U.S.
SECURITIES AND EXCHANGE COMMISSION


Washington,
D.C. 20549




FORM
10-K




x
            ANNUAL
      REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF
      1934




For the fiscal year ended December 31,
2009




o
            TRANSITION
      REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934




For the transition period from
______________ to ________________





Commission
File Number: 001-32473




AMERICAN
DAIRY, INC.


(Exact
name of registrant as specified in its charter)




Utah
            90-0208758(State
      or other jurisdiction of  Incorporation or
      organization)
            (I.R.S.
      Employer Identification No.)




Star
City International Building, 10 Jiuxianqiao Road, C-16th Floor


Chaoyang
District, Beijing, China 100016


(Address
of principal executive offices)




Registrant’s
telephone number, including area code: 86 (10) 6431-9357




Securities
registered under Section 12(b) of the Exchange Act:




Title
      of each class
            Name
      of each exchange on which registeredCommon
      Stock
            New
      York Stock Exchange, Inc.




Securities
registered under Section 12(g) of the Exchange Act:  None




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




Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act.   o  Yes   
x  No




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




Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). o  Yes   
o 
No




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




Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition
of “accelerated filer and large accelerated filer” in Rule 12b-2 of
the Exchange Act. (Check one):




Large
      accelerated filer o
            Accelerated
      filer x
            Non-accelerated
      filer o
            Smaller Reporting Company x




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




The
aggregate market value of the voting and non-voting common equity held by
non-affiliates of the registrant as of the last business day of the
registrant’s most recently completed second fiscal quarter, based upon the
closing sale price of the registrant’s common stock on June 30, 2009 as
reported on the NYSE, was approximately $267,000,000.




As of
March 10, 2010, there were 21,707,376 shares of the
registrant’s common stock outstanding.




DOCUMENTS
INCORPORATED BY REFERENCE




Certain
information is incorporated by reference to the Proxy Statement for the
registrant’s 2010 Annual Meeting of Shareholders to be filed with the Securities
and Exchange Commission pursuant to Regulation 14A not later than 120 days after
the end of the fiscal year covered by this Form 10-K.









TABLE
OF CONTENTS




PART IItem 1.
            
            Business
            
            1Item 1A.
            
            Risk Factors
            
            11Item 1B.
            
            Unresolved Staff Comments
            
            21Item 2.
            
            Properties
            
            21Item 3.
            
            Legal Proceedings
            
            22Item 4.
            
            (Removed and Reserved)
            
            22PART IIItem 5.
            
            Market for the Registrant’s Common Stock, Related
      Shareholder Matters and Issuer Repurchases of Equity
      Securities
            
            23Item 6.
            
            Selected Financial Data
            
            25Item 7.
            
            Management’s Discussion and Analysis of Financial
      Condition and Results of Operations
            
            26Item 7A.
            
            Quantitative and Qualitative Disclosures About
      Market Risk
            
            36Item 8.
            
            Financial Statements and Supplementary
      Data
            
            37Item 9.
            
            Changes in and Disagreements with Accountants on
      Accounting and Financial Disclosure
            
            37Item 9A.
            
            Controls and Procedures
            
            37Item 9B.
            
            Other Information
            
            39PART IIIItem 10.
            
            Directors, Executive Officers and Corporate
      Governance
            
            40Item 11.
            
            Executive Compensation
            
            40Item 12.
            
            Security Ownership of Certain Beneficial Owners
      and Management and Related Shareholder Matters
            
            40Item 13.
            
            Certain Relationships and Related Transactions,
      and Director Independence
            
            40Item 14.
            
            Principal Accountant Fees and
      Services
            
            40PART IVItem 15.
            
            Exhibits and Financial Statement
      Schedules
            
            41





In
this Annual Report on Form 10-K, references to “dollars” and “$” are to United
States dollars and, unless the context otherwise requires, references to
“American Dairy,” “we,” “us” and “our” refer to American Dairy, Inc. and its
consolidated subsidiaries.







PART
I




Item
1. Business





Overview





We are a
leading producer and distributor of milk powder, soybean milk powder, and
related dairy products in the People’s Republic of China, or the
PRC.  Using proprietary processing techniques, we make products that
are specially formulated for particular ages, dietary needs and health
concerns.  We have over 200 company-owned milk collection stations,
two company-owned dairy farms, seven production facilities with an aggregate
milk powder production capacity of approximately 1,234 tons per day and an
extensive distribution network that reaches over 95,000 retail outlets
throughout China.





Corporate
History and Structure





We were
incorporated in the State of Utah on December 31, 1985, originally under the
corporate name of Gaslight, Inc. We were inactive until March 30, 1988, when we
changed our corporate name to Lazarus Industries, Inc. and engaged in the
business of manufacturing and marketing medical devices.  We
discontinued this business in 1991 and became a non-operating public company
shell.  Effective May 7, 2003, we acquired 100% of the issued and
outstanding capital stock of American Flying Crane Corporation, or AFC, a
Delaware corporation that operates a dairy business in China through various
subsidiaries.  In connection with that acquisition, we changed our
name to American Dairy, Inc.




Today, we
own various subsidiaries in the PRC that operate our business,
including:





·
            Heilongjiang
      Feihe Dairy Co., Limited, or Feihe Dairy, which produces, packages and
      distributes milk powder and other dairy
  products;





·
            Gannan
      Flying Crane Dairy Products Co., Limited, or Gannan Feihe, which produces
      milk products;





·
            Shanxi
      Feihesantai Biotechnology Scientific and Commercial Co., Limited, or
      Shanxi Feihe, which produces walnut and soybean products;·
            Langfang
      Flying Crane Dairy Products Co., Limited, or Langfang Feihe, which
      packages and distributes finished
products;





·
            Baiquan
      Feihe Dairy Co., Limited, or Baiquan Dairy, which produces milk
      products;





·
            Heilongjiang
      Feihe Kedong Feedlots Co., Limited, or Kedong Farms, which operates dairy
      farms;





·
            Heilongjiang
      Feihe Gannan Feedlots Co., Limited, or Gannan Farms, which operates dairy
      farms;





·
            Heilongjiang
      Aiyingquan International Trading Co., Limited, or Aiyingquan, which
      markets and distributes water and cheese, specifically marketed for
      consumption by children; and





·
            Heilongjiang
      Flying Crane Trading Co., Limited, or Heilongjiang Trading, which sells
      milk and soybean related products.




1


The
following chart reflects the current corporate structure of the American Dairy
entities:










*  Indicates
a nominee shareholder who, pursuant to a former requirement under the PRC
Company Law that certain PRC companies have at least two shareholders, holds its
equity interest for the benefit of the majority shareholder.




Principal
Products





Our
products fall into four main product categories: milk powder, soybean
powder, rice cereal and walnut and other products.





Milk
Powder


Milk
powder is our primary product and is divided into several
sub-categories.  We produce milk powder for infants and young children
formulated for zero to six months, six months to one year, one to three years
and three to six years of age.  We also produce milk powder for
expectant mothers, students and for the middle-aged and elderly
populations.  In addition, we occasionally purchase semi-finished milk
powder, which we refer to as “raw milk powder,” from third parties, which we
then process and distribute to beverage manufacturers and other wholesalers for
use in their blended drink products.




2





Soybean
Powder


Soybean
powder is an auxiliary product to our milk powders and represents a low fat,
high calcium alternative to milk powder, particularly for seniors.





Rice
Cereal


Rice
cereal is an auxiliary product to our milk powders and represents a low fat,
high calcium alternative to milk powder, particularly for young children,
teenagers, and seniors.  We purchase semi-finished rice cereal from
third parties, process it, and then distribute it to wholesalers and
retailers.





Walnut
and Other Products


We
produce other auxiliary products that we market in conjunction with our infant
milk powder, as well as to health-conscious adults.  Walnut products
include walnut powder and walnut oil.  Other products include cream,
skim milk powder, full milk powder, butter, cheese and other related milk powder
products and water and cheese marketed specifically for children.





Product
Sales





The
following table reflects the sales of our principal products during the fiscal
years ended December 31, 2009 and 2008:





2009
            
            2008
            
            2009
      over 2008Product name
            
            Quantity
              (Kg’000)
            
            Amount
              ($’000)
            
            % of
              Sales
            
            Quantity
              (Kg’000)
            
            Amount
              ($’000)
            
            % of
              Sales
            
            Quantity
              (Kg’000)
            
            Amount
              ($’000)
            
            % of
              SalesMilk
      powder
            
            
            28,783
            
            
            
            216,230
            
            
            
            79.8
            
            
            
            16,311
            
            
            
            121,255
            
            
            
            62.8
            
            
            
            12,472
            
            
            
            94,975
            
            
            
            78.3Raw
      milk powder
            
            
            11,637
            
            
            
            34,328
            
            
            
            12.7
            
            
            
            16,572
            
            
            
            60,753
            
            
            
            31.4
            
            
            
            (4,935)
            
            
            
            (26,425)
            
            
            
            (43.5)Soybean
      powder
            
            
            3,349
            
            
            
            7,319
            
            
            
            2.7
            
            
            
            2,153
            
            
            
            4,400
            
            
            
            2.3
            
            
            
            1,196
            
            
            
            2,919
            
            
            
            66.3Rice
      cereal
            
            
            1,103
            
            
            
            6,730
            
            
            
            2.5
            
            
            
            816
            
            
            
            4,631
            
            
            
            2.4
            
            
            
            287
            
            
            
            2,099
            
            
            
            45.3Walnut
      products
            
            
            601
            
            
            
            3,070
            
            
            
            1.1
            
            
            
            327
            
            
            
            1,663
            
            
            
            0.9
            
            
            
            274
            
            
            
            1,407
            
            
            
            84.6Other
            
            
            543
            
            
            
            3,401
            
            
            
            1.3
            
            
            
            727
            
            
            
            490
            
            
            
            0.3
            
            
            
            (184)
            
            
            
            2,911
            
            
            
            594.1Total
            
            
            46,016
            
            
            
            271,078
            
            
            
            100
            
            
            
            36,906
            
            
            
            193,192
            
            
            
            100
            
            
            
            9,110
            
            
            
            77,886
            
            
            
            40




Sources
of Milk





We have
entered into supply contracts with numerous small dairy farmers that have
provided us access to over 200,000 cows that provide milk to our over 200
company-owned milk collection stations.  On average, each cow provides
four tons of milk per year, which farmers deliver to our milk collection
stations.  In addition, we own two dairy farms, Gannan Farms and
Kedong Farms, construction of which we completed in the fourth quarter of
2009.   Gannan Farms and Kedong Farms currently house a total of
approximately 14,000 Australian Holstein cows, each of which, on average,
provides us with 8-10 tons of milk per year.  We expect that each
of our dairy farms will have annual capacity to source up to 70,000 tons of
fresh milk per year.





Raw
Milk Processing





We
believe that, through purchasing raw milk locally and employing minimal
processing techniques, we are able to preserve the fresh taste of
milk.  The industry standard for the time it takes for raw milk to be
converted to milk powder is approximately 48 hours.  Many large
regional dairies, we believe, process raw milk that may be three to four days
old.  Milk processed by conventional farms for sale to regional
dairies is typically stored at the farm for a minimum of two days, commonly
spends a full day in transit to the dairy facility, and is processed the
following day.




3





However,
our standard is to process the raw milk within 6-24 hours after milking,
depending upon the time of day the raw milk is delivered to
us.  Within this time, the milk is chilled, transported, separated,
sterilized and spray-dried.  The raw milk is first received from milk
collection centers or from our company-owned dairy farms.  Fully
enclosed, stainless-steel vacuum milking machines are used to receive the raw
milk.  Once received, the raw milk will no longer have any contact
with air and is immediately processed with refrigeration equipment that cools
the raw milk within four seconds to approximately zero to four degrees
Celsius.  The raw milk is then stored in air-tight tanks in
preparation for advanced processes, which include milk fat separation,
sterilization and spray-drying.





The milk
used in our products is not homogenized.  During homogenization,
pressurized milk is forced through openings smaller than the size of the fat
globules present in milk, breaking them into smaller particles.  Thus
treated, the milk fat remains suspended and does not separate out in the form of
cream.  We believe that this process adversely affects the taste and
feel of milk.  In addition, our milk is pasteurized at the lowest
temperatures allowed by law to avoid imparting a cooked flavor to the
milk.  When the milk is clarified and the butterfat removed to yield
cream and skim milk, a process of cold separation is used, rather than the more
commonly employed hot separation, which we believe adversely affects the flavor
of the milk.





Dairy
Product Processing





Our
products are made in small batches using minimal processing techniques to
maintain freshness and allow maximum flavor and nutrition retention.  They
are made with wholesome ingredients and no chemicals or additives are
employed.  Our dairy products arrive to consumers in our marketing
area sooner after production than most other dairy products because they are
produced locally.  To assure product quality, the beginning of each
production run is sampled for flavor, aroma, texture and appearance.  In
addition, inspectors conduct spot-checks for bacteria and butterfat content in
our products, as well as sanitary conditions in our facilities.





Quality
Assurance





We are
committed to delivering high-quality dairy products.  We apply a
25-step quality control process that involves over a hundred points of testing
from the feed for the dairy cows, throughout our manufacturing process, and
extending to semi-finished products, which we purchase from third parties for
further processing, and finished products.





