and 2020. In the case of the simulation, the gross profit and gross profit margin of the semiconductor substrates sold to AXT were:

In RMB0,000

Item

2020

2019

Gross profit

Proportion

Gross profit margin

Gross profit

Proportion

Gross profit margin

Compound semiconductor substrate

5,179.33

99.80%

18.38%

2,282.26

100.00%

10.31%

Others

10.33

0.20%

55.78%

-

-

-

Total

5,189.66

100.00%

18.41%

2,282.26

100.00%

10.31%

After removing the impact of plant relocation and trial production, the simulated gross margin of the compound semiconductor substrates was 10.31% and 18.41% in 2019 and 2020, being close to the range of gross margin. Therefore, there was no problem of transfer pricing. In 2021, the gross margin of the compound semiconductor substrates sold by the Company to AXT was close to the above range of gross margin, indicating the absence of transfer pricing.

In addition, the average unit price of the indium phosphide substrates sold to AXT was lower than the average selling price, for AXT was considered to play an important role in the market development, customer maintenance and application

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research and development of indium phosphide substrates, and also bear high costs and expenses, with the rationality of operation and without the problem of transfer pricing for evading tax.

The transaction mode and transaction price between the Company and AXT were determined by AXT's organizational structure and long-term business development model. AXT, founded in California, USA in December 1986, initially had a complete R&D and production system, and directly performed market exploitation. In 1998, AXT determined to start business in Mainland China; later, it gradually transferred its R&D and production system to Mainland China, and established AXT-Tongmei. AXT terminated its manufacturing operations in the United States and only retained overseas sales, overseas procurement and part of application research and development. The products sold by the company to AXT were priced by a cost plus manner, which fixed the sales price; while AXT may enjoy certain price difference through selling the products to overseas customers, so as to ensure the normal operation of AXT and support its application development.

(1) The Company was originally a wholly owned subsidiary of AXT. For a long time, due to the weak foundation of the domestic compound semiconductor industry, and the location of the main customers and suppliers in foreign countries, AXT and the Company have engaged in transactions in a pattern of processing on giving materials;

(2) With the rapid development of the semiconductor industry in China, the proportion of domestic sales and procurement has been increasing. In August 2018, the transaction between AXT and the Company was turned to general trade, but the cost-plus method was continued for pricing, which was also determined according to the requirements of the tax authorities of China and the United States;

(3) In March 2021, the conversion was completed. AXT in the United States undertook the overseas sales business of AXT. After the execution of the existing orders, the Company would not engage in any new transaction with AXT, but the pricing would remain the original mode, which means that it would be implemented

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according to the requirements of the tax authorities of China and the United States. Considering the role of AXT as a wholly owned subsidiary of the Company, the original pricing mode with AXT would not have a lasting impact on the gross margin as stated in the Consolidated Financial Statement of the Company.

Local tax authorities of the Company and its domestic subsidiaries have issued the "Compliance Certificate" or "Notification of Tax-related Information Inquiry Results", which proved that "the Company declared and paid taxes in accordance with the relevant tax laws, regulations and normative documents during the reporting period; and there were no tax arrears or administrative penalties due to tax violations".

The Sponsor examined the related transactions between the Company and AXT, and believed that such related transactions were determined by AXT's organizational structure and its long-term business development mode, and they were reasonable, without unfair transaction pricing. There was neither benefit transfer involved in the transactions between the Company and AXT nor the adjustment of the Issuer's profit through the above related transactions. In March 2021, the Company started selling products to overseas customers through AXT, which, after completing the sales contract signed before March 2021, would not engage in the sales business; the related sales between the Company and AXT have been completely terminated.

II. Explanations from the Sponsor and the Reporting Accountant

(I) The verification results of seeking confirmation and interview or video inquiry by domestic and overseas sales revenue;

1. Results of seeking confirmation

The Sponsor and the Reporting Accountant perform the procedures of seeking confirmation for the Issuer's customers, and the verification results obtained by domestic and overseas sales revenue are shown below:

In RMB0'000

Item

2021

2020

2019

Domestic

Overseas

Total

Domestic

Overseas

Total

Domestic

Overseas

Total

Operating revenue①

43,873.92

41,860.60

85,734.52

24,707.37

33,609.67

58,317.04

18,183.98

28,038.70

46,222.68

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Amount covered by confirmation request letter②

39,861.55

37,573.88

77,435.43

21,876.09

30,358.48

52,234.57

16,677.38

26,836.65

43,514.03

Proportion covered by confirmation request letter③=②/①

90.85%

89.76%

90.32%

88.54%

90.33%

89.57%

91.71%

95.71%

94.14%

Amount corresponding to the reply and after discrepancy adjustment④

32,500.45

30,392.60

62,893.05

21,643.88

30,181.22

51,825.10

16,158.50

26,745.26

42,903.76

Proportion of amount corresponding to the reply⑤=④/②

81.53%

80.89%

81.22%

98.94%

99.42%

99.22%

96.89%

99.66%

98.60%

Amount for implementing the alternative procedures⑥

7,361.10

7,181.28

14,542.38

232.21

177.26

409.47

518.88

91.39

610.27

Proportion of implementing the alternative procedures⑦=⑥/②

18.47%

19.11%

18.78%

1.06%

0.58%

0.78%

3.11%

0.34%

1.40%

Confirmable amount⑧=④+⑥

39,861.55

37,573.88

77,435.43

21,876.09

30,358.48

52,234.57

16,677.38

26,836.65

43,514.03

Proportion of identifiable amount⑨=⑧/②

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

100.00%

2. Results of interview or video inquiry

The Sponsor and the Reporting Accountant perform the procedures of interview or video inquiry for the Issuer's customers, and the verification results obtained by domestic and overseas sales revenue are shown below:

In RMB0'000

Item

2021

2020

2019

Domestic

Overseas

Total

Domestic

Overseas

Total

Domestic

Overseas

Total

Revenue of the interviewed customers

32,646.14

32,770.75

65,416.89

18,135.01

32,703.81

50,838.82

11,141.48

27,280.03

38,421.51

Operating revenue

43,873.92

41,860.60

85,734.52

24,707.37

33,609.67

58,317.04

18,183.98

28,038.70

46,222.68

Proportion of revenue of the interviewed customers

74.41%

78.29%

76.30%

73.40%

97.30%

87.18%

61.27%

97.29%

83.12%

(II) The results of interview or video inquiry regarding the overseas sales revenue, the verification of identity of the interviewees during video inquiry, video inquiry contents and confirmation of subsequent alternative procedures, the additional measures taken in view of the limitations of video interview, and whether the relevant external evidence has been obtained;

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1. The results of field and video interview

As affected by the epidemic overseas, the intermediary conducted video interviews with 15 overseas customers. For the controlling shareholder AXT, the intermediary performed field interview in Beijing; for the overseas customer SUMIDEN SHOJI CO., LTD, the intermediary went to its office in Shanghai for interview, as detailed below:

No.