The
production facilities we have constructed comply with pharmaceutical good
manufacturing practice, or GMP, standards, a higher level of quality control
than required for consumer goods manufacturing facilities.  Since
2000, our production facilities have obtained ISO 9002 and HACCP quality
assurance certifications, as well as quality certifications from the PRC
regulatory authorities.  Our processing equipment is manufactured by
well-known European manufacturing companies.  We use whole-sealing and
mechanized vacuum milk-pressing devices with freezing equipment for each milk
station, which allows us to reduce the temperature of raw milk to zero to four
degrees Celsius within seconds for storage.  Our equipment also
eliminates external air contact from the time milk is collected through the time
that it is fully processed.  We employ automated processes and
scientific parameters throughout the manufacturing process that are designed to
ensure that all products meet our quality requirements.  We have
in-house laboratories that utilize proprietary in-line sampling techniques to
ensure the quality and safety of the entire production process, from raw
materials to semi-finished products to finished products.  We believe
that our rigorous testing and inspection procedures have been critical in
ensuring that our products are free from melamine and other contaminants, are
premium quality products and are safe and healthy for customers.





Production
and Packaging Facilities





We own
and operate seven production and packaging facilities.  The production
facilities we have constructed comply with pharmaceutical GMP standards, a
higher level of quality control than required for consumer goods manufacturing
facilities.  Since 2000, our production facilities have obtained ISO
9002 and HACCP quality assurance certifications, as well as quality
certifications from the PRC regulatory authorities.  We believe that
our design standards help us assure our product quality.  We believe
that we are one of the few PRC milk producers that has processing areas that
meet a 300,000 cleanliness purification standard, which means that there are
less than 300,000 dust particles per cubic centimeter of air.  In a
standard room, dust particles can reach over two million dust particles per
cubic centimeter of air.  Continuing our commitment to quality, we
have also added testing equipment and other quality control procedures to our
processing equipment manufactured by known European and American manufacturing
companies.




4





Feihe
Dairy


Located
in Kedong, Heilongjiang Province, China, the Feihe Dairy premises comprise
approximately 88,221 square meters.  The plant is approximately 9
years old, although it was completely remodeled in 2005.  Feihe Dairy
principally produces infant milk formula and has a production capacity of 550
tons per day of milk powder.  In addition, Feihe Dairy serves as a
packaging facility and packages approximately 22,000 tons of products per
year.





Gannan
Feihe


Located
in Heilongjiang Province, China, the Gannan Feihe premises comprise
approximately 300,000 square meters.  The plant is approximately 4
years old and commenced milk powder production in 2008.  It is
currently under expansion and is expected to be finished in August
2010.  Gannan Feihe principally produces infant milk formula and has a
production capacity of approximately 300 tons per day of milk
powder.





Langfang
Feihe


Located
in Hebei Province, China, the Langfang Feihe premises comprise approximately
80,243 square meters.  The plant is approximately 4 years old and
commenced operations in 2007.  Langfang Feihe primarily serves as a
packaging and distribution facility and packages approximately 50,000 tons of
products per year.





Shanxi
Feihe


Located
in Shanxi Province, China, the Shanxi Feihe premises comprise approximately
40,000 square meters.  The plant is approximately 6 years
old.  Shanxi Feihe principally produces soybean powder, walnut powder
and walnut oil and has a production capacity of approximately 5,000 tons per
year of soybean powder and walnut powder combined, and 1,000 tons per year of
walnut oil.





Baiquan
Dairy


Located
in Heilongjiang Province, China, the Baiquan Dairy premises comprise
approximately 36,000 square meters.  The plant is approximately 18
years old, although it was completely remodeled in 2004.  Baiquan
Dairy principally produces infant milk formula and has a production capacity of
approximately 100 tons per day of milk powder.




Qiqihaer
Feihe


Located
in Heilongjiang Province, China, the Qiqihaer Feihe premises comprise
approximately 90,000 square meters.  The plant is approximately 5
years old.  Qiqihaer Feihe principally produces infant milk formula
and adult milk formula and has a production capacity of approximately 270 tons
per day of milk powder.  Qiqihaer Feihe also produces butter and has a
production capacity of approximately 15 tons per day.





Longjiang
Feihe


Located
in Heilongjiang Province, China, the Longjiang Feihe premises comprise
approximately 29,690 square meters. The plant is approximately 19 years old and
is currently under expansion which is expected to be complete in May 2011.
Longjiang Feihe produces adult milk formula and has a production capacity of
approximately 16 tons per day of milk powder. Longjiang Feihe also produces raw
milk powder and has a production capacity approximately 11 tons per
day.




5





The table
below summarizes key information regarding our production and packaging
plants.




Facility
            
            Province/
              Region
            
            Products
            
            Production
              Capacity
            
            Packaging Capacity
              (tons/year)Feihe Dairy
            
            Heilongjiang
            
            Infant milk formula
            
            550 (tons/day)
            
            
            22,000Gannan Feihe
            
            Heilongjiang
            
            Infant milk formula
            
            300 (tons/day)
            
            
            N/ALangfang Feihe
            
            Hebei
            
            N/A
            
            N/A
            
            
            50,000Shanxi Feihe
            
            Shanxi
            
            Walnut powder
      & Soybean powder;
            
            5,000 (tons/year)
            
            
            N/AWalnut
      oil
            
            1,000 (tons/year)Baiquan Dairy
            
            Heilongjiang
            
            Infant milk formula
            
            100 (tons/day)
            
            
            N/AQiqihaer Feihe
            
            Heilongjiang
            
            Infant milk formula; Adult milk powder
            
            270 (tons/day)
            
            
            N/AButter
            
            15 (tons/day)Longjiang
      Feihe
            
            Heilongjiang
            
            Adult milk powder;
            
            14
      (tons/day)
            
            
            N/ARaw
      milk powder
            
            10
      (tons/day)





Sources
of Walnut and Soybeans





We order
walnuts and soybeans from local farmers for delivery to the Feihe
Dairy.  We then distribute these raw materials to our facilities as
necessary.





Product
Distribution





Currently,
our products are sold in stores nationwide throughout China, except in Hong Kong
SAR, Macau SAR and Taiwan.  Prior to distribution, we route our
products to our Feihe Dairy and Langfang Feihe for final
packaging.  Feihe Dairy then distributes our finished products
primarily in northeastern China, including Heilongjiang, Jilin and Liaoning
Provinces, and Langfang Feihe distributes our finished products throughout the
rest of China.  We have a distribution team based in our corporate
headquarters that coordinates with a network of over 450 dealers or
representatives in key provinces across China.  The dealers, in turn,
each typically hire one or two secondary agents who assist in the distribution
process, including inventory management, product sales, customer service and
payments.  Dealer agents display and sell our products in specially
designated areas in stores.  In addition, in 2008 we began
distributing our raw milk powder to beverage manufacturers and other wholesalers
for use in their blended drink products. In 2010, we established a system to
monitor distributor inventory levels and cross-territory selling
activity.





Generally,
we deliver our products only after receipt of payment from the
dealer.  We typically enter into new agreements with our dealers each
year that specify sales targets and territories, among other
provisions.  We seek to expand the number of key provinces served by
our dealer network as part of our growth strategy and ultimately to establish a
distribution system based upon local production at local dairies.  We
currently distribute our products to 29 provinces in China and to over 95,000
retail outlets.





Customers





No single
customer equaled or exceeded 10% of our sales during the years ended December
31, 2009 or 2008.




Intellectual
Property





We rely
principally on trade secrets and confidentiality agreements to protect our
proprietary product formulations and production processes.  We have
obtained trademark registrations for the use of our trade name “Feihe,” as well
as our “Feifan,” “Feihui,” “Feirei,” “Feiyue,” and “Beidiqi” Chinese brands and
our “Firmus” and “Babyrich” English brand names, which have been registered with
the PRC Trademark Bureau of the State Administration for Industry and Commerce
with respect to our milk products.  We believe our trademarks are
important to the establishment of consumer recognition of our
products.  However, due to uncertainties in PRC trademark law, the
protection afforded by our trademarks may be less than we currently expect and
may, in fact, be insufficient.  Moreover, even if it is sufficient, in
the event any of our trademarks are challenged or infringed, we may not have the
financial resources to defend it against any challenge or infringement and such
defense could in any event be unsuccessful.  Moreover, any events or
conditions that negatively impact our trademark could have a material adverse
effect on our business, operations and finances.




6





Research
and Development





As of
March 10, 2010, we had six technicians engaged in research and development
activities.  These technicians monitor quality control at our
production facilities to ensure that the processing, packaging and distribution
of our milk products result in high quality premium milk products that are safe
and healthy for customers.  These technicians also pursue methods and
techniques to improve the taste and quality of our milk products and to evaluate
new milk products for further production based upon changes in consumer tastes,
trends and the introduction of competitive products by other milk
producers.





During
the fiscal years ended December 31, 2009 and 2008, we spent approximately
$66,000 and $137,000, respectively, per year on research and development,
representing amounts paid in compensation to our six quality control technicians
described above.





Growth
Strategy





We
believe the market for dairy products in China is growing rapidly, including the
market for high quality dairy products.  Our growth strategy involves
increasing market share during this rapid growth phase.  To implement
this strategy, we plan to:




·
            Enhance
      distribution capabilities in PRC markets.  We plan to
      expand our distribution network in first-tier markets in the PRC,
      including Beijing, Shanghai, Guangzhou, Shenzhen and other major second
      and third-tier cities in the Pearl River Delta.  In addition, we plan
      to further increase our sales points across China, focusing on southern
      and western China.  Our currently extensive distribution network,
      which reaches many provincial capital and sub-provincial cities, has
      special channels into first-tier markets that we plan to expand.  We
      believe that positioning our brand as a high-quality line of products in
      these markets will facilitate our
expansion.




·
            Strengthen
      our premium quality brand awareness. We
      believe that our products enjoy a reputation for high quality among those
      familiar with them, and our products routinely pass government and
      internal quality inspections.  We have increased our advertising
      expenses and plan to continue advertising on China Central Television, or
      CCTV, as well as provincial stations in China, in order to market our
      products as premium and super-premium products.  We believe many
      consumers in China tend to regard higher prices as indicative of higher
      quality and higher nutritional value, and as a result consumers with
      higher disposable incomes are increasingly inclined to purchase higher
      priced products, particularly in the areas of infant formula and
      nutritional products.




·
            Align
      sourcing, production and distribution by region.  We believe
      that we can increase our efficiency and decrease our costs if our products
      are produced from local sources and sold in local markets.  We plan
      to select strategic locations for our company-owned collection stations
      and production facilities that will enhance this efficiency.·
            Maintaining
      quality through world-class production processes.  We
      believe we can maintain our production of high quality dairy products by
      continuing to enter exclusive contracts with dairy farmers who can deliver
      quality milk, strengthening our company-owned large-scale dairy farm
      operations, expanding our company-owned collection stations and production
      facilities, and employing comprehensive testing and quality control
      measures.




7




Competition





The dairy
industry in China is highly competitive.  We face significant
competition from large multinational producers, such as Dumex, Mead Johnson,
Abbott and Wyeth, and large national milk companies, such as Synutra, Yashili
and Yili, particularly in more affluent major urban areas.  Many of
our competitors have greater resources and sell more products than we
do.  We believe that our competitive position has improved following
the melamine crisis in 2008, which did not involve any of our
products.  Our products are positioned as premium products and,
accordingly, are generally priced higher than many similar competitive
products.  We believe that the principal competitive factors in
marketing our products are quality, taste, freshness, price and product
recognition.  While we believe that we compete favorably in terms of
quality, taste and freshness, our products are more expensive and less well
known than certain other established brands.  Our premium products may
also be considered in competition with non-premium quality dairy products for
discretionary food dollars.





Government
Regulation





We are
regulated under national, provincial and local laws in China.  The
following information summarizes aspects of those regulations that apply to us
and is qualified in its entirety by reference to all particular statutory or
regulatory provisions.  Regulations at the national, provincial and
local levels in China are subject to change.  To date, compliance with
governmental regulations has not had a material impact on our level of capital
expenditures, earnings or competitive position, but, because of the evolving
nature of such regulations, we are unable to predict the impact such regulations
may have in the foreseeable future.





As a
producer and distributor of nutritional products, and particularly dairy-based
food products in China, we are subject to the regulations of China’s
Agricultural Ministry.  This regulatory scheme governs the manufacture
(including composition and ingredients), labeling, packaging and safety of
food.  Specific PRC laws and regulations we face include:




·
            the
      PRC Product Quality Law;




·
            the
      PRC Food Hygiene Law;




·
            the
      Access Conditions for Dairy Products Processing
  Industry;




·
            the
      Implementation Rules on the Administration and Supervision of Quality and
      Safety in Food Producing and Processing
  enterprises;




·
            the
      Regulation on the Administration of Production Licenses for Industrial
      Products;




·
            the
      General Measure on Food Quality Safety Market Access
      Examination;




·
            the
      General Standards for the Labeling of Prepackaged
  foods;




·
            the
      Implementation Measures on Examination of Dairy Product Production
      Permits;




·
            the
      Standardization Law;




·
            the
      Raw Milk Collection Standard;




·
            the
      Whole Milk Powder, Skimmed Milk Powder, Sweetened Whole Milk Powder and
      Flavored Milk Powder Standards; and




·
            the
      General Technical Requirements for Infant Formula Powder and Supplementary
      Cereal for Infants and Children.




8




We and
our products are also subject to provincial and local regulations through such
measures as the licensing of dairy manufacturing facilities, enforcement of
standards for our products, inspection of our facilities and regulation of our
trade practices in connection with the sale of dairy products.





In March
2008, the PRC National Development and Reform Commission, or the NDRC,
promulgated the Access Conditions for Dairy Products Processing Industry, or the
Access Conditions.  The Access Conditions set forth the conditions an
entity must satisfy in order to engage, or continue to engage, in the dairy
products processing business in China, including technique and equipment,
product quality, energy and water consumption, sanitation and environmental
protection, as well as production safety.  Any new or continuing dairy
products processing projects or enterprises will be required to meet all the
conditions and requirements set forth in the Access Conditions.  For
projects or enterprises that already commenced operations before the
promulgation of the Access Conditions, improvements or rectification actions may
need to be taken in order to have such projects or enterprises meet the
conditions within two years of the effective date of the Access Conditions on
April 1, 2010.