Customer name

Interview method

Interviewee

1

AXT

Field

CEO

2

SUMIDEN SHOJI CO.,LTD

Field

Procurement Manager

3

ALPHA PLUS

Video

Procurement Manager

4

Landmark Optoelectronics

Video

Director of Production Management Purchasing Department

5

Visual Photonics Epitaxy

Video

Procurement Manager

6

Osram

Video

Procurement Manager

7

IQE

Video

Global Procurement Manager

8

CVT GMBH & CO. KG

Video

CEO

9

Sumika Electronic Materials, Inc

Video

Procurement Manager

10

WAFER TECHNOLOGY LIMITED

Video

Chief Financial Officer

11

VISHAY SEMICONDUCTOR GmbH

Video

Supplier Quality Manager

12

AUK CORPORATION

Video

Procurement Manager

13

Customer C

Video

Procurement Manager

14

Mo Sangyo Co, Ltd.

Video

CEO

15

Alta Devices

Video

CFO

16

II-VI

Video

Advanced Procurement Manager

17

LOUWERSHANIQUE

Video

Procurement Manager

2. The verification of identity of the interviewees during video inquiry, video inquiry contents and confirmation of subsequent alternative procedures

(1) Verification of identity of the interviewees

During video inquiry and verification, the intermediary mainly verifies the

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identity of the interviewee in the following procedures:

1) Prior to video inquiry, obtain the basic identity information of the interviewee, including the name and position;

2) The Issuer's business personnel invite the customers for video inquiry and make an appointment for inquiry through daily contact methods, such as email, phone and WeChat. As for email, it shall be copied to the address of the interview personnel, who shall verify whether the email used by the customer is the one for daily business communication; at the same time, check the emails of daily communication between the Company's business personnel and the interviewee, to confirm whether the interviewee is an employee of the customer;

3) Implement video connection with the interviewees through Tencent conference or Zoom, and start video recording;

4) Take screenshots and videos of the video inquiry process, and save the pictures and videos;

5) Prior to inquiry, ask the interviewee to present the identification documents such as the business card or work card, to verify the identity and position of the interviewee; and compare such information with what collected before the inquiry;

6) Through asking the information such as the basic information of the customer, and the contents of transaction with the Issuer and the development status of the industry, check whether the interviewee knows the transaction between his/her employer with the Issuer, to further verify the identity of the interviewee;

7) After the inquiry, the interview record made by the intermediary shall be directly sent to the enterprise mailbox of the interviewee for confirming by signing or sealing, and then the interview record, business card or other identification documents shall be directly sent to the intermediary by mail, email or other means;

8) After receiving the relevant documents, the intermediary shall check the name, email information, business card information and mailing address of the interviewee again; at the same time, the signature or seal of the interview record shall be checked, to determine whether it is consistent with the customer's signature or seal on the

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documents regarding daily transactions.

(2) Video inquiry contents

The video interview mainly involves the customer's basic information, the transactions between the Company and the customer, product quality, compliance and correlation, as detailed below:

No.

Item

Relevant content

1

Customer's basic information

Confirm the interviewee's name and position;

2

Company-customer

transaction

1. Cooperation between the Company and its customers: Confirm the time, content and method of the cooperation between the Company and its customers;

2. Pricing for the transaction between the Company and its customers: Confirm the pricing mechanism for transaction;

3. Settlement between the Company and its customers: Confirm the transaction settlement method, whether there is cash settlement, and whether there is agent payment by a third party;

4. Transaction fluctuation between the Company and its customers: Confirm the trend and reasons of transaction fluctuation, and whether the transaction is seasonal;

5. Nature of the customer and destination of the final products: Confirm whether the customer is a trader or manufacturer, and confirm the final users and sales areas of the products;

6. Customers' requirements for the origin of products: Confirm whether the customers have such requirements, and confirm the origin of products purchased from the Company;

7. Channel inventory of the customers: Confirm the on hand inventory of the customers at the end of the year, and confirm whether the Company has conducted sudden sales or intentional extension of the term of payment at the end of the year;

8. Certification of new suppliers or new products of customers: Confirm certification process and cycle of new suppliers or new products of customers, and certification of their downstream customers;

9. Competitive advantages of the Company: Confirm the reason for the customer to select the Company as the supplier and the competitive advantages of the products.

3

Product quality and compliance

1. Product quality: Confirm the return and exchange of goods, and confirm whether there are disputes or potential disputes due to quality problems;

2. Contract performance: Confirm whether the Company can abide by the contract;

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3. Benefit transfer, commercial bribery, and unfair competition: Confirm whether there is private interest exchange between the customers and the Company, and whether there is benefit transfer, commercial bribery or unfair competition;

4. Litigation: Confirm whether there is litigation between the customers and the Company.

4

Correlation

Confirm whether there is any correlation between the Company and its customers, as well as their major shareholders, actual controllers, directors, supervisors and executives in terms of equity, investment, special interest arrangement, etc.

(3) Confirmation of subsequent alternative procedures

Subsequent alternative procedures taken by the intermediaries include:

1) Obtain the relevant system documents of the Company with respect to the management of the customers, and check the sound and effective implementation of internal controls, including customer selection criteria, daily management, pricing mechanism, logistics, return and exchange mechanism, sales inventory information system;

2) Interview with the Company's management layer, sales personnel and financial personnel, to understand the credit policies and rationality of various customers, and the sales accounting process;

3) Implement substantive analysis for foreign sales revenue by regions, products, and customers, etc., identify significant or unusual fluctuations, and their causes; view the publicly available information of comparable companies in the industry, to understand the information of sales model and proportion, sales regions, and gross profit, etc.;

4) Obtain the revenue cost schedule of the Issuer during the reporting period, and analyze the changes and rationality of sales revenue of the Company;

5) Understand the sales process of the overseas business, specify the time when the customers obtain the control of goods under various modes, to confirm whether the revenue recognition method is accurate, and whether it complies with the provisions in the accounting standards for business enterprises; and perform the revenue cycle test, to check the supporting documents of major overseas customers,

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such as the sales contracts, outbound delivery orders, customs declaration forms, packing lists, bills of lading, and invoices;