The
Access Conditions also set forth requirements relating to the location,
processing capacity and raw milk source for any new or continuing dairy products
processing project or enterprise.  Any new or continuing dairy
processing projects or enterprises that fail to meet the requirements will not
be able to procure land, license, permits, loan facilities and electricity
necessary for the processing of dairy products, and those projects or
enterprises already in operation before the promulgation of the Access
Conditions will be deregistered and ordered to shut down if they fail to meet
the conditions within a two-year rectification period.





In May
2008, the NDRC issued the Dairy Industry Policies, or the
Policies.  According to the PRC government, the Policies are the first
set of comprehensive government policies on the dairy industry in China,
covering a broad range of matters such as industry planning, closure of
inefficient capacity, milk supply, quality control and product safety,
environmental protection and promotion of milk consumption.  Moreover,
the Policies provide conditions that new entrants to the dairy industry must
meet in addition to the conditions set forth in the Access
Conditions.





As a
result of the melamine crisis, PRC governmental authorities have conducted
several dairy industry inspections.  In addition to the initial 22
companies implicated in the melamine crisis, these subsequent government
inspections have identified other companies with unacceptable contaminants in
dairy products.  The melamine crisis did not involve any of our
products, and we have passed all of these government inspections.  In
addition, we are working with the PRC government and attended several emergency
meetings to discuss ways to improve the dairy and overall food industry in
China.





Environmental
Matters





Our
manufacturing facilities are subject to various pollution control regulations
with respect to noise, water and air pollution and the disposal of waste and
hazardous materials.  We are also subject to periodic inspections by
local environmental protection authorities.  Our operating
subsidiaries have received certifications from the relevant PRC government
agencies in charge of environmental protection indicating that their business
operations are in material compliance with the relevant PRC environmental laws
and regulations.  We are not currently subject to any pending actions
alleging any violations of applicable PRC environmental laws.





Employees





As of
March 10, 2010, we had approximately 3,411 employees on our
payroll.  We had eight group administrators, approximately 634
employees were in marketing and sales, approximately 79 employees provided
marketing support, approximately 320 people were working in our Nutrition
Department as consultants and managers, approximately 236 employees were
performing administrative functions, including financing, auditing and human
resources, and approximately 2,134 employees were in production, storage and
distribution.  Our employees are not represented by a labor union or
covered by a collective bargaining agreement.  We have not experienced
any work stoppages.  We believe that our relations with our employees
are good.




9




Financial
Information about Segments and Geographic Areas





Although
we have historically operated and managed our business as a single
reportable segment, in 2008, with the initial operations of our dairy farms, we
have two reportable segments:  dairy products and dairy farm. Our
dairy products segment produces and sells dairy products, such as wholesale and
retail milk powders, as well as soybean powder, rice cereal, walnut powder and
walnut oil.  Our dairy farm segment operates our two company-owned
dairy farms, Gannon Farms and Kedong Farms, construction of which we completed
in the fourth quarter of 2009.  Our dairy farms provide milk to us and
not to external customers. Please see Note 30 to our audited financial
statements included elsewhere in this report for further discussion about
segments. As we primarily generate our revenues from customers in the PRC,
we do not present geographical segments.





Available
Information





Our
website is www.americandairyinc.com.  We
provide free access to various reports that we file with, or furnish to, the
U.S. Securities and Exchange Commission, or the SEC, through our website, as
soon as reasonably practicable after they have been filed or
furnished.  These reports include, but are not limited to, our annual
reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form
8-K, and any amendments to those reports.  Also available on our
website are printable versions of our Code of Business Conduct and Ethics and
charters of our Audit Committee, Compensation Committee, Nominating/Corporate
Governance Committee and other committees of our board of
directors.  Information on our website does not constitute part of and
is not incorporated by reference into this Annual Report on Form 10-K or any
other report we file or furnish with the SEC.  Our SEC reports can
also be accessed through the SEC’s website at www.sec.gov and may
be read or copied at the SEC’s Public Reference Room located at 100 F Street,
NE, Washington, D.C., 20549.  Information regarding the Public
Reference Room may be obtained by calling the SEC at
1-800-SEC-0330.




10




FORWARD-LOOKING
STATEMENTS





The
statements included in this report that are not purely historical are
forward-looking statements within the meaning of Section 21E of the
Exchange Act, and Section 27A of the Securities Act of 1933, as amended, or
the Securities Act. These statements include, but are not limited to, statements
about our plans, objectives, expectations, strategies, intentions or other
characterizations of future events or circumstances and are generally identified
by the words “may,” “expects,” “anticipates,” “intends,” “plans,” “believes,”
“seeks,” “estimates,” “could,” “would,” and similar expressions. Because these
forward-looking statements are subject to a number of risks and uncertainties,
our actual results could differ materially from those expressed or implied by
these forward-looking statements. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed under the heading
“Risk Factors” and in other documents we file from time to time with the
Securities and Exchange Commission. All forward-looking statements included in
this report are based on information available to us on the date hereof. Our
business and the associated risks may have changed since the date this report
was originally filed with the SEC. We assume no obligation to update any such
forward-looking statements.





Item
1A. Risk Factors





Investing
in our common stock involves a high degree of risk. You should carefully
consider the following risk factors and all other information contained in this
prospectus before purchasing our common stock. If any of the following events
were to occur, our business, financial condition or results of operations could
be materially and adversely affected. In these circumstances, the market price
of our common stock could decline, and you could lose some or all of your
investment. Additional risks and uncertainties not currently known to us or that
we currently believe to be immaterial could also materially and adversely affect
our business, financial condition, operating results and/or cash
flow.





Any
negative public perception regarding our products or industry, or any ill
effects or product liability claims, could harm our reputation, damage our
brand, result in costly and damaging recalls, and expose us to government
investigations and sanctions, which would materially and adversely affect our
results of operations.





We sell
products for human consumption, which involves risks such as product
contamination, spoilage and tampering. In 2008, sales in China of substandard
milk formula contaminated with a substance known as melamine caused the death of
six infants as well as illness of nearly 300,000 others.  In 2009, new
incidents of substandard milk formula contaminated with melamine also appeared
and again, none of our products were involved.  Although our products
were not involved in these incidents, China’s Administration of Quality
Supervision, Inspection and Quarantine found that the products of at least 22
Chinese milk and formula producers were contaminated by melamine, a substance
not approved for use in food, which caused significant negative publicity for
the entire dairy industry in China.  The mere publication of
information asserting that our milk powder, infant formula or other products
contain melamine or other contaminants could have a material adverse effect on
us, regardless of whether these reports are scientifically supported or concern
our products or the raw materials used in our products.  In addition,
if the consumption of any of our products causes injury, illness or death, we
may face product liability claims, product recalls, temporary or permanent
suspensions of operations, government investigations or sanctions, any of which
could be extremely expensive and damaging to our business.





Prior to
the 2008 melamine crisis, there have also been widely publicized occurrences of
counterfeit, substandard milk products in China.  For example, in
April 2004, such sales of counterfeit and substandard infant formula in Anhui
Province, China caused the deaths of 13 infants and harmed many
others.  Counterfeiting or imitation of our products may occur in the
future, and we may not be able to detect it and deal with it effectively. Any
occurrence of counterfeiting or imitation could negatively impact our corporate
brand and image or consumers’ perception of our products or similar nutritional
products generally, particularly if the counterfeit or imitation products cause
injury or death to consumers.




11





Our
products may not achieve market acceptance.





We are
currently selling our products principally in northern, central, and eastern
China.  Achieving market acceptance for our products, particularly in
new markets, will require substantial marketing efforts and the expenditure of
significant funds.  There is substantial risk that any new markets may
not accept or be as receptive to our products.  In addition, we intend
to market our products as premium and super-premium products and to adopt a
corresponding pricing model, which may not be accepted in new or existing
markets.  Market acceptance of our current and proposed products will
depend, in large part, upon our ability to inform potential customers that the
distinctive characteristics of our products make them superior to competitive
products and justify their pricing.  Our current and proposed products
may not be accepted by consumers or able to compete effectively against other
premium or non-premium dairy products. Lack of market acceptance would limit our
revenues and profitability.





Our
planned growth may require more raw milk than is available and could diminish
the quality of our dairy products.





Our
business requires a supply of raw milk. Our growth will be limited if the supply
of raw milk is insufficient to meet demand. Moreover, as we attempt to implement
our growth strategy, it may become difficult to maintain current levels of
quality control. Inadequate quality control could harm our reputation and the
demand for our products, which would also limit our growth. A significant amount
of the raw milk used in our products is supplied to us by numerous local farms
under output contracts. We believe that our farmers can increase their
production of raw milk. We further believe, however, that this supply may not be
sufficient to meet increased demand for our products associated with our
proposed marketing efforts and that such increase may compromise quality. Though
we believe that additional raw milk is available locally, if needed, we may not
be able to enter into arrangements with the producers of such milk on terms
acceptable to us, if at all. Our efforts to source milk through our
company-owned dairy farms are new, may involve unforeseen difficulties, and may
not supply the quantity of raw milk we need to maintain and expand our levels of
production. An inadequate supply of raw milk, coupled with concern over quality
control, could increase costs for raw milk or decrease the sales price for our
products, which could limit our ability to grow, cause our earnings to decline
and make our business less profitable.





The
recent global economic and financial market crisis could significantly impact
our financial condition.





Current
global economic conditions could have a negative effect on our business and
results of operations. Economic activity in China, the United States and
throughout much of the world has undergone a sudden, sharp economic downturn
following the recent housing crisis in the real estate and credit markets in
both the United States and Europe.  Market disruptions have included
extreme volatility in securities prices, as well as severely diminished
liquidity and credit availability.  The economic crisis may adversely
affect us in a variety of ways. Access to lines of credit or the capital markets
may be severely restricted, which may preclude us from raising funds required
for operations and to fund continued expansion.  It may be more
difficult for us to complete strategic transactions with third parties. The
financial and credit market turmoil could also negatively impact our suppliers
and customers, which could decrease our ability to source, produce and
distribute our products and could decrease demand for our products. While it is
not possible to predict with certainty the duration or severity of the current
disruption in financial and credit markets, if economic conditions continue to
worsen, it is possible these factors could significantly impact our financial
condition.





Our
results of operations may be affected by fluctuations in availability and price
of raw materials.





The raw
materials we use are subject to price fluctuations due to various factors beyond
our control, including, among other pertinent factors:




·
            increasing
      market demand;




12




·
            inflation;




·
            severe
      climatic and environmental
conditions;





·
            seasonal
      factors, with dairy cows generally producing more milk in temperate
      weather as opposed to cold or hot weather and extended unseasonably cold
      or hot weather potentially leading to lower than expected
      production;





·
            commodity
      price fluctuations;





·
            currency
      fluctuations; and




·
            changes
      in governmental and agricultural regulations and
  programs.





For
example, our raw milk cost increased by approximately 45% in 2008 due to various
factors, including, we believe, general economic conditions, such as inflation
and fuel prices, and rising production costs and decreased by approximately
20% in 2009 due to various other factors, including increased competition abroad
and currency appreciation.  We also expect that our raw material prices
will continue to fluctuate and be affected by all of these factors in the
future.  Changes to our raw materials prices may result in increases
in production and packaging costs, and we may be unable to raise the prices of
our products to offset such increases in the short term or at all. As a result,
our results of operations may be materially and adversely affected.





We
are subject to public company reporting and other requirements for which we will
incur substantial costs and our accounting and other management systems and
resources may not be adequately prepared.





We incur
significant legal, accounting, insurance and other expenses as a result of being
a public company.  For example, laws and regulations affecting public
companies, including the provisions of the Sarbanes-Oxley Act of 2002, or SOX,
and rules related to corporate governance and other matters subsequently adopted
by the SEC and the NYSE, result in substantial costs to us, including legal and
accounting costs, and may divert our management’s attention from other matters
that are important to our business.  Compliance with Section 404 of
SOX requires that our management annually assess the effectiveness of our
internal control over financial reporting and that our independent auditors
report on management’s assessment.  During our review of our financial
statements and results for the year ended December 31, 2008, our management
identified several internal control matters that constituted material weaknesses
and significant deficiencies and, consequently, concluded that our internal
control over financial reporting was not effective at December 31,
2008.  In addition, management concluded, based primarily on the
identification of the material weaknesses and significant deficiencies, that our
disclosure controls and procedures were not effective at December 31,
2008.  Since the end of 2008, we implemented remedial measures
described below under “Management’s Report on Internal
Control Over Financial Reporting—Changes in Internal
Controls,” including hiring additional accounting, internal audit and
finance staff, engaging consultants to assist with these functions, upgrading
our systems, and implementing additional financial and management controls and
reporting systems and procedures, as well as improving certain processes
surrounding our Audit Committee activities.  These measures have cost
us an aggregate of approximately $1.0 million to date.  Although
management has concluded the measures have partially remediated many of our
historical material weaknesses, as of December 31, 2009 our management concluded
we had a material weakness relating to the accounting and treatment of routine
and non-routine transactions:  we did not effectively and timely
assess the accounting treatment for certain transactions, including sales,
purchases, government subsidy income, and operating expenses. The measures we
take to remediate material weaknesses may not ensure the adequacy of our
internal controls over our financial processes and reporting in the
future.




13





A control
system, no matter how well conceived and operated, can provide only reasonable,
not absolute, assurance that the objectives of the control system are met.
Because of the inherent limitations in all control systems, no evaluation of
controls can provide absolute assurance that all control issues and instances of
fraud, if any, within our company have been detected.





We
significantly depend on our management team.





Each of
our executive officers is responsible for an important aspect of our
operations.  In addition, we rely on management and senior personnel
to ensure that our sourcing, production, sales, distribution and other business
functions are effective.  Losing the services of our executive
officers or key personnel could be detrimental to our operations.  We
do not have key-man life insurance for any of our executive officers or other
employees.





Investors
may not be able to enforce judgments entered by United States courts against
certain of our officers and directors.





We are
incorporated in the State of Utah.  However, a majority of our
directors and executive officers, and certain of our principal shareholders,
live outside of the U.S., principally in China. As a result, you may not be able
to effect service of process upon those persons within the U.S. or enforce
against those persons judgments obtained in U.S. courts.





We
face substantial competition in connection with the marketing and sale of our
products.





Our
products compete with other premium quality dairy brands as well as less
expensive, non-premium brands. Our products face competition from non-premium
producers distributing in our marketing area and other producers packaging their
products in our marketing area. Many of our competitors are well established,
have greater financial, marketing, personnel and other resources, have more
established distribution channels into major markets, and have products that
have gained wide customer acceptance in the marketplace. Our largest competitors
are multi-national dairy companies owned by the government of China. The greater
financial resources of such competitors will permit them to procure retail store
shelf space and to implement extensive marketing and promotional programs, both
generally and in direct response to advertising efforts by us. The dairy
industry in China is also characterized by the frequent introduction of new
products, accompanied by substantial promotional campaigns, such as large
discounts to distributors. In addition, distributors in China often engage in
cross-territory selling activities, which involves their diversion of products
into different geographic regions, which can disrupt the price of our products
and adversely impact our revenues. We may be unable to compete
successfully with our competitors in some or all of our markets, and our
competitors may develop products which have superior qualities or gain wider
market acceptance than ours.





We
expect to incur costs related to potential acquisitions and expansion into new
plants and ventures, which may not prove to be profitable. Moreover, any delays
in our expansion plans could cause our profits to decline and jeopardize our
business.





We
anticipate that any proposed expansion of our milk production facilities may
include the acquisition and construction of new or additional facilities. Our
cost estimates and projected completion dates for construction of new production
facilities may change significantly as the projects progress. In
addition,  projects could entail significant construction risks,
including shortages of materials or skilled labor, unforeseen environmental or
engineering problems, weather interferences and unanticipated cost increases,
any of which could have a material adverse effect on the projects and could
delay their scheduled openings. A delay in scheduled openings of production
facilities could delay our receipt of sales revenues from such facilities,
which, when coupled with the increased costs and expenses of our expansion,
could cause a decline in our profits.





Our plans
to finance, develop, and expand our production facilities could be subject to
the many risks inherent in the rapid expansion of a high growth business
enterprise, including unanticipated design, construction, regulatory and
operating problems, and the significant risks commonly associated with
implementing a marketing strategy in changing and expanding markets. These
projects may not become operational within their estimated time frames and
budgets as projected at the time we enter into a particular agreement, or at
all. In addition, we may develop projects as joint ventures in an effort to
reduce our financial commitment to individual projects. The significant
expenditures required to expand our production plants may not ultimately result
in increased profits.




14





When our
future expansion projects become operational, we will be required to add and
train personnel, expand our management information systems and control expenses.
If we do not successfully address our increased management needs or are
otherwise unable to manage our growth effectively, our operating results could
be materially and adversely affected.




We
face the potential risk of product liability associated with food
products.





We face
the risk of liability in connection with the sale and consumption of dairy
products and other products should the consumption of such products cause
injury, illness or death. Such risks may be particularly great in a company
undergoing rapid and significant growth. The successful assertion of product
liability claims against us could result in potentially significant monetary
damages, divert management resources and require us to make significant payments
and incur substantial legal expenses. We do not currently maintain product
liability insurance. Any insurance that we may obtain in the future may be
insufficient to cover potential claims or the level of insurance coverage needed
may be unavailable at a reasonable cost. Even if a product liability claim is
not successfully pursued to judgment by a claimant, we may still incur
substantial legal expenses defending against such a claim and our brand image
and reputation would suffer. Finally, serious product quality concerns could
result in governmental action against us, which, among other things, could
result in mandatory recalls of our products, the suspension of production or
distribution of our products, loss of certain licenses, or other governmental
penalties, including possible criminal liability.





Doing
business in China involves various political and economic risks.





We
conduct substantially all of our operations and generate most of our revenue in
China. Accordingly, our business, financial condition, results of operations and
prospects are affected significantly by economic, political and legal
developments in China. China’s economy differs from the economies of most
developed countries in many respects, including:





·
            the
      higher level of government involvement and
  regulation;





·
            the
      early stage of development of the market-oriented sector of the
      economy;





·
            the
      rapid growth rate;





·
            the
      higher level of control over foreign exchange;
  and





·
            government
      control over the allocation of many
resources.





As
China’s economy has been transitioning from a planned economy to a more
market-oriented economy, the government of China has implemented various
measures to encourage economic growth and guide the allocation of resources.
While these measures may benefit the overall economy of China, they may also
have a negative effect on us.





Although
the government of China has in recent years implemented measures emphasizing the
utilization of market forces for economic reform, the PRC government continues
to exercise significant control over economic growth in China through the
allocation of resources, controlling payment of foreign currency-denominated
obligations, setting monetary policy and imposing policies that impact
particular industries or companies in different ways.  Any adverse
change in the economic conditions or government conditions or government
policies in China could have a material adverse effect on the overall economic
growth and the level of consumer spending in China, which in turn could lead to
a reduction in demand for our products and consequently have a material adverse
effect on our business and prospects.





15





Extensive
regulation of the food processing and distribution industry in China could
increase our expenses resulting in reduced profits.





We are
subject to extensive regulation by China’s Agricultural Ministry, and by other
provincial and local authorities in jurisdictions in which our products are
processed or sold, regarding the processing, packaging, storage, distribution
and labeling of our products.  For instance, in June 2009, regulatory
requirements became effective in China requiring new package labeling for dairy
products, which we believe impacted our sales cycles during the three months
ended June 30, 2009.  Additional labeling requirements are scheduled
to become effective on June 10, 2010 for all dairy products, which could have an
adverse impact on our sales, inventory levels, or packing and
distribution.





Other
applicable laws and regulations governing our products may include nutritional
labeling and serving size requirements. Our processing facilities and products
are subject to periodic inspection by national, provincial and local
authorities. We believe that we are currently in substantial compliance with all
material governmental laws and regulations and maintain all material permits and
licenses relating to our operations. Nevertheless, we may fall out of
substantial compliance with current laws and regulations or may be unable to
comply with any future laws and regulations. To the extent that new regulations
are adopted, we will be required, possibly at considerable expense, to adjust
our activities in order to comply with such regulations. Our failure to comply
with applicable laws and regulations could subject us to civil remedies,
including fines, injunctions, recalls or seizures, as well as potential criminal
sanctions, which could have a material adverse effect on our business,
operations and finances.




Regulations
affecting acquisitions of PRC companies by foreign entities may make it more
difficult for us to complete acquisitions and grow our business.





In 2005,
the PRC State Administration of Foreign Exchange, or SAFE, issued a public
notice, known as “Circular 75,” concerning the application of foreign exchange
regulations to mergers and acquisitions involving foreign investment in
China.  Among other things, the public notice provides that if an
offshore company controlled by PRC residents intends to acquire a PRC company,
such acquisition will be subject to strict examination by the relevant foreign
exchange authorities.  Under Circular 75, if an acquisition of a PRC
company by an offshore company controlled by PRC residents occurred prior to the
issuance of Circular 75, certain PRC residents were required to submit a
registration form to the local SAFE branch to register their ownership interests
in the offshore company before March 31, 2006.  Such PRC
residents must also amend the registration form if there is a material event
affecting the offshore company, such as, among other things, a change of the
company’s share capital, a transfer of shares, or if the company is involved in
a merger, an acquisition or a spin-off transaction or uses its assets in China
to guarantee offshore obligations.  In the past, we have acquired a
number of assets from, or equity interests in, PRC companies.





There is
still significant uncertainty in China regarding the interpretation and
implementation of Circular 75.  Nevertheless, we have requested that
our shareholders who are PRC residents make the necessary applications, filings
and amendments that  required under Circular 75 and related
regulations. However, all of our PRC-resident shareholders may not comply with
such requirements.  We also cannot predict how these regulations will
affect our future acquisition strategy and business operations. For example, if
we decide to acquire additional PRC companies, we or the owners of such
companies may not be able to complete the filings and registrations, if any,
required by the SAFE notices. Failure to complete Circular 75 registrations may
limit the ability of our PRC subsidiaries to issue dividends to us, limit our
ability to inject additional capital into our subsidiaries, restrict our ability
to implement our acquisition strategy and adversely affect our business and
prospects.





In
addition, in 2006 six PRC regulatory authorities, including the PRC Ministry of
Commerce and the PRC Securities Regulatory Commission, jointly promulgated a
rule entitled “Provisions regarding Mergers and Acquisitions of Domestic
Enterprises by Foreign Investors,” or the New M&A Rules, in
September 2006. The New M&A Rules establish additional procedures and
requirements that could make merger and acquisition activities by foreign
investors more time-consuming and complex, including, in some circumstances,
advance notice to the Ministry of Commerce of any change-of-control transaction
in which a foreign investor takes control of a PRC domestic enterprise.
Compliance with the New M&A Rules, and any related approval processes,
including obtaining approval from the Ministry of Commerce, may delay or inhibit
our ability to complete such transactions, which could affect our ability to
expand our business or maintain our market share.




16





Furthermore,
in August 2008, SAFE issued a notice, known as “Circular 142,” regulating the
conversion by a foreign-invested company of foreign currency into PRC currency,
the Reminbi or RMB, by restricting the uses for the converted RMB. Circular 142
requires that the registered capital of a foreign-invested company denominated
in RMB but converted from a foreign currency may only be used pursuant to the
purposes set forth in the foreign-invested company’s business scope as approved
by the applicable governmental authority. Such registered capital may not be
used for equity investments within the PRC. In addition, SAFE strengthened its
oversight of the flow and use of the registered capital of a foreign-invested
company that was denominated in RMB but converted from foreign currency.
Violations of Circular 142 may result in severe penalties, including significant
fines. As a result, Circular 142 may significantly limit our ability to invest
in or acquire other PRC companies using the RMB-denominated capital of our PRC
subsidiaries.





The
PRC government’s recent measures to curb inflation rates could adversely affect
future results of operations.





China has
faced rising inflation in recent years. The government of China undertook
various measures to alleviate the effects of inflation, especially with respect
to key commodities. In January 2008, the PRC National Development and Reform
Commission announced national price controls on various products, including
milk. Similarly, the government of China may conclude that the prices of infant
formula or other of our products are too high and may institute price controls
that would limit our ability to set prices for our products as we might wish.
The government of China has also encouraged local governments to institute price
controls on similar products. Such price controls could adversely affect our
future results of operations and, accordingly, the price of our common
stock.





The
PRC currency is not a freely convertible currency, which could limit our ability
to obtain sufficient foreign currency to support our business operations in the
future.





The PRC
currency is not a freely convertible currency. We rely on the PRC government’s
foreign currency conversion policies, which may change at any time, in regard to
our currency exchange needs. We receive substantially all of our revenues in
Renminbi, which is not freely convertible into other foreign currencies. In
China, the government has control over Renminbi reserves through, among other
things, direct regulation of the conversion of Renminbi into other foreign
currencies and restrictions on foreign imports. Although foreign currencies that
are required for current account transactions can be bought freely at authorized
PRC banks, the proper procedural requirements prescribed by PRC law must be met.
At the same time, PRC companies are also required to sell their foreign exchange
earnings to authorized PRC banks and the purchase of foreign currencies for
capital account transactions still requires prior approval of the PRC
government. This substantial regulation by the PRC government of foreign
currency exchange may restrict our business operations and a change in any of
these government policies could negatively impact our operations, which could
result in a loss of profits.





In order
for our China subsidiaries to pay dividends to us, a conversion of Renminbi into
U.S. dollars is required, which, if not permitted by the PRC government, would
interrupt our cash flows. Under current PRC law, the conversion of Renminbi into
foreign currency for capital account transactions generally requires approval
from SAFE and, in some cases, other government agencies. Government
authorities may impose restrictions that could have a negative impact in the
future on the conversion process and upon our ability to meet our cash needs and
to pay dividends to our shareholders. Although, our subsidiaries’ classification
as wholly foreign-owned enterprises, or WFOEs, under PRC law permits them to
declare dividends and repatriate their funds to us in the United States, any
change in this status or the regulations permitting such repatriation could
prevent them from doing so. Any inability to repatriate funds to us would in
turn prevent us from utilizing our PRC cash to pay creditors in U.S. dollars or
other currencies or to pay dividends to our shareholders.




17





Fluctuations
in the exchange rate between the PRC currency and the U.S. dollar could
adversely affect our operating results.





The
functional currency of our operations in China is the Renminbi. However, results
of our operations are translated at average exchange rates into U.S. dollars for
purposes of reporting results. As a result, fluctuations in exchange rates may
adversely affect our expenses and results of operations as well as the value of
our assets and liabilities. Fluctuations may adversely affect the comparability
of period-to-period results. We do not currently use hedging techniques, and any
hedging techniques we may use in the future may not eliminate and may exacerbate
the effects of currency fluctuations. Thus, exchange rate fluctuations could
cause our profits, and therefore our stock prices, to decline.




Under
the New EIT Law, we may be classified as a “resident enterprise” of China, which
would likely result in unfavorable tax consequences to us and our non-PRC
shareholders.