6) Conduct a test of details on the sales of major overseas customers, and check the original contracts, invoices, customs declaration forms, and logistics records, as detailed below:

In RMB0'000

Item

2021

2020

2019

Revenue covered by sampling

20,194.11

19,589.41

15,424.88

Overseas operating revenue

41,860.60

33,609.67

28,038.70

Coverage ratio

48.24%

58.29%

55.01%

7) Conduct a cut-off test on the sales situation before and after the balance sheet date, check the outbound delivery orders, customs declaration forms, packing lists, bills of lading, invoices and other documents, and check whether the revenue is intertemporal;

8) Implement analytical procedures, check the fluctuations of major overseas customers during the reporting period, and learn from the Issuer about the business cooperation background of new major overseas customers and the main reasons for revenue fluctuations;

9) Obtain the bank statements and collection details of the Company during the reporting period, check the account statement corresponding to the sales receipts, and inspect the authenticity of sales receipts. As for overseas bank accounts, due to the impact of COVID-19, the staff cannot go to the overseas bank, but supervise the process of handling by the Company's staff from logging in the official website of the bank to download electronic version of the statement during the reporting period, to the sending of it to the intermediary; the comparison between the foreign sales revenue and actual collection of the Company during the reporting period is shown below:

In RMB0'000

Period

Foreign sales revenue

Actual amount collected

Proportion of actual amount collected in foreign sales revenue

2021

41,860.60

37,097.36

88.62%

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2020

33,609.67

34,369.20

102.26%

2019

28,038.70

28,679.29

102.28%

Total

103,508.97

100,145.85

96.75%

During the reporting period, the proportion of actual amount collected in foreign sales revenue is 96.75%, indicating the satisfactory collection of funds; and the foreign sales revenue basically matches with the actual amount collected.

10) Obtain the Issuer's E-port data, check the electronic port data with the Company's book export revenue, and analyze the reasons for the discrepancy. The specific results of verification of foreign sales revenue are shown below:

In RMB0'000

Item

2021

2020

2019

E-port data①

11,805.39

33,536.69

27,965.77

The Issuer's overseas sales revenue②

10,506.71

33,609.67

28,038.70

Discrepancy③=②-①

-1,298.68

72.98

72.93

Effect on consignment customers④

1,298.68

-

-

Discrepancy ratio⑤=(③+④)/②

-

0.22%

0.26%

Note: Since the Company's sales of semiconductor substrate materials overseas have been carried out through AXT-Tongmei since March 2021, the E-port data and the Issuer's overseas sales revenue in 2021 are only based on the overseas sales directly carried out by the Issuer's domestic entities in China.

It can be seen from the above table that in 2019 and 2020, the Issuer's E-port data was basically consistent with the foreign revenue data; the relatively large discrepancy in 2021 arose mainly from the new consignment customers of the Company due to the business handover between AXT and AXT-Tongmei in March 2021. For details, please refer to "Section VII, X.(II).6.(5) Collection of price for goods and adjustments to sales during the period for which ATX's business was transferred to the Company's subsidiary in the US" of the Prospectus. After excluding the above factors, there was no discrepancy between the Company's E-port data and foreign revenue data in 2021.

11) Obtain the list of the Issuer's export tax rebate declaration, and compare with the foreign sales revenue of the Company during the reporting period, as detailed

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below:

In RMB0'000

Item

2021

2020

2019

Sales revenue for declaration of export tax rebate①

38,161.80

33,038.74

27,930.28

Declaration of the current period after the expiration②

2,047.01

3,198.87

2,617.83

Declaration of the previous period in the current period③

3,198.87

2,617.83

2,583.10

Amount of overseas sales revenue④

41,860.60

33,609.67

28,038.70

Sales revenue that may declare export tax rebate⑤=①+②-③

37,009.94

33,619.79

27,965.01

Discrepancy⑥=④-⑤

4,850.67

-10.12

73.69

Where:

Discrepancy between the revenue of domestic entities from ATX-Tongmei and foreign sales revenue of ATX-Tongmei⑦

2,789.27

-

-

Revenue without declaring tax rebates after the expiration⑧

1,607.57

-

-

Non-refundable revenue⑨

409.09

54.49

24.17

Others⑩=⑥-⑦-⑧-⑨

44.73

-64.61

49.52

Note 1: According to the Announcement of the State Administration of Taxation on Issuing Administrative Measures for Value-added Tax and Consumption Tax on Export Goods and Labor Services (Announcement of the State Administration of Taxation No. 24, 2012), enterprises shall collect all relevant receipts within the VAT declaration periods between the next month after the goods departs upon customs declaration (depending on the date of export indicated on the declaration form (used for export tax rebate only) for export goods, the same below) and April 30 of the next year, and apply to the competent tax authorities for the exemption, offset or rebate of VAT on export goods. The amount of VAT export tax qualifying for rebate of the Company shall be limited to the VAT retained at the end of each month; the applicant shall declare the VAT export tax rebate based on the VAT retained at the end of each month, and complete the declaration before April 30 of the following year;

Note 2: The amount of export tax rebate that can be declared is the amount after adjusting the time discrepancy.

As shown in the table above, during the reporting period, the difference between the export tax rebate after adjusting the time discrepancy and foreign sales revenue is mainly caused by the difference between the Company's revenue from AXT-Tongmei and foreign sales revenue of AXT-Tongmei, the revenue without declaring tax rebate after the expiration and the non-refundable revenue from the overseas sales of single

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crystal bars.

12) Send letters to overseas customers for the revenues during the reporting period, to confirm the authenticity and accuracy of the overseas revenue amount, as detailed below:

In RMB0'000

Item

2021

2020

2019

Overseas operating revenue covered by confirmation request letter①

37,573.88

30,358.48

26,836.65

Revenue corresponding to the reply and after discrepancy adjustment②

30,392.60

30,181.22

26,745.26

Overseas operating revenue③

41,860.60

33,609.67

28,038.70

Coverage ratio of overseas operating revenue covered by confirmation request letter ④=①/③

89.76%

90.33%

95.71%

Proportion of revenue corresponding to the reply and after discrepancy adjustment⑤=②/①

80.89%

99.42%

99.66%

Revenue of alternative testing⑥

7,181.28

177.26

91.39

Proportion of alternative testing⑦=⑥/①

19.11%

0.58%

0.34%

Identifiable proportion⑧=⑤+⑦

100.00%

100.00%

100.00%

13) Check the credit reports and publicly available information of major overseas customers, verify their business scale and shareholder composition, check the questionnaire filled in by the Issuer, directors, supervisors and senior managers, and confirm whether there is any correlation between overseas customers and the Company and related parties;

14) Obtain the account statements of the controlling shareholders, directors, supervisors, senior managers, important financial personnel and other interested parties during the reporting period to confirm whether the Company has external collection.