Under
China’s Enterprise Income Tax Law, or the New EIT Law, and its implementing
rules, which became effective in 2008, an enterprise established outside of
China with “de facto management bodies” within China is considered a “resident
enterprise,” meaning that it can be treated in a manner similar to a Chinese
enterprise for enterprise income tax purposes.  Under the implementing
rules of the New EIT Law, de facto management means substantial and overall
management and control over the production and operations, personnel,
accounting, and properties of the enterprise.  Because the New EIT Law
and its implementing rules are new, it is unclear how tax authorities will
determine tax residency based on the facts of each case.





If the
PRC tax authorities determine that American Dairy, Inc. is a “resident
enterprise” for PRC enterprise income tax purposes, unfavorable PRC tax
consequences could follow. First, we may be subject to enterprise income tax at
a rate of 25% on our worldwide taxable income as well as PRC enterprise income
tax reporting obligations. Second, although under the New EIT Law and its
implementing rules dividends paid to us from our PRC subsidiaries would qualify
as “tax-exempt income,” such dividends may be subject to a 10% withholding tax,
as the PRC foreign exchange control authorities, which enforce the withholding
tax, have not yet issued guidance with respect to the processing of outbound
remittances to entities that are treated as resident enterprises for PRC
enterprise income tax purposes. Finally, it is possible that future guidance
issued with respect to the new “resident enterprise” classification could result
in a situation in which a 10% withholding tax is imposed on dividends we pay to
our non-PRC shareholders and with respect to gains derived by our non-PRC
shareholders from transferring our shares. We are actively monitoring the
possibility of “resident enterprise” treatment for the 2008 and 2009 tax
years and are evaluating appropriate organizational changes to avoid this
treatment, to the extent possible.




If we
were treated as a “resident enterprise” by PRC tax authorities, we would be
subject to tax in both the U.S. and China, and our PRC tax may not be creditable
against our U.S. tax.





We
do not intend to pay and may be restricted from paying dividends on our common
stock.





We have
never declared or paid dividends on our capital stock and we do not intend to
declare dividends in the foreseeable future. We currently intend to retain
future earnings to fund our continued growth. Furthermore, if we decide to pay
dividends, foreign exchange and other regulations in China may restrict our
ability to distribute retained earnings from China or convert those payments
from Renminbi into foreign currencies.





Lack
of bank deposit insurance puts our funds at risk of loss from bank foreclosures
or insolvencies.





We
maintain certain bank accounts in China that are not protected by FDIC insurance
or other insurance. As of December 31, 2009, we held approximately $48 million
in bank accounts in China.  If a PRC bank holding our funds
experienced insolvency, it may not permit us to withdraw our funds, which would
result in a loss of such funds and reduction of our net assets.  As of
December 31, 2009, we held approximately $964,000 of cash balances within the
United States, of which $714,000 was in excess of FDIC insurance limits, and
exposes us to risk of loss of such funds and a resulting reduction of our net
assets.




18





Limited
and uncertain trademark protection in China makes the ownership and use of our
trademark uncertain.





We have
obtained trademark registrations for the use of our trade name “Feihe,” as well
as our “Feifan,” “Feihui,” “Feirei,” “Feiyue,” and “Beidiqi” Chinese brands and
our “Firmus” and “Babyrich” English brand names, which have been registered with
the PRC Trademark Bureau of the State Administration for Industry and Commerce
with respect to our milk products.  We believe our trademark is
important to the establishment of consumer recognition of our
products.  However, due to uncertainties in PRC trademark law, the
protection afforded by our trademark may be less than we currently expect and
may, in fact, be insufficient. Moreover, even if it is sufficient, in the event
it is challenged or infringed, we may not have the financial resources to defend
it against any challenge or infringement and such defense could in any event be
unsuccessful. Moreover, any events or conditions that negatively impact our
trademark could have a material adverse effect on our business, operations and
finances.





Our
lack of patent protection could permit our competitors to copy our trade secrets
and formula and thus gain a competitive advantage.





We have
no patents covering our products or production processes, and we expect to rely
principally on know-how and the confidentiality of our formula and production
processes for our products and our flavoring formula in producing competitive
product lines. Any breach of confidentiality by our executives or employees
having access to our formula could result in our competitors gaining access to
such formula. The ensuing competitive disadvantage could reduce our revenues and
our profits.





One
of our shareholders owns a significant percentage of our stock and will be able
to exercise significant influence over our affairs.





Leng
You-Bin, our Chairman, Chief Executive Officer, President, and General Manager,
beneficially owned approximately 41% of our common stock as of March 10,
2010.  Consequently, Mr. Leng will likely be able to determine the
composition of our board of directors, to approve certain matters requiring
shareholder approval and to have significant influence over our
operations.  Mr. Leng’s interests may be different than the interests
of other shareholders on these matters.  This concentration of
ownership could also have the effect of delaying or preventing a change in our
control or otherwise discouraging a potential acquirer from attempting to obtain
control of us, which in turn could reduce the price of our common
stock.





Failure
to comply with the U.S. Foreign Corrupt Practices Act could subject us to
penalties and other adverse consequences.





Since we
are a Utah corporation and a public company in the United States, we are subject
to the U.S. Foreign Corrupt Practices Act, which generally prohibits U.S.
companies from engaging in bribery or other prohibited payments to foreign
officials for the purpose of obtaining or retaining business. Non-U.S.
companies, including some that may compete with our company, are not subject to
these prohibitions. Corruption, extortion, bribery, pay-offs, theft and other
fraudulent practices may occur in China. Although such practices are prohibited
at our company, our employees or other agents may engage in such conduct for
which we might be held responsible.  If our employees or other agents
are found to have engaged in such practices, we could suffer severe penalties
and other consequences that may have a material adverse effect on our business,
financial condition and results of operations.





19




We
have a significant amount of indebtedness, which may limit our operating
flexibility.





As of
December 31, 2009, we had approximately $220.7 million of total liabilities.
Although all of our 7.75% Convertible Notes due 2009, or the 2009 Notes, have
converted into shares of our common stock and we have repurchased all of our
1.00% Guaranteed Senior Secured Convertible Notes due 2012, or the 2012 Notes,
we expect to continue to incur debt to fund capital and operating
expenses.  Our high level of indebtedness could have important
consequences, including the following:




·
            it
      may be difficult for us to satisfy our obligations with respect to our
      indebtedness;




·
            our
      ability to obtain additional financing for working capital, capital
      expenditures, or general corporate or other purposes may be
      impaired;




·
            a
      substantial portion of our cash flow from operations must be dedicated to
      the payment of principal and interest on our indebtedness, reducing the
      funds available to us for other
purposes;




·
            it
      may cause our trade creditors to change their terms for payment on goods
      and services provided to us, thereby negatively impacting our ability to
      receive products and services on acceptable
  terms;




·
            it
      may place us at a competitive disadvantage compared to our competitors
      that have less debt or are less leveraged;
and




·
            we
      may be more vulnerable to economic downturns, may be limited in our
      ability to respond to competitive pressures and may have reduced
      flexibility in responding to changing business, regulatory and economic
      conditions.





Our
ability to pay interest on and to satisfy our debt obligations will depend upon,
among other things, our future operating performance and our ability to
refinance indebtedness when necessary.  Each of these factors is, to a
large extent, dependent upon economic, financial, competitive and other factors
beyond our control.  If, in the future, we cannot generate sufficient
cash from operations to meet our debt obligations, we will need to refinance our
existing debt, obtain additional financing or sell assets.  Our
business may not generate sufficient cash flows to satisfy our existing
indebtedness and funding sufficient to satisfy our debt service requirements may
not be available on satisfactory terms, if at all.





The
terms of our subscription agreement with the Purchasers may have adverse impacts
on us.





In August
2009, pursuant to a subscription agreement, we issued 2,100,000 shares of our
common stock to Sequoia Capital China Growth Fund I, L.P. and certain of its
affiliates, or the Purchasers, for an aggregate purchase price of $63.0
million.  The subscription agreement includes several provisions that
could have an adverse effect on us.  We have agreed not to issue new
shares of our common stock at a price below $30.00 per share without the prior
written consent of a majority in interest of the Purchasers, subject to certain
exceptions, which could preclude us from raising additional funds.  In
addition, because we did not meet certain earnings per share targets for 2009,
we must issue 525,000 additional shares of our common stock to the Purchasers
pursuant to the agreement, which will result in immediate and substantial
dilution to our shareholders.  Furthermore, if the average closing
prices of our common stock for the fifteen trading days commencing on the third
anniversary of the closing date is less than $39.00 per share, the purchasers
will have the right to cause us to repurchase all of the securities acquired in
connection with the agreement, which could significantly impact our liquidity
and capital resources.







20





Financial
covenants in our loan agreement could restrict our ability to obtain new debt
and our failure to comply with it could adversely affect our business and
financial condition.


In
October 2009, we entered into a loan agreement with a bank in the PRC for a
principal amount of up to $9.2 million for the purpose of financing the purchase
of certain equipment.  As of December 31, 2009, there was
approximately $4.0 million in principal payable under this loan.  The
loan agreement contains a financial covenant requiring us to maintain a debt to
earnings ratio.  At December 31, 2009, we were in technical default of
the financial covenant under the loan agreement.  The bank did not
provide notice of default, waived the technical default at December 31, 2009,
and agreed to revise the financial covenant to measure compliance on a 12-month
rolling basis rather than quarter by quarter.  However, we may be
unable to comply with the revised financial covenant in the future or to obtain
a waiver from the bank.  Our inability to comply with the covenant may
impact our ability to draw against the facility, constitute an event of default
under the loan agreement, impact our ability to obtain additional debt, and have
an adverse effect on our business and financial condition.





We
are at risk of securities litigation.





We are at
risk of being subject to securities litigation, including possible enforcement
action or class action lawsuits.  Following notification by the SEC in
2007 of an informal investigation related to our former independent registered
public accountants, we dismissed our former auditors, sued our former
auditors, engaged new independent registered public accountants, commenced a
re-audit of historical financial statements, and restated our financial
statements as of and for our fiscal years ended December 31, 2005 and
2006.  Accordingly, we were unable to file Exchange Act reports for
2007 and 2008 in a timely manner.  In addition, we have restated our
quarterly financial statements for the quarter ended March 31, 2009 to
reclassify certain items from operating activities to investing activities, and
we have amended our Form 10-K for the 2008 fiscal year to restate items in our
statements of cash flows and to revise the note to our financial statements
regarding quarterly operating results.  Securities class action litigation
has often been brought against companies who have been unable to provide current
public information or who have restated previously filed financial
statements.  Such litigation is complex and could result in
substantial costs, divert management’s attention and resources, and seriously
harm our business, financial condition and results of operations.





Item
1B. Unresolved Staff Comments





None.





Item
2. Properties





Our
principal executives are located at Star City International Building, 10
Jiuxianqiao Road, C-16th Floor, Chaoyang District, Beijing, China
100016.  We have seven production and packaging facilities, which have
an aggregate milk powder production capacity of 1,234 tons per day, encompass an
aggregate of approximately 664,153 square meters of office, plant, and warehouse
space, and are located in the Heilongjiang, Shanxi and Hebei Provinces in
China.  For additional information on our production and packaging
facilities, see “Item 1.
Business—Production and
Packaging Facilities” above.  In addition, we own two dairy farms,
Gannan Farms and Kedong Farms, construction of which we completed in the fourth
quarter of 2009, and which each consist of approximately 986,300 and 385,000
total square meters of cattle houses and administrative facilities,
respectively.  Gannan Farms and Kedong Farms currently house a total
of approximately 14,000 Australian Holstein cows, each of which, on average,
provides us with 8-10 tons of milk per year.  We expect that each
of our dairy farms will have annual capacity to source up to 70,000 tons of
fresh milk per year.





There is
no private ownership of land in China.  All land is owned by the
government of China, its agencies and collectives. Land use rights are obtained
from the government for period ranging from 50 to 70 years, and are typically
renewable. Land use rights can be transferred upon approval by the land
administrative authorities of China (such as the State Land Administration
Bureau) upon payment of the required land transfer fee.





We
believe that our facilities are suitable for our current
operations.  As part of our growth strategy, we are in the process of
expanding our production capacity and plan to strengthen our dairy farm
operations.





21




Item
3. Legal Proceedings





From time
to time, we may become involved in various claims and lawsuits incidental to our
business.  Other than as disclosed below, we know of no material
existing or pending legal proceedings against us, nor are we involved as a
plaintiff in any material proceeding or pending litigation.





We are a
plaintiff in a lawsuit entitled American Dairy, Inc. v. Murrell, Hall, McIntosh
& Co. PLLP et al., filed on April 15, 2008 in the United States District
Court for the Western District of Oklahoma. This suit alleges that our previous
independent auditor, Murrell, Hall, McIntosh & Co. PLLP, or MHM, breached
its duties of due care and professional competence by failing to perform its
audits in accordance with professional standards of care in that MHM improperly
and negligently (i) accepted Henny Wee & Co.’s representation that it was
independent and otherwise failed to make sufficient inquiries concerning Henny
Wee & Co.’s independence, and (ii) permitted Henny Wee & Co. to perform
such a significant and material part of the audit work that MHM should have
evaluated whether it could act as principal auditor and report on our financial
statements. We are seeking compensatory damages of not less than $10.0 million
in connection with this suit. We continue to vigorously pursue damages under
this lawsuit.





Item
4. (Removed and Reserved)




22




PART
II





Item
5.  Market for the Registrant’s Common Stock, Related Shareholder
Matters and Issuer Repurchases of Equity Securities





Price
Range of Our Common Stock





American
Dairy common stock trades on the NYSE under the symbol “ADY.”  At
March 10, 2010, there were 21,707,376 shares of our common stock issued and
outstanding that were held by approximately 411 shareholders of
record.  The table below lists the high and low closing prices per
share of our common stock for each quarterly period during the past two fiscal
years as reported on the NYSE.





Closing Price Range of Common StockHigh
            
            
            LowYear
      Ended December 31, 2008:1st
      Quarter
            
            $
            12.91
            
            
            $
            7.002nd
      Quarter
            
            $
            13.91
            
            
            $
            7.883rd
      Quarter
            
            $
            11.34
            
            
            $
            6.744th
      Quarter
            
            $
            17.02
            
            
            $
            8.32Year
      Ended December 31, 2009:1st
      Quarter
            
            $
            17.08
            
            
            $
            9.772nd
      Quarter
            
            $
            43.16
            
            
            $
            15.253rd
      Quarter
            
            $
            39.95
            
            
            $
            20.084th
      Quarter
            
            $
            34.85
            
            
            $
            20.25





Dividend
Policy





We have
not declared or paid any dividends on our common stock and presently do not
expect to declare or pay any such dividends in the foreseeable
future.  Payment of dividends to our shareholders would require
payment of dividends by our PRC subsidiaries to us.  This, in turn,
would require a conversion of Renminbi into US dollars and repatriation of funds
to the US.  Under current PRC law, the conversion of Renminbi into
foreign currency for capital account transactions generally requires approval
from SAFE and, in some cases, other government agencies.  Government
authorities may impose restrictions that could have a negative impact in the
future on the conversion process and upon our ability to meet our cash needs,
and to pay dividends to our shareholders.  Although our subsidiaries’
classification as WFOEs under PRC law permits them to declare dividends and
repatriate their funds to us in the United States, any change in this status or
the regulations permitting such repatriation could prevent them from doing
so.  Any inability to repatriate funds to us would in turn prevent
payments of dividends to our shareholders.





Transfer
Agent and Registrar





Our
transfer agent and registrar is Progressive Transfer Co., 1981 Murray Holladay
Road, Suite 100, Salt Lake City, Utah 84117-5148; telephone 1 (801)
272-9294.





Performance
Graph





The
following graph compares the annual cumulative total shareholder return on an
investment on December 31, 2004 of $100 in our common stock with the annual
cumulative total return on the same investment in the S&P 500 Index and the
S&P Packaged Foods and Meats Index for the five subsequent fiscal
years.




23











Recent
Sales of Unregistered Securities





In
November 2008, pursuant to an agreement regarding our 2009 Notes, we issued to
holders of our 2009 Notes an aggregate amount of 216,639 shares of our common
stock.  In connection with the agreement, we amended and restated the
2009 Notes and the warrants issued therewith.  The amended and
restated 2009 Notes had an aggregate principal amount of $18.2 million, accrued
interest at an annual rate of 7.75%, matured in October 2009, and could be
converted at the option of the holder into shares of our common stock at a
conversion price of $14.50 per share.  The warrants issued with the
amended and restated 2009 Notes permit the holders to acquire approximately
251,000 shares of our common stock at an exercise price of $14.50 per share at
any time prior to October 2012.  We issued these securities pursuant
to the exemptions from registration under Section 3(a)(9) of the Securities Act
for certain exchange offers and Section 4(2) of the Securities Act for
transactions by an issuer not involving any public offering.




In
November 2008, we entered into a supplemental indenture with respect to the 2012
Notes, which amended the terms of the 2012 Notes to provide for our early
repurchase of the 2012 Notes and to provide certain waivers and consents to us,
in offshore transactions not requiring registration under the Securities Act
pursuant to Regulation S, and pursuant the exemptions from registration under
Section 3(a)(9) of the Securities Act for certain exchange offers and under
Section 4(2) of the Securities Act for transactions by an issuer not involving
any public offering.





From
January 2008 to December 2008, we issued 8,000 restricted shares of our common
stock to each of our directors in consideration for their services to us, and an
additional 2,000 restricted shares of our common stock to Hui-Lan Lee, a
director and the chairperson of our Audit Committee.  In addition,
from January 2008 to December 2009, we issued 22,500  restricted shares of
our common stock, and options to purchase up to an aggregate of 2,233,190 shares
of our common stock at exercise prices ranging from $12.00 to $27.69 per share,
subject to various vesting requirements, to employees in consideration for their
services to us.  We issued these securities in offshore transactions
not requiring registration under the Securities Act and pursuant to the
exemption from registration under Section 4(2) of the Securities Act for
transactions by an issuer not involving any public offering.





In August
2009, we issued 2,100,000 shares of our common stock to accredited investors for
an aggregate purchase price of $63.0 million, including $47.0 million in cash
and the conversion of a $16.0 million bridge loan, pursuant to the exemptions
from registration provided by Section 4(2) under the Securities Act and Rule 506
promulgated thereunder for transactions by an issuer not involving any public
offering.




24





In July,
August and October 2009, the holders of the 2009 Notes elected to convert the
2009 Notes into shares of our common stock.  In connection with these
conversions, $18.2 million in principal and approximately $4.3 million in
accrued interest on the 2009 Notes was converted into 1,549,122 shares of our
common stock at a conversion price of $14.50 per share.  We issued
these securities pursuant to the exemption from registration under Section 4(2)
of the Securities Act for transactions by an issuer not involving any public
offering.





From
January 2008 to December 2009, we issued 807,347 shares of our common
stock, at various exercise prices, upon exercise of warrants, resulting in
aggregate proceeds to us of approximately $1.8 million.  We issued
these securities pursuant to the exemption from registration under Section 4(2)
of the Securities Act for transactions by an issuer not involving any public
offering.





Item
6. Selected Financial Data





Not
applicable.




25




Item
7. Management’s Discussion and Analysis of Financial Condition and Results of
Operations





This
Annual Report contains our audited consolidated financial statements for the
years ended December 31, 2009 and 2008 and data derived therefrom.





The
following discussion and analysis of our financial condition and results of
operations should be read in conjunction with our audited consolidated financial
statements and related notes appearing elsewhere in this Annual
Report.  In addition to historical financial information, the
following discussion contains forward-looking statements that reflect our plans,
estimates and beliefs.  Our actual results could differ materially
from those discussed in the forward-looking statements.  Factors that
could cause or contribute to these differences include those discussed below and
elsewhere in this Annual Report, particularly in “Item 1A. Risk Factors”
above.





Overview





We are a
leading producer and distributor of milk powder, soybean milk powder, and
related dairy products in the PRC.  Using proprietary processing
techniques, we make products that are specially formulated for particular ages,
dietary needs and health concerns.  We have over 200 company-owned
milk collection stations, seven production and distribution facilities with an
aggregate milk powder production capacity of 1,234 tons per day, and an
extensive distribution network that reaches over 95,000 retail outlets
throughout China.




Factors
Affecting our Results of Operations





Our
operating results are primarily affected by the following factors:




·
            Dairy
      Industry Growth.We
      believe the market for dairy products in China for the long term will be
      growing rapidly, driven by China’s economic growth, increased penetration
      of infant formula, and a growing female working
      population.  Despite the damage to the industry as a result of
      the melamine crisis in 2008, we expect these factors to continue to drive
      industry growth. We believe that the rapid economic growth of our primary
      markets has become an increasingly important driver of
    growth.




·
            Production
      Capacity.We
      believe much of the dairy market in China is still underserved,
      particularly with respect to infant formula.  In addition, since
      the melamine crisis in 2008, which did not involve any of our products, we
      have been able to operate our milk production facilities at maximum
      capacity.  Accordingly, we believe that the ability to increase
      production of high quality dairy products will allow well positioned
      companies to significantly increase revenues and market
    share.·
            Perceptions
      of Product Quality and Safety. We believe that rising consumer
      wealth in China has contributed to a greater demand for higher-priced
      products with perceived quality advantages.  We believe many
      consumers in China tend to regard higher prices as indicative of higher
      quality and higher nutritional value, particularly in the areas of infant
      formula and nutritional products.  Accordingly, we believe our
      reputation for quality and safety allows us to command higher average
      selling prices and generate higher gross margins than competitors who do
      not possess the same reputation.  Conversely, any decrease in
      consumer perceptions of quality and safety could adversely impact
      us.





·
            Seasonality.  The
      dairy industry remains seasonal, with higher production in the summer
      season and greater demand in winter months. This seasonality is offset by
      production of powder products with longer shelf lives.·
            Raw
      Material Supply and Prices.  The per unit costs of
      producing our infant formula are subject to the supply and price
      volatility of raw milk and other raw materials, which are affected by the
      PRC and global markets. For example, in 2008 our raw milk prices increased
      by approximately 45% and in 2009 decreased by approximately 20% and we
      expect they will continue to be affected by factors such as geographic
      location, rising feed prices, general economic conditions such as
      inflation and fuel prices, and fluctuations in production, rising
      production costs and competition, as well as increased competition abroad
      and currency fluctuations.




26




·
            Expenses
      Associated with Expansion.In
      implementing our plan to expand our business, we face corresponding
      increases in expenses in order to attract and retain qualified talent,
      monitor our sales by region and address potential cross-territory selling
      activities by distributors, implement strategic advertising campaigns, and
      finance our expansion.  In addition, we faced various one-time,
      non-cash charges associated with the convertible notes we have issued to
      finance our business plans.





As
further explained below under “—Ausnutria Transaction,” due
to a letter of intent we entered into in December 2008, accounts relating to our
subsidiary Heilongjiang Moveup Co., Limited, or Moveup, are reflected in our
financial statements as discontinued operations.  In addition, in
2008, with the initial operations of our dairy farms, we have two reportable
segments: dairy products and dairy farm. Our dairy products segment produces and
sells dairy products, such as wholesale and retail milk powders, as well as
soybean powder, rice cereal, walnut powder and walnut oil.  Our dairy
farm segment operates our two company-owned dairy farms, Gannan Farms and Kedong
Farms, construction of which we completed in the fourth quarter of
2009.  Our dairy farms provide milk to us and not to external
customers.





Results
of Operations





The
following table sets forth certain information regarding our results of
operations.





Years Ended December 312009
            
            
            2008($ in thousands)Statements
      of Operations DataSales
            
            
            271,078
            
            
            
            193,192Cost
      of goods sold
            
            
            140,427
            
            
            
            117,181Gross
      profit
            
            
            130,651
            
            
            
            76,011Operating
      and administrative expenses:Sales
      and marketing
            
            
            105,109
            
            
            
            50,686General
      and administrative
            
            
            20,479
            
            
            
            19,047Income
      from continuing operations
            
            
            5,063
            
            
            
            6,278Other
      income (expenses)
            
            
            10,364
            
            
            
            7,849Income
      tax (benefit) expenses
            
            
            (746
            )
            
            
            3,567Net
      income from discontinued operations
            
            
            3,290
            
            
            
            6,463Net
      income attributable to common shareholders
            
            
            19,581
            
            
            
            17,023Other
      comprehensive income:Cumulative
      currency translation adjustments
            
            
            447
            
            
            
            13,169Change
      in fair value of available for sale investments
            
            
            59
            
            
            
            (105
            )Total
      comprehensive income
            
            
            20,087
            
            
            
            30,088





Comparison
of Years Ended December 31, 2009 and 2008





Total
Comprehensive Income


Total
comprehensive income decreased by approximately $10.0 million, or 33.2%, from
approximately $30.1 million in 2008 to approximately $20.1 million in 2009. The
decrease was primarily attributable to an increase of approximately $23.2
million, or 19.8%, in cost of goods sold, an increase of approximately $54.4
million, or 107.4%, in sales and marketing expense, a decrease of approximately
$3.2 million, or 49.1%, in net income from discontinued operations, and a
decrease of approximately $12.7 million, or 96.6%, in cumulative currency
translation adjustments, partly offset by an increase of approximately $77.9
million, or 40.3%, in sales, an increase of approximately $2.5 million, or
31.9%, in other income, and a decrease of $4.3 million, or 120.9%, in income tax
expense. Our gross profit margin increased from 39.3% in 2008 to 48.2% in
2009.




27





Sales


Our sales
consist primarily of revenues generated from sales of milk powder, raw milk
powder, soybean powder, rice cereal, and walnut products.  Sales
increased by approximately $77.9 million, or 40.3%, from approximately $193.2
million in 2008 to approximately $271.1 million in 2009.  This
increase was primarily attributable to expanding our market areas and
distribution network throughout China, increased demand for high quality
products and strong market acceptance of these products, and increased sales
quantities of several high profit margin products. While our
full-year 2009 sales increased, our sales in the quarterly period ended December
31, 2009 decreased by approximately $35.6 million, or 44.8%, from approximately
$79.6 million in the quarterly period ended December 31, 2008 to approximately
$44.0 million in the quarterly period ended December 31, 2009.  We
believe this decrease reflects the impact of cross-territory selling activities
by distributors, as well as our sales of excess inventory as lower-margin raw
milk powder in an effort to manage inventory levels.  Our inventories
increased approximately $6.7 million, or 13%, from approximately $52.3 million
as of December 31, 2008 to approximately $59.0 million as of December 31, 2009,
reflecting our increased production during our first and second fiscal quarters
of 2009 to prepare to meet expected sales demand during our third and fourth
fiscal quarters of 2009.