3. The additional measures taken in view of the limitations of video interview, and whether the relevant external evidence has been obtained

Compared with field interview, the main limitation of video inquiry is that the staff cannot check the business premises of the customers, affecting the intuitive judgment of the authenticity of their existence and the rationality of procurement.

8-1-182

In view of the limitations of video inquiry, the intermediaries improve the reliability of video inquiry by verifying the identity information of the interviewees, and saving the video materials. The following external supporting materials are collected for verification:

(1) Ask the interviewee to present the identification documents such as the passport, business card or work card, to verify the identity and position of the interviewee, to verify the authenticity of the identity of the interviewee.

(2) Extract the email address of the interviewee from the reply, pay attention to the correlation between the suffix of the email and the customer's name, and compare the address for returning the inquiry materials with the reply address and address inquired on the Internet.

(3) Obtain the transaction details between the Company and the interviewees, and collect original contracts, invoices, customs declaration forms, and logistics records, to verify the consistency between the transaction and inquiry contents.

(4) Analyze the annual purchase amount of the customer, to understand the changing trend and rationality of purchase.

(5) Obtain credit reports and other public available information of major overseas customers, and conduct background investigation on the customers, to verify the accuracy of the related information.

(III) The adequacy of the proportion of verification of substantive procedures such as the test of details;

When the Sponsor and the Reporting Accountant conduct verification regarding the Issuer's sales revenue, the following verification procedures shall be implemented: test of details, seeking confirmation and interview/video interview; as for overseas sales, the Issuer's E-port data shall be obtained and checked; as for domestic sales, the data of the VAT system shall be obtained and checked, to verify the Issuer's sales revenue by various substantive procedures.

During the reporting period, on the basis of ensuring the coverage rate of confirmation request letter of over 90% (the proportion of the reply amount in

8-1-183

operating revenue of over 75%), and the coverage rate of interview/video interview of over 75%, the Sponsor and the Reporting Accountant adopt large-scale and random sampling methods to select samples and implement relevant procedures according to the relevant provisions of the Sponsor Due Diligence Guidelines, Auditing Standards for Chinese Certified Public Accountants No. 1314 - Audit Sampling, and the application guide. In view of the selected samples, check the supporting documents related to the transaction.

1. Overall distribution of the customers

During the reporting period, the Issuer's customers are divided by the revenue of RMB1 million, RMB5 million and RMB10 million and the number of transactions verified by the intermediary is determined:

In RMB0'000

Item

Over RMB10 million

RMB5-10 million

RMB1-5 million

Below RMB1 million

Total

2021

Revenue amount

59,022.63

9,488.87

11,301.61

5,921.41

85,734.52

Revenue proportion

68.84%

11.07%

13.18%

6.91%

100.00%

Number of customers

23

14

58

369

464

Quantity proportion

4.96%

3.02%

12.50%

79.52%

100.00%

Number of verified transactions

583

113

185

223

1,104

2020

Revenue amount

46,832.74

3,490.31

4,973.45

3,020.55

58,317.04

Revenue proportion

80.31%

5.99%

8.53%

5.18%

100.00%

Number of customers

12

5

26

201

244

Quantity proportion

4.92%

2.05%

10.66%

82.38%

100.00%

Number of verified

484

44

141

114

783

8-1-184

transactions

2019

Revenue amount

39,753.04

1,799.94

2,889.80

1,779.89

46,222.68

Revenue proportion

86.00%

3.89%

6.25%

3.85%

100.00%

Number of customers

10

3

22

181

216

Quantity proportion

4.63%

1.39%

10.19%

83.80%

100.00%

Number of verified transactions

434

18

121

99

672

As shown in the table above, based on the features of the Issuer's samples that there are a large number of customers and a high degree of concentration, but the transaction volume per customer is large with a large number of transactions, the intermediary performs test of details by stratified sampling. For the test of details, all transaction records are taken as the totality of samples; while for seeking confirmation and interview/video interview, all the customers are taken as the totality of samples for sampling and verification. In view of large-scale samples, all shall be checked; and in view of remaining samples, random sampling shall be performed with the statistical method, to meet the requirement for the overall verification proportion. The specific results show that the sampling can realize full coverage of samples in multiple dimensions.

(1) Division of test of details by amount of a single transaction

According to the transaction records, the tests of details are divided by the amount of a single transaction (RMB100,000, RMB500,000 and RMB1 million) during the reporting period, as shown below:

In RMB0'000

Item

2021

2020

2019

Amount

Proportion

Amount

Proportion

Amount

Proportion

Over RMB1 million

15,660.53

90.94%

11,757.90

100.00%

7,875.32

100.00%

8-1-185

RMB500,000-1 million

9,814.59

42.60%

10,120.55

99.33%

9,806.95

100.00%

RMB100,000-500,000

11,701.92

34.02%

7,371.95

28.63%

8,110.54

38.27%

Below RMB100,000

1,775.37

16.02%

920.15

8.66%

657.76

8.95%

Total

38,952.41

45.43%

30,170.55

51.74%

26,450.57

55.80%

(2) Test of details by customers

During the reporting period, the number of customers covered by the test of details is divided by revenue (RMB1 million, RMB5 million and RMB10 million), as shown below:

In RMB0'000

Item

Over RMB10 million

RMB5-10 million

RMB1-5 million

Below RMB1 million

Total

2021

Number of tests

23

14

46

130

213

Number of customers

23

14

58

369

464

Proportion

100.00%

100.00%

79.31%

35.23%

45.91%

2020

Number of tests

12

5

24

67

108

Quantity

12

5

26

201

244

Proportion

100.00%

100.00%

92.31%

33.33%

44.26%

2019

Number of tests

10

3

15

63

91

Number of customers

10

3

22

181

216

Proportion

100.00%

100.00%

68.18%

34.81%

42.13%

(3) Seeking confirmation and interview

During the reporting period, the seeking confirmation and interview procedures are divided by the revenue of a single customer (RMB1 million, RMB5 million and RMB10 million), as shown below:

In RMB0'000

8-1-186

Item

Seeking confirmation procedure

Interview procedure

Amount

Proportion

Amount

Proportion

2021

Over RMB10 million

49,803.73

84.38%

56,349.14

95.47%

RMB5-10 million

6,350.17

66.92%

6,720.32

70.82%

RMB1-5 million

6,635.88

58.72%

2,172.43

19.22%

Below RMB1 million

103.27

1.74%

175.00

2.96%

Total

62,893.05

73.36%

65,416.89

76.30%

2020

Over RMB10 million

46,832.74

100.00%

45,462.67

97.07%

RMB5-10 million

3,490.31

100.00%

3,490.31

100.00%

RMB1-5 million

739.27

14.86%

1,749.98

35.19%

Below RMB1 million

762.78

25.25%

135.86

4.50%

Total

51,825.10

88.87%

50,838.82

87.18%

2019

Over RMB10 million

39,088.16

98.33%

35,189.29

88.52%

RMB5-10 million

1,799.94

100.00%

634.40

35.25%

RMB1-5 million

1,845.73

63.87%

2,448.56

84.73%

Below RMB1 million

169.92

9.55%

149.26

8.39%

Total

42,903.75

92.82%

38,421.51

83.12%

2. Verification by product structure

Verification by major products of the Issuer during the reporting period is shown below:

In RMB0'000

Item

Test of details

Seeking confirmation procedure

Interview procedure

Amount

Proportion

Amount

Proportion

Amount

Proportion

2021

Semiconductor substrate material

26,549.50

42.36%

47,592.26

75.93%

50,505.74

80.58%

PBN crucible and the related products

4,350.88

45.44%

7,287.42

76.10%

6,455.08

67.41%

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High-purity metals and compounds

8,052.03

65.99%

8,013.37

65.68%

8,456.07

69.31%

Total

38,952.41

45.43%

62,893.05

73.36%

65,416.89

76.30%

2020

Semiconductor substrate material

19,484.63

43.94%

41,832.39

94.33%

41,977.24

94.66%

PBN crucible and the related products

7,305.25

97.06%

5,937.36

78.88%

5,801.63

77.08%

High-purity metals and compounds

3,380.67

61.45%

3,507.78

63.76%

3,059.95

55.62%

Others

-

-

547.57

58.08%

-

-

Total

30,170.55

51.74%

51,825.10

88.87%

50,838.82

87.18%

2019

Semiconductor substrate material

16,576.38

46.34%

33,884.67

94.73%

30,619.88

85.60%

PBN crucible and the related products

6,487.74

86.89%

6,698.19

89.70%

6,066.36

81.24%

High-purity metals and compounds

2,531.92

100.00%

2,320.88

91.67%

1,735.26

68.54%

Others

196.76

43.48%

-

-

-

-

Total

25,792.80

55.80%

42,903.75

92.82%

38,421.50

83.12%

3. Verification divided by regions of the Issuer's customers

Verification divided by regions of the Issuer's customers during the reporting period is shown below:

In RMB0'000

Item

Test of details

Seeking confirmation procedure

Interview procedure

Amount

Proportion

Amount

Proportion

Amount

Proportion

2021

Mainland China

18,758.31

42.76%

32,500.47

74.08%

32,646.15

74.41%

United States

6,846.67

58.60%

7,719.04

66.06%

11,684.09

100.00%

Europe

5,609.10

49.05%

8,999.67

78.71%

8,008.09

70.03%

Taiwan, China

4,363.02

46.60%

5,829.37

62.26%

7,832.00

83.64%

Japan

1,957.33

43.71%

4,370.91

97.60%

3,884.27

86.73%

South Korea

555.99

22.54%

1,276.01

51.73%

1,362.29

55.23%

Others

862.00

35.43%

2,197.58

90.32%

-

-

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Total

38,952.42

45.43%

62,893.05

73.36%

65,416.89

76.30%

2020

Mainland China

10,581.13

42.83%

21,643.88

87.60%

18,135.01

73.40%

United States

14,538.99

51.19%

25,398.26

89.43%

28,202.84

99.30%

Europe

2,520.65

99.07%

2,284.76

89.80%

1,972.90

77.54%

Japan

1,204.70

95.64%

1,175.56

93.33%

1,233.81

97.96%

South Korea

1,325.07

95.33%

1,322.64

95.16%

1,294.25

93.11%

Total

30,170.54

51.74%

51,825.10

88.87%

50,838.81

87.18%

2019

Mainland China

10,367.93

57.02%

16,158.50

88.86%

11,141.48

61.27%

United States

10,022.36

44.87%

21,360.28

95.62%

22,144.98

99.14%

Europe

1,783.04

97.43%

1,830.06

100.00%

1,548.48

84.61%

Japan

1,273.58

95.82%

1,304.47

98.14%

1,309.28

98.50%

South Korea

2,345.90

92.60%

2,250.45

88.83%

2,277.29

89.89%

Total

25,792.81

55.80%

42,903.75

92.82%

38,421.51

83.12%

Prior to verification, the Sponsor and the Reporting Accountant understand internal control related to the Issuer's sales revenue, and implement the walk-through procedure and control test procedure for the key internal control points; and no abnormality is found in the test results. Therefore, while relying on the internal control of the Issuer, the Sponsor and the Reporting Accountant conduct tests of details for the customers and transactions based on audit sampling according to the relevant provisions of the Sponsor Due Diligence Guidelines, Auditing Standards for Chinese Certified Public Accountants No. 1314 - Audit Sampling, and the application guide, following the principle of risk-oriented verification, and combining with the evidence obtained through verification of seeking confirmation, field interview and video interview, E-port data, VAT system data, post-period collection and bank statements, to ensure that customers of different transaction sizes in different regions and industries can be selected.

4. Verification of accounts receivable

The Sponsor and the Reporting Accountant implemented the following

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verification procedures for the accounts receivable of the Issuer at the end of each phase of the reporting period:

(1) The reason and rationality of the change in the balance of accounts receivable at the end of each phase of the reporting period in combination with the operating income was analyzed; the sales contracts signed between the Issuer and major customers were obtained, the credit policies agreed in the contracts, were viewed and analyzed whether there were changes in the credit policies of major customers during the reporting period;

(2) The financial principal of the Issuer was interviewed, the design effectiveness of the Company's internal control over the recognition of accounts receivable was understood and evaluated, and the operation effectiveness of key controls was tested;

(3) The balance of accounts receivable at the end of each phase of the reporting period of the Issuer was confirmed by letter, and alternative procedures were implemented for letters that were not replied, as follows:

In RMB0'000

Item

End of 2021

End of 2020

End of 2020

Original Value of accounts receivable

22,195.99

15,376.06

13,113.26

Amount on the external confirmations

20,669.33

14,232.03

12,685.87

Proportion by confirmation request letter ③=②/①

93.12%

92.56%

96.74%

Amount corresponding to the reply and after discrepancy adjustment

17,920.31

14,055.55

12,586.92

Ratio of consistency with the reply

86.70%

98.76%

99.22%

Amount for implementing the alternative procedures

2,749.02

176.48

98.95

Proportion of implementing the alternative procedures

13.30%

1.24%

0.78%

Confirmable amount

20,669.33

14,232.03

12,685.87

Proportion of identifiable amount

100.00%

100.00%

100.00%

(4) The aging statement of the accounts receivable of the Issuer was obtained during the reporting period and the subsequent payment collection statement, and the subsequent payment collection was checked,

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As of May 31,2022, the post period collection of receivables at the end of each phase of the reporting period is as follows:

In RMB0'000

Item

End of 2021

End of 2020

End of 2019

Balance of accounts receivable

22,195.99

15,376.06

13,113.26

Amount subject to the post-period collected

19,914.05

15,128.70

13,034.47

Proportion of amount subject to the post-period collected

89.72%

98.39%

99.40%

(5) The risk of accounts receivable recovery was analyzed whether the provision for bad debts was sufficient in combination with the collection after the reporting period, and the uncollected exposure after the reporting period was compared with the provision for bad debts to determine whether there was insufficient provision for bad debts.

(6) The details of the Issuer's single provision for bad debt reserves were obtained during the reporting period, and the reasons and rationality of the single provision were analyzed.

(7) The bad debt accrual policies of accounts receivable of comparable companies in the same industry were inquired, compared and analyzed whether there were significant differences between the Issuer's bad debt accrual policies of accounts receivable and the bad debt accrual ratio and comparable companies in the same industry, and the reasons and rationality of the difference were analyzed according to the situation of each entity;

(8) The internal valuation experts of the Reporting Accountant were introduced to review the rationality of the Issuer's expected credit loss model, and the results were recalculated and compared with the Issuer according to the model;

(9) The main customers of the Issuer were interviewed during the reporting period, the credit reports of the main overseas customers, the basic information of the domestic customers and the relevant public information were obtained through public

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channels, the transactions between both parties were confirmed, and the industry status, credit status, and business status, etc. of the customers were attended and analyzed.

After verification, the Sponsor believe that: the amount of the accounts receivable of the Issuer is true, accurate and complete, the bad debt accrual policy of accounts receivable is reasonable, and the bad debt accrual is sufficient at the end of each phase of the reporting period.

The Reporting Accountant believes that: the Issuer's explanations with respect to that the amount of the accounts receivable is true, accurate and complete, the bad debt accrual policy of accounts receivable is reasonable, and the bad debt accrual is sufficient are in conformity with our understanding.

In conclusion, the Sponsor and the Reporting Accountant carry out sufficient verification of substantive procedures such as the test of details, and the relevant verification matches with the stratified and regional characteristics of the Issuer's customers.

(IV) The verification method, proportion and conclusion of terminal sales with sales revenue through AXT, and whether a third-party basis has been obtained;

For determining the authenticity of terminal sales with sales revenue through AXT, the Sponsor and the Reporting Accountant conduct the following verification procedures:

1. Check the sales contracts between AXT and major end customers, identify the terms related to the main risks of commodity ownership and remuneration/control transfer, and evaluate whether the revenue confirmation policy complies with the provisions of the Accounting Standards for Business Enterprises;

2. Perform sampling inspection on the sales revenue through AXT, and check the original documents such as production orders and customs declaration forms, as detailed below:

In RMB0'000

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Item

2021

2020

2019

Revenue covered by sampling

5,421.02

14,459.44

9,988.47

Revenue of sales through AXT

5,979.70

28,196.51

22,144.98

Coverage ratio

90.66%

51.28%

45.10%

AXT will not engage in the sales business after executing the sales contract signed before March 2021. In 2021, the period of sales from the Company to AXT was from January to June.

3. Implement analytical procedures, check the fluctuations of major customers through AXT during the reporting period, and learn from the Issuer about the business cooperation background of new major end customers and the main reasons for revenue fluctuations;

4. Perform seeking confirmation for the products sold by major end customers during the reporting period after looking through AXT, as detailed below:

In RMB0'000

Item

2021

2020

2019

Proportion of amount from major customers covered by confirmation request letter in AXT's operating revenue

68.50%

75.51%

68.63%

Proportion of reply (calculated by the reply amount of operating revenue)

77.41%

62.84%

53.43%

5. Obtain the sales details of AXT during the reporting period, and check through comparison whether there is a significant difference between its revenue and the revenue of the Issuer during the reporting period. Meanwhile, perform a closed-loop analysis through combining the sales volume of the Issuer to AXT, the sales volume of AXT to its end customers and AXT's inventory of finished products at the end of the period, to confirm whether the closed-loop discrepancy is reasonable;

In each phase of the reporting period, the quantity of semiconductor substrate materials sold by the Issuer to AXT and by foreign sales of AXT in the current period is shown below:

Year

Quantity sold by the Company to AXT (pieces)

Quantity of foreign sales by AXT (pieces)

Discrepancy (pieces)

= -

8-1-193

2021

143,730.00

168,938.00

-25,208.00

2020

624,454.00

621,608.00

2,846.00

2019

596,976.00

576,488.00

20,488.00

As shown in the table above, the quantity of semiconductor substrate materials sold by the Company to AXT during the reporting period is basically consistent with the quantity of foreign sales.

6. Interview with end customers after looking through AXT, to see whether the products sold by the Company through AXT have been finally sold; during the reporting period, the amount covered by the interview and its proportion in revenue from sales of AXT are as follows:

In RMB0'000

Period

Amount covered by the interview

Revenue of sales through AXT

Proportion

2021

4,377.73

5,979.70

73.21%

2020

21,230.96

28,196.51

75.30%

2019

16,226.69

22,144.98

73.27%

7. Compare AXT's receivables at the end of 2019 and 2020 with the Issuer's receivables from AXT, as detailed below:

In RMB0'000

Time point

The Issuer's receivables from AXT

AXT's receivables

Discrepancy ratio

12/31/2020

5,376.26

6,267.96

-14.23%

12/31/2019

6,367.90

6,484.32

-1.80%

AXT's receivables are slightly different from the Issuer's receivables from AXT at the end of 2019 and 2020.