The
following table sets forth information regarding the sales of our principal
products during the fiscal years ended December 31, 2009 and 2008:





2009
            
            2008
            
            2009
      over 2008Product name
            
            Quantity
              (Kg’000)
            
            Amount
              ($’000)
            
            % of
              Sales
            
            Quantity
              (Kg’000)
            
            Amount
              ($’000)
            
            % of
              Sales
            
            Quantity
              (Kg’000)
            
            Amount
              ($’000)
            
            % of
              SalesMilk
      powder
            
            
            28,783
            
            
            
            216,230
            
            
            
            79.8
            
            
            
            16,311
            
            
            
            121,255
            
            
            
            62.8
            
            
            
            12,472
            
            
            
            94,975
            
            
            
            78.3Raw
      milk powder
            
            
            11,637
            
            
            
            34,328
            
            
            
            12.7
            
            
            
            16,572
            
            
            
            60,753
            
            
            
            31.4
            
            
            
            (4,935
            )
            
            
            (26,425
            )
            
            
            (43.5
            )Soybean
      powder
            
            
            3,349
            
            
            
            7,319
            
            
            
            2.7
            
            
            
            2,153
            
            
            
            4,400
            
            
            
            2.3
            
            
            
            1,196
            
            
            
            2,919
            
            
            
            66.3Rice
      cereal
            
            
            1,103
            
            
            
            6,730
            
            
            
            2.5
            
            
            
            816
            
            
            
            4,631
            
            
            
            2.4
            
            
            
            287
            
            
            
            2,099
            
            
            
            45.3Walnut
      products
            
            
            601
            
            
            
            3,070
            
            
            
            1.1
            
            
            
            327
            
            
            
            1,663
            
            
            
            0.9
            
            
            
            274
            
            
            
            1,407
            
            
            
            84.6Other
            
            
            543
            
            
            
            3,401
            
            
            
            1.2
            
            
            
            727
            
            
            
            490
            
            
            
            0.2
            
            
            
            (184
            )
            
            
            2,911
            
            
            
            594.1Total
            
            
            46,016
            
            
            
            271,078
            
            
            
            100
            
            
            
            36,906
            
            
            
            193,192
            
            
            
            100
            
            
            
            9,110
            
            
            
            77,886
            
            
            
            40





While
full-year 2009 sales of our higher-margin milk powder products increased, our
milk powder sales in the quarterly period ended December 31, 2009 decreased by
approximately $38.6 million, from approximately $59.3 million, or 74.5% of total
sales, in the quarterly period ended December 31, 2008, to approximately $20.7
million or 47.2% of total sales, in the quarterly period ended December 31,
2009.  This shift in product mix reflects our sales of excess
inventory as lower-margin raw milk powder in an effort to manage inventory
levels.




In 2009,
we also experienced an increase in the average sales price per kilogram of our
products, as demonstrated in the table below:




2009
            
            
            2008Sales
      revenues (in thousands)
            
            $
            271,078
            
            
            $
            193,192Total
      sales volume (kilograms in thousands)
            
            
            46,016
            
            
            
            36,906Average
      selling prices/kilogram (in thousands)
            
            $
            5.89
            
            
            $
            5.23




The
increase in average sales price per kilogram, as reflected in the table, is
relatively small and primarily attributable to the shift in product mix to
higher end products rather than an increase in the sales price of individual
products.  Prices per kilogram increased in our most significant
product line, as demonstrated in the following table, which reflects the average
sales price per kilogram by product for 2009 and 2008 and the percentage change
in the sales price per kilogram.




Average Price Per Kilogram
            
            
            PercentageProduct
            
            2009
            
            
            2008
            
            
            ChangeMilk
      powder
            
            $
            7.51
            
            
            $
            7.43
            
            
            
            1.1Raw
      milk powder
            
            
            2.95
            
            
            
            3.67
            
            
            
            (19.5
            )Soybean
      powder
            
            
            2.19
            
            
            
            2.04
            
            
            
            7.4Rice
      cereal
            
            
            6.10
            
            
            
            5.68
            
            
            
            7.4Walnut
      products
            
            
            5.11
            
            
            
            5.09
            
            
            
            0.4Other
            
            
            6.27
            
            
            
            0.67
            
            
            
            829.6Total
            
            $
            5.89
            
            
            $
            5.23
            
            
            
            13





28




Cost
of Goods Sold


Our costs
of goods sold consist primarily of direct and indirect manufacturing costs,
including production overhead costs, and shipping and handling costs for the
products sold.  Cost of goods sold increased approximately $23.2
million, or 19.8%, from approximately $117.2 million in 2008 to approximately
$140.4 million in 2009.  This increase was primarily attributable to
increased sales volume and promotional activities, as well as general
increases in costs of added nutrients. Cost of sales as a percentage of sales
decreased due to the decreased raw milk powder pricing compared to the previous
year.





Operating
and Administrative Expenses


Our total
operating expenses consist primarily of sales and marketing expenses and general
and administrative expenses.  Our total operating expenses increased
by approximately $56.0 million, or 80.1%, from approximately $69.7 million in
2008 to approximately $125.7 million in 2009.





Sales and marketing. Our
sales and marketing expenses consist primarily of advertising and market
promotion expenses, and other overhead expenses incurred by our sales and
marketing personnel. Sales and marketing expenses increased approximately $54.4
million, or 107.4%, from approximately $50.7 million for 2008 to approximately
$105.1 million for 2009. This increase was primarily attributable to an increase
of approximately $20.1 million, or 180.6%, in advertising expense, an increase
of approximately $18.7 million, or 134.5%, in total promotion costs, an increase
of approximately $10.1 million, or 74.6%, in salary of marketing staff, and an
increase of approximately $3.0 million, or 59.9%, in transportation costs. Total
promotion costs include expenses related to promotion activities and wages of
certain sales people. Sales and marketing expenses are likely to increase as we
continue to expand our distribution network throughout China and seek to
increase our market share and awareness of our premium quality
products.





General and Administrative.
Our general and administrative expenses consist primarily of salary, travel
expenses, entertainment expenses, benefits, share-based compensation, and
professional service fees. General and administrative expenses increased
approximately $1.4 million, or 7.5%, from approximately $19.0 million for 2008
to $20.5 million for 2009. The increase was primarily attributable to an
increase of approximately $1.8 million, or 51.6%, in staff salary and welfare
contributions and an increase of approximately $1.2 million, or 96.1%, in
share-based compensation expenses. The increase was partially offset by a
decrease of approximately $1.0 million, or 57.2%, in amortization expenses and a
decrease of approximately $0.7 million, or 453.9%, in provisions for bad debt.
Decrease in provisions for bad debt was primarily attributable to
decreases in receivables from raw milk powder customers as the industry
recovered from the melamine crisis. General and administrative expenses are
likely to increase as we continue to expand our production, sourcing capacity,
and distribution capacity throughout China.





Income
from Continuing Operations


As a
result of the foregoing, our income from continuing operations decreased by
approximately $1.2 million, or 19.0%, from approximately $6.3 million in 2008 to
approximately $5.1 million in 2009.





Other Income
(Expenses)


Our other
income (expenses) consists primarily of interest and finance costs, registration
rights penalty, goodwill impairment, loss on derivatives and government
subsidized tax refunds. Other income increased by approximately $2.5 million, or
31.6%, from approximately $7.9 million for 2008 to approximately $10.4 million
for 2009. The increase was primarily attributable to a decrease of approximately
$12.7 million, or 67.4%, in interest and finance costs, an increase of
approximately $14.4 million, or 211.0%, in government subsidized tax refunds and
a decrease of $2.4 million, or 100%, in registration penalty rights which were a
one-off penalty expense. The decrease was partially offset by a decrease of
approximately $6.2 million, or 74.0%, in loss on derivatives. Loss on
derivatives in 2008 was primarily attributable to our repurchase of all of our
2012 Notes, which we completed in the third quarter of 2009, while the loss in
2009 was primarily attributable to our common stock financing.




29




Income
Tax (Benefit) Expenses


We are
subject to U.S. federal and state income taxes, and our subsidiaries
incorporated in the PRC are subject to enterprise income taxes in the
PRC.  Our income tax expenses decreased by approximately $4.3 million,
or 120.9%, from an expense of approximately $3.6 million in 2008 to a benefit of
approximately $0.7 million in 2009.  The decrease was primarily
attributable to losses experienced in our fourth quarter which reduced our
overall tax for the year.





Net
Income from Discontinued Operations


As
further explained below under “—Ausnutria Transaction,” due
to a letter of intent we entered into in December 2008 to sell Moveup, accounts
relating to our subsidiary Moveup are reflected in our financial statements as
discontinued operations.  Our net income from discontinued operations
decreased by approximately $3.2 million, or 49.2%, from approximately $6.5
million in 2008 to approximately $3.3 million in 2009.





Cumulative
Currency Translation Adjustments


Our
principal country of operations is the PRC and our functional currency is the
Renminbi, but our reporting currency is the U.S. dollar.  All
translation adjustments resulting from the translation of our financial
statements into U.S. dollars are reported as cumulative currency translation
adjustments.  Our cumulative currency translation adjustments
decreased by approximately $12.7 million, or 96.6%, from approximately $13.2
million in 2008 to approximately $0.5 million in 2009.





Liquidity
and Capital Resources


As of
December 31, 2009, we had retained earnings of approximately $73.7 million,
cash and cash equivalents of approximately $48.9 million and total current
assets of approximately $177.6 million.  As of December 31, 2009, we
had a working capital of approximately $12.9 million.  We have
financed our activities to date principally from cash generated from operations,
the sale of securities, and bank loans.





Our
summary cash flow information is as follows:




Year ended December 31Net cash provided by (used in):
            
            2009
            
            
            2008($ in thousands)Operating
      activities
            
            
            17,188
            
            
            
            29,899Investing
      activities
            
            
            (48,449
            )
            
            
            (32,259
            )Financing
      activities
            
            
            65,714
            
            
            
            713




Net
Cash Provided by Operating Activities
 Net cash
provided by operating activities decreased approximately $12.7 million, from
approximately $29.9 million in 2008 to approximately $17.2 million in 2009. This
decrease was primarily attributable to a decrease in interest expenses from
accrual of guaranteed redemption value related to our convertible debt of
approximately $13.6 million, a decrease in loss on derivatives of approximately
$6.2 million, an increase in net trade receivables of approximately $6.3
million, a decrease in inventories, net of approximately $20.1 million, an
increase in advances to suppliers of approximately $5.6 million, an increase in
prepayments and other assets of approximately $4.1 million, an increase in VAT
refundable taxes of approximately $8.7 million, a decrease in accounts payable
of approximately $22.9 million, and a decrease in advances from customers of
approximately $8.1 million.  This decrease was offset in part by a
decrease in gain on debt extinguishment of approximately $30.5 million, an
increase of net income from continuing operations of approximately $5.6 million,
an increase from loss on disposal of biological assets of approximately $1.5
million, an increase in compensation expense for option awards of approximately
$2.1 million, increase in amounts due to related parties of approximately $8.9
million, and increase in deferred income of approximately $6.9
million.
  Net
Cash Used in Investing Activities
 Net cash
used in investing activities increased approximately $16.2 million, from
approximately $32.3 million in 2008 to approximately $48.4 million in 2009. This
increase was primarily attributable to an increase in purchase of property and
equipment of approximately $45.1 million, and our purchase in 2009 of our
Longjiang Feihe dairy operations for approximately $4.4 million. This increase
was offset in part by a decrease in purchase of biological assets of
approximately $5.9 million and proceeds from sale of a subsidiary of
approximately $39.0 million. Net cash used in investing activities
primarily relates to our bank and other cash management vehicles and
expenditures associated with our construction and acquisition of new
facilities.




30




Net
Cash Provided by Financing Activities


Net cash
provided by financing activities increased by approximately $65.0 million, from
approximately $0.7 million in 2008 to approximately $65.7 million in 2009. The
increase was primarily attributable to the proceeds of approximately $62.9
million from our common stock financing and increases in short term and long
term debts of approximately $53.8 million and approximately $14.8 million,
respectively. The increase was offset in part by the repayment of short term
debt of approximately $69.5 million and the repayment of short term notes and
loans payable of approximately $1.5 million.




Outstanding
Indebtedness





7.75%
Convertible Notes Due 2009


In
October 2006, pursuant to a subscription agreement, we issued an aggregate
principal amount of $18.2 million in 2009 Notes, and warrants to purchase up to
an aggregate of approximately 251,000 shares of our common stock at a purchase
price of $14.50 per share.  In October 2009, all of the 2009 Notes had
been converted into 1,549,122 shares of stock at a conversion price of $14.50
per share.





1.00%
Guaranteed Senior Secured Convertible Notes Due 2012


In June
2007, pursuant to a notes purchase agreement and related agreements, we issued
an aggregate principal amount of $80.0 million in 2012 Notes.  Pursuant to
a supplemental indenture entered into in November 2008, we repurchased all of
the 2012 Notes for an aggregate amount of $92.0 million.  Of this
amount, in 2009 we paid $80.5 million and recorded as other income a gain on
waived interest of $550,000.  Accordingly, we have repurchased all of
the 2012 Notes. As part of the first repurchase payment, we also paid $407,000
in accrued and unpaid interest and accrued registration rights penalty to
holders of the 2012 Notes.  Costs of $124,000 associated with the 2012
Notes restructuring were capitalized as a deferred charge and are shown as
another asset in the consolidated balance sheets. These costs were amortized
over the term of the restructured 2012 Notes.  Amortization of
$107,000 and $17,000 was charged to expense during the years ended December 31,
2009 and 2008.