8. Check the flow of AXT during the Reporting Period to determine whether all its receipts come from its final customers and whether there are large and abnormal non-operating capital transactions between AXT and the issuer and related parties;

9. Check the credit reports and other publicly available information of major overseas end customers, verify their business scale and shareholder composition, check the questionnaire filled in by the Issuer, directors, supervisors and senior

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managers, and confirm whether there is any correlation between overseas end customers and the Company and related parties;

10. Check the account statements of the Issuer, directors, supervisors, senior managers, important financial personnel and other interested parties during the reporting period to confirm whether the Company has external collection.

After verification, the Sponsor and the Reporting Accountant believe that the revenue of the Company from the sales with AXT is authentic, accurate and complete during the reporting period.

(V) The verification method, proportion and conclusion of terminal sales with sales revenue through AXT-Tongmei, and whether a third-party basis has been obtained.

For determining the authenticity of the sales revenue realized through AXT-Tongmei, the Sponsor and the Reporting Accountant conduct the following verification procedures:

1. Understand the key internal control related to revenue through AXT-Tongmei, evaluate the internal control design, determine whether it has been implemented, and test the operation effectiveness of relevant internal control;

2. Check the main sales contracts, identify the terms related to the main risks of commodity ownership and remuneration/control transfer, and evaluate whether the revenue confirmation policy complies with the provisions of the Accounting Standards for Business Enterprises;

3. AXT-Tongmei is responsible for the sales of semiconductor substrate materials in overseas regions, and in most cases, the products are directly declared at the customs and delivered by the domestic entity to the sites designated by the customers; the intermediary performs sampling inspection of sales revenue realized through AXT-Tongmei, and checks the original contracts, invoices, customs declaration forms, logistics records, as detailed below:

In RMB0'000

Item

2021

Revenue covered by sampling

13,753.64

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Revenue of sales through AXT-Tongmei

31,353.89

Coverage ratio

43.87%

4. Conduct a cut-off test on the sales situation before and after the balance sheet date, check the outbound delivery orders, customs declaration forms, packing lists, bills of lading, logistics forms, invoices and other documents, and check whether the revenue is intertemporal;

5. Implement analytical procedures, combine the revenue recognized through AXT-Tongmei with that recognized through AXT in 2021, and analyze the revenue recognized through AXT after looking through the end customers together with the same; check the fluctuations of revenue of end customers during the reporting period, and learn from the Issuer about the business cooperation background of new major end customers and the main reasons for revenue fluctuations;

6. Implement seeking confirmation for sales through AXT-Tongmei, as detailed below:

In RMB0'000

Item

2021

Amount covered by confirmation request letter①

29,235.75

Amount covered by reply②

20,618.08

Revenue of sales through AXT-Tongmei③

31,353.89

Proportion of amount covered by confirmation request letter in the revenue of sales through AXT-Tongmei④=①/③

93.24%

Proportion of revenue corresponding to the reply and after discrepancy adjustment⑤=②/①

70.52%

Revenue of alternative testing⑥

8,617.67

Proportion of alternative testing⑦=⑥/①

29.48%

Identifiable proportion⑧=⑤+⑦

100.00%

7. Obtain the sales details of domestic companies with AXT-Tongmei, obtain the Issuer's E-port data, the declaration form of tax exemption, offset or rebate and approval notice, to confirm the accuracy and completeness of such sales details. Later, perform a closed-loop analysis through combining the sales volume of domestic companies to AXT-Tongmei, the sales volume of AXT-Tongmei to its end customers

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and AXT-Tongmei's inventory of finished products at the end of the period, to confirm whether the closed-loop discrepancy is reasonable;

8. Interview with AXT-Tongmei's customers, to see whether the products sold by the Company through AXT-Tongmei have been finally sold; during the reporting period, the amount covered by the interview and its proportion in revenue from sales of AXT-Tongmei are as follows:

In RMB0'000

Period

Amount covered by the interview

Revenue of sales through AXT-Tongmei

Proportion

2021

23,977.02

31,353.89

76.47%

9. Obtain the flow of AXT-Tongmei in 2021, and check whether all its receipts come from the end customer, and whether there are large and abnormal non-operating capital transactions with the issuer and related parties; in 2021, the income and corresponding payment collection of US Stock AXT-Tongmei are as follows:

In RMB0'000

Items

Amount

Sales revenue of AXT-Tongmei

31,353.89

Collected amount in 2021

19,863.84

Collected amount in January -April of 2022

7,986.06

Total collected amount

27,849.90

Proportion of Collected amount

88.82%

10. Check the credit reports and other publicly available information of AXT-Tongmei's customers, verify their business scale and shareholder composition, check the questionnaire filled in by the Issuer, directors, supervisors and senior managers, and confirm whether there is any correlation between overseas end customers and the Company and related parties;

11. Check the account statements of the Issuer, directors, supervisors, senior managers, important financial personnel and other interested parties during the reporting period to confirm whether the Company has external collection;

After verification, the Sponsor and the Reporting Accountant believe that the

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revenue of the Company from the sales with AXT-Tongmei is authentic, accurate and complete during the reporting period.

In conclusion, the Sponsor and the Reporting Accountant believe that the domestic and overseas revenue of the Company is true, accurate and complete during the reporting period.

4.2

According to the Prospectus and the replies to the first round of inquiries, (1) the gross profit margin of the Issuer's subdivided product categories fluctuated greatly during the reporting period, which is mainly due to: business handover, production line relocation, changes in upstream raw material prices, etc.; (2) the overseas sales and procurement businesses of the Issuer have been handed over from AXT to AXT-Tongmei since March 2021, resulting in relatively large changes in the sales and purchase prices; (3) the changes in the sales prices of the Issuer's semiconductor substrate products were inconsistent with the changes in the purchase prices of raw materials, specifically, the purchase unit price of indium phosphide polycrystalline decreased, the sales unit price of InP substrates increased by 74.98% in 2021, the purchase unit price of gallium increased by 80.45%, and the sales unit price of GaAs substrates decreased by 6.14% in 2021.

The Issuer is required to explain: (1) excluding the impact of business handover, specifically analyze the changes in the gross profit margin of various products during the reporting period; (2) the comparison between the purchase unit prices and the market prices of the main raw materials in each phase of the reporting period, and the reason for and rationality of the inconsistent changing trends between the sales prices of semiconductor substrates and the purchase prices of raw materials, and the impact on the gross profit margin of the corresponding products.

Reply:

I. Explanations from the Issuer

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(i) Fluctuation of gross profit margin during the reporting period

The Issuer's gross profit margin was 19.43%, 25.68% and 34.53% respectively during the reporting period. The factors affecting the Issuer's gross profit margin are analyzed as follows in combination with different products:

Type of product

Change of revenue share

Change of gross profit margin

Change of gross profit margin due to the variation of unit price

Change of gross profit margin due to the variation of the cost per unit =-

Change of exchange rate

Total impact =①+②+⑤

Comparison between 2021 and 2020

InP substrate

4.25%

6.83%

10.29%

-3.48%

-1.64%

9.42%

GaAs substrate

-0.91%

6.60%

-0.23%

6.83%

-1.55%

4.14%

Germanium substrate

-0.62%

-1.71%

-1.26%

-0.45%

-0.20%

-2.53%

PBN crucible

-1.35%

0.02%

0.00%

0.02%

-0.18%

-1.51%

High-purity metal and compound

0.82%

-0.97%

4.24%

-5.21%

-0.01%

-0.16%

Other products

0.21%

-0.55%

-1.37%

0.82%

-0.12%

-0.46%

Subtotal of main business revenue

2.40%

10.22%

11.67%

-1.45%

-3.69%

8.92%

Other business revenue

-0.40%

0.33%

0.34%

-0.01%

0.00%

-0.07%

Total

2.00%

10.55%

12.01%

-1.46%

-3.69%

8.85%

Comparison between 2020 and 2019

InP substrate

-0.76%

-0.46%

-1.32%

0.86%

0.02%

-1.20%

GaAs substrate

-0.13%

7.09%

8.21%

-1.12%

0.08%

7.04%

Germanium substrate

-0.19%

-0.34%

-0.51%

0.17%

0.04%

-0.49%

8-1-199

PBN crucible

-0.66%

0.49%

0.51%

-0.02%

0.00%

-0.17%

High-purity metal and compound

0.42%

0.62%

1.27%

-0.65%

0.00%

1.04%

Other products

-0.87%

0.80%

0.54%

0.26%

0.12%

0.05%

Subtotal of main business revenue

-2.19%

8.20%

8.69%

-0.50%

0.26%

6.27%

Other business revenue

0.01%

-0.03%

0.00%

-0.03%

0.00%

-0.02%

Total

-2.18%

8.17%

8.69%

-0.53%

0.26%

6.25%

①=The revenue share of the year-the revenue share of last year)×the gross profit margin of last year

②=(The gross profit margin of the year-the gross profit margin of last year)×the revenue share of the year

③=The revenue share of the year×[(the unit price of the year-the impact of the fluctuation of exchange rate to the unit price-the cost of last year)/the unit price of the year-the gross profit margin of last year]

⑤=The revenue share of the year×the impact of the fluctuation of exchange rate to the unit price/the unit price of the year

Generally, the rapid rise of overall gross profit margin of the Companyduring the reporting period was mainly due to the following factors:

1. Increase in gross profit margin in 2020

In 2020, the gross profit margin increased from 19.43% to 25.68%, mainly because: (1) the Company adjusted its external pricing mechanism according to the price rise of raw materials; (2) The demand for large-size substrate materials in the industry increased; (3) The production cost optimization caused by the relocation of production line is specifically reflected as follows:

(1) The Company adjusted the external pricing mechanism according to the price rise of raw materials

The price of industrial raw materials is rose generally with the influence of the domestic economic environment and the new coronal pneumonia epidemic. As one of

8-1-200

the main raw materials of the gallium arsenide substrate and high-purity metal and compound products of the Company, the average purchase unit price of gallium arsenide substrate and high-purity gallium increased by 12.69% in 2020. The Company promptly adjusted the price of external gallium arsenide substrate and high-purity gallium products according to the relevant raw material market, reflected by its high-purity gallium products, the external sales price of high-purity gallium of the Company increased by 16.28% year-on-year in 2020.

(2) Industry demand for large-size substrate materials increased

Similar to silicon substrates, III-V compound semiconductor substrates are also evolving to larger sizes. The larger the diameter of the compound semiconductor substrate, the more chips could be fabricated on a single substrate, and the lower the cost of manufacturing a unit chip. Meanwhile, manufacturing rectangular chips on a circular substrate made some areas at the edge of the substrate unusable. The larger the diameter of the substrate, the smaller the loss of the edge of the substrate, which was conducive to further reducing the cost of the chip.

In 2020, the sales of 6-inch GaAs substrate materials of the Company increased from 23.04% to 26.56%. As the area of 6-inch is 9 times that of 2-inch, its unit price was much higher than that of small-size products, driving the average sales unit price of GaAs substrate materials to rise from RMB 378.50 per piece to RMB 466.33 per piece in 2020.

(3) Production cost optimization caused by production line relocation

Since 2019, the GaAs production line has been relocated to Chaoyang, Liaoning and Baoding of Hebei. The personnel proficiency has been improved with the completion of the relocation, and its labor cost and fuel cost were relatively low. Under the condition of further increase in large-scale sales, the unit cost remained relatively stable. In 2020, the unit cost of GaAs substrate only increased by 3.13% year-on-year.

Generally, the above three reasons were comprehensively reflected in the increase in the gross profit margin of gallium arsenide substrate and high-purity metal

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and compound products, thus increasing the overall gross profit margin of the Company in 2020.

2. Increase in gross profit margin in 2021

In 2021, the gross profit margin increased from 25.68% to 34.53%, mainly due to: (1) business switching between AXT and the Company; (2) Changes in revenue structure of the product; (3) The embodiment of scale effect is as follows:

(1) Business switching between AXT and the Company

In March, 2021, America Tongmei undertook the overseas sales business and related customers of AXT. In May, 2021, the Company completed the acquisition of America Tongmei. From 2019 to March 2021, the overseas semiconductor substrate materials of the Company had been sold through AXT, which maintained a certain profit margin; after the completion of business switching, the Company directly faced to the end customers of AXT and significantly improved the pricing of indium phosphide substrate products, which led to a rapid increase in the revenue of Indium Phosphide Substrates and led to an increase in the gross profit margin of the product in 2021.

(2) Changes in product revenue structure

Customers' orders have also increased with the increase of global downstream demand for optical chips, optical module epitaxy and devices. In 2021, the sales of indium phosphide products of the Company increased by 26.26%; meanwhile, the revenue share of indium phosphide substrate increased rapidly with the influence of the rapid rise in unit price after business switching. The product increased the overall gross profit margin of the Company to 9.42% due to the relatively high gross profit margin of the product itself.

(3) Embodiment of scale effect

The labor and fuel costs were relatively lower than those in Beijing before the relocation with the operation of Baoding Plant and Chaoyang Plant; meanwhile, the sales volume of gallium arsenide substrate increased by 15.65% compa