Equipment
Financing


In
October 2009, we entered into a loan agreement with a bank in the PRC for a
principal amount of up to $9.2 million for the purpose of financing the purchase
of certain equipment.  As of December 31, 2009, there was
approximately $4.0 million in principal payable under this loan.  The
loan bears interest at the six-month LIBOR rate plus 1.95%, with principal
payable in 10 equal semi-annual installments and interest payable
semi-annually.  The loan agreement contains certain customary events
of default, including failure to pay any interest or principal on the loan,
failure to comply with any provision under the agreement, the occurrence of
certain insolvency events, and other material adverse events.  The
loan agreement also contains a financial covenant requiring us to maintain a
debt to earnings ratio.  At December 31, 2009, we were in technical
default of the financial covenant.  The bank did not provide notice of
default, waived the technical default at December 31, 2009, and agreed to revise
the financial covenant to measure compliance on a 12-month rolling basis rather
than quarter by quarter.  However, we may be unable to comply with the
revised financial covenant in the future or to obtain a waiver from the
bank.  Our inability to comply with the covenant in the future may
impact our ability to draw against the facility, constitute an event of default
under the loan agreement, impact our ability to obtain additional debt, and have
an adverse effect on our business and financial condition.





Other
Factors Affecting our Liquidity and Capital Resources




Expansion
Strategy


We
believe the market for dairy products in China is growing rapidly, including the
market for high quality dairy products.  Our growth strategy involves
capturing as much of this market as possible during this rapid growth
phase.  To implement this strategy we plan to expand our sales and
marketing capabilities by implementing new targeted strategies and promotions as
well as strengthen and expand our distribution points.  We will also
invest in marketing which will strengthen our premium quality brand awareness,
and to strategically align sourcing, production and distribution by
region.  Our expansion strategy will require the continued retention
and investment of our earnings from operations and, we believe, additional
funding from private debt and equity financing.  In general, the
commitment of funds towards expansion tends to impair
liquidity.  However, we believe that because of the upward trend in
our revenues in recent years, even if this trend levels off, our income from
continuing operations coupled with such additional financing should provide
sufficient liquidity to meet our overall needs.  As of December 31,
2009, we had working capital of $12.9 million.  We believe our cash
and cash equivalents are adequate to satisfy our working capital needs and
sustain our ongoing operations for the next twelve
months.




31





Ausnutria
Transaction


Moveup
was initially formed in October 2007 to serve as an acquisition vehicle in
connection with our proposed acquisition of 100% of the outstanding equity
interest in Ausnutria Dairy (Hunan) Company Ltd., or Ausnutria, a distributor of
dairy products focused on the high-end segment of the dairy products market in
the PRC.   In 2007, we entered into several agreements with
Ausnutria in connection with this transaction, which did not
close.  In February 2008, we made a deposit payment of approximately
$1.4 million to Ausnutria Holding Co., Ltd., which indirectly owns Ausnutria, in
connection with our efforts to resolve the incomplete transactions in
2007.  The transaction did not close and we entered into
renegotiations.  In connection with this transaction, we recorded a
total deposit for investment of $31.5 million as of December 31, 2008, of
which $1.9 million related to changes in exchange rates.





In
December 2008, we and Ausnutria’s owners entered into a letter of intent to
unwind the transactions.  Accordingly, the prior transactions to acquire
Ausnutria were effectively cancelled and Moveup is reflected in our financial
statements as discontinued operations.  In February 2009, we, through
our subsidiary Feihe Dairy, entered into an equity purchase agreement pursuant
to which Feihe Dairy and the minority shareholder of Moveup, Liu Sheng-Hui, one
of our directors and Vice President of Finance of Feihe Dairy, each agreed to
sell to Hunan Xindaxin Co., Ltd. 100% of their equity interests in Moveup for an
aggregate consideration of approximately $43.3 million.  The purchase
price was payable in two tranches.  We received approximately $11.0
million from the purchasers in 2008 and the second tranche of approximately
$32.3 million was released from an escrow account to Feihe Dairy and Mr. Liu in
2009.





Longjiang
Feihe Acquisition


In
January 2009, our subsidiary Gannan Feihe entered into a letter of intent with
Heilongjiang Xin Tian Dairy Co., Ltd., to acquire Longjiang Feihe for
approximately $4.4 million.  We paid this amount in three tranches
during the year ended December 31, 2009 and received the business license in May
2009.





In
January 2009, Gannan Feihe entered into an agreement with the Government of
Longjiang County, Heilongjiang Province, China, to provide subsidy support,
subject to certain provisions, to Gannan Feihe for its planned acquisition of
Longjiang Feihe.  Pursuant to the agreement, we received approximately
$4.4 million in subsidy support during the year ended December 31,
2009.





Investments
in new subsidiaries


In
October 2009, our subsidiary Aiyingquan was registered in Heilongjiang Province,
China.  As of December 31, 2009, we paid approximately $293,000 of the
total registered capital requirement of approximately $1.5 million, and we will
hold a 100% equity interest in this subsidiary.  The primary business
of Aiyingquan is to market and distribute water and cheese, specifically
marketed for consumption by children.





In
January 2010, our subsidiary Heilongjiang Trading was registered in Heilongjiang
Province, China.  As of December 31, 2009, we paid approximately
$293,000 of the total registered capital requirement of approximately $1.5
million, and we will hold an 85% equity interest in this
subsidiary.  The primary business of Heilongjiang Trading is to sell
milk and soybean related products.




32





Common
Stock Financing


In August
2009, we entered into a subscription agreement pursuant to which we issued
2,100,000 shares of our common stock to the Purchasers for an aggregate purchase
price of $63.0 million, including $47.0 million in cash and the conversion of a
$16.0 million bridge loan we previously received from the Purchasers. We used a
portion of the proceeds from the transaction to repurchase our 2012
Notes.  In connection with the subscription agreement, we entered into
a registration rights agreement, pursuant to which we have registered the resale
of the securities issued or issuable pursuant to the subscription
agreement.





In the
subscription agreement, we also agreed, until August 2012, not to issue new
shares of our common stock at a price below $30.00 per share without the prior
written consent of a majority in interest of the Purchasers, subject to certain
exceptions.  We also granted each of the Purchasers a participation
right to purchase up to such person’s pro rata share of any new securities we
may, from time to time, propose to issue after the closing date, subject to
certain exceptions.  Furthermore, if the average of closing prices of
our common stock for the fifteen trading days commencing on the third
anniversary of the closing date is less than $39.00 per share, the Purchasers
will have the right to cause us to repurchase all (but not less than all) of the
securities acquired by the Purchasers in connection with the
agreement.  The repurchase price would be an amount equal to the
issuance price plus a 5% annual compounded return, subject to certain
adjustments if there is a performance adjustment event.  In addition,
because we did not meet certain earnings per share targets for 2009, we must
issue 525,000 additional shares of our common stock to the Purchasers pursuant
to the agreement, although we will have no earnings per share targets for 2010
to satisfy under the agreement.




Off
Balance Sheet Arrangements




We have
no off-balance sheet arrangements.




Critical
Accounting Policies





The
consolidated financial statements include the financial statements of us and our
subsidiaries.  All transactions and balances among us and our
subsidiaries have been eliminated upon consolidation. Certain amounts included
in or affecting our consolidated financial statements and related disclosures
must be estimated, requiring us to make certain assumptions with respect to
values or conditions that cannot be known with certainty at the time the
financial statements are prepared. These estimates and assumptions affect the
amounts we report for assets and liabilities, our disclosure of contingent
assets and liabilities at the date of our financial statements, and the reported
amounts of revenues and expenses during the reported periods. We routinely
evaluate these estimates, utilizing historical experience, consulting with
experts and utilizing other methods we consider reasonable in the particular
circumstances. Nevertheless, actual results may differ significantly from our
estimates. Any effects on our business, financial position or results of
operations resulting from revisions to these estimates are recorded in the
period in which the facts that give rise to the revision become
known.





Estimates of allowances for bad
debts – We must periodically review our trade and other receivables to
determine if all are collectible or whether an allowance is required for
possible uncollectible balances.  When determining the allowances, a number
of factors are considered, including the length of time the receivable is past
due, past loss history, the counter party’s current ability to pay and the
general condition of the economy and industry.  We perform this review
quarterly. Although our write-offs of bad debts have been minimal in recent
years and we had no write-off in the year ended December 31, 2009, events and
circumstances could occur that would require that we increase our allowance in
the future.





Estimate of the useful lives of
property and equipment and biological assets – We must estimate the
useful lives and residual values of our property and equipment and biological
assets. We must also review property and equipment and biological assets for
possible impairment whenever events and circumstances indicate that the carrying
value of those assets may not be recovered from the estimated future cash flows
expected to result from their use and eventual disposition.  We
recognized no impairments in the years ended December 31, 2009 and
2008.




33





Inventory – We value
inventories at the lower of cost or market value.  We determine the
cost of inventories using the weighted average cost method and include any
related production overhead costs incurred in bringing the inventories to their
present location and condition.  We must determine whether we have any
excessive, slow moving, obsolete or impaired inventory.  We perform
this review quarterly, which requires management to estimate the future demand
of our products and market conditions.  We make provisions on the value of
inventories at period end equal to the difference between the cost and the
estimated market value.  If actual market conditions change, additional
provisions may be required.  In addition, we may write off some
provisions if we later sell some of the subject inventory.  As a result
of these reviews, we reduced our estimated reserve for obsolescence by
$57,355 and $168,151 for the years ended December 31, 2009 and 2008,
respectively.





Goodwill – We must test
goodwill annually for impairment or more frequently if events or changes in
circumstances indicate that it might be impaired.  We perform impairment
tests at the reporting unit level to identify potential goodwill
impairment.  We recognize a goodwill impairment loss in our statements
of operations and comprehensive income when the carrying amount of goodwill
exceeds its implied fair value.  We perform the impairment test at the
end of the fourth quarter each year.  As a result of this
impairment testing, we recognized an estimate of $929,526 and $nil in goodwill
impairment expense for the years ended December 31, 2009 and 2008,
respectively.  For additional details, see Note 17 to the audited
financial statements contained elsewhere in this report.





Revenue recognition – Revenue
from the sale of goods is recognized on the transfer of risks and rewards of
ownership, which generally coincides with the time when the goods are shipped to
customers and the title has passed.  Revenue is shown net of sales returns,
which amounted to less than 0.02% of total sales in each of the years ended
December 31, 2009 and 2008, and net of sales rebates, which is determined based
on our distributors’ sales volumes.




New
Accounting Pronouncements





In
December 2007, the FASB issued authoritative guidance on noncontrolling
interests in consolidated financial statements.  The guidance
established new accounting and reporting standards for the noncontrolling
interest in a subsidiary and for the deconsolidation of a subsidiary.
Specifically, the guidance requires the recognition of a noncontrolling interest
(minority interest) as equity in the consolidated financial statements that
is presented separate from the parent’s equity. The amount of net income
attributable to the noncontrolling interest will be included in consolidated net
income on the face of the income statement. The guidance clarifies that changes
in a parent’s ownership interest in a subsidiary that do not result in
deconsolidation are equity transactions if the parent retains its controlling
financial interest. In addition, the guidance requires that a parent recognize a
gain or loss in net income when a subsidiary is deconsolidated. Such gain or
loss will be measured using the fair value of the noncontrolling equity
investment on the deconsolidation date. The guidance also includes expanded
disclosure requirements regarding the interests of the parent and its
noncontrolling interest. The guidance is effective for fiscal years, and interim
periods within those fiscal years, beginning on or after December 15,
2008.  The adoption of the guidance resulted in the reclassification
of minority interest into equity.





In
December 2007, FASB issued authoritative guidance on accounting for business
combinations, including the measurement of acquirer shares issued in
consideration for a business combination, the recognition of contingent
consideration, the accounting for pre-acquisition gain and loss contingencies,
the recognition of capitalized in-process research and development, the
accounting for acquisition-related restructuring cost accruals, the
treatment of acquisition related transaction costs and the recognition of
changes in the acquirer’s income tax valuation allowance. The requirements are
effective for fiscal years beginning after December 15, 2008.  The
adoption of these requirements did not have a material impact on our financial
statements.




34





In
February 2008, the FASB issued a deferral for the fair value requirements for
non-financial assets and liabilities not required to be stated at fair value on
a recurring basis (at least annually) until fiscal years beginning after
November 15, 2008. This deferral primarily impacts assets such as property,
plant and equipment, intangible assets and goodwill upon non-recurring events
such as business combinations, asset impairments and goodwill impairment, among
others. The adoption of the deferral did not have a material impact on our
financial statements.





In March
2008, the FASB issued new disclosure requirements for an entity’s derivative and
hedging activities. These disclosure requirements are effective for periods
beginning after November 15, 2008 and the adoption of the disclosure
requirements did not have a material impact on our financial
statements.





In May
2008, the FASB issued guidance that requires an issuer of certain convertible
debt instruments that may be settled in cash, or other assets, on conversion to
separately account for the debt and equity components in a manner that reflects
the issuer’s non-convertible debt borrowing rate. We adopted this guidance in
the first quarter of 2009 on a retrospective basis. The adoption of this
guidance did not have a material impact on our financial
statements.





In June
2008, the FASB issued guidance which requires entities to apply the two-class
method of computing basic and diluted earnings per share for participating
securities that include awards that accrue cash dividends (whether paid or
unpaid) any time common shareholders receive dividends and those dividends will
not be returned to the entity if the employee forfeits the award. The guidance
is effective for fiscal years beginning after December 15, 2008, and the interim
periods within those years. Retroactive disclosure is required. The adoption of
this guidance did not have a material impact on our financial
statements.





In June
2008, the FASB ratified certain authoritative guidance regarding determining
whether an instrument (or embedded feature) is indexed to an entity’s own stock.
This guidance is effective for years beginning after December 15, 2008 and the
adoption of the guidance did not have a material impact on our financial
statements.





In July
2008, the FASB issued new guidance regarding fair value measurements. This new
guidance defines fair value, establishes a framework for measuring fair value in
generally accepted accounting principles and expands disclosures about fair
value measurements. The new guidance was effective for us beginning July 1,
2008, for certain financial assets and liabilities. The new guidance was
effective for non-financial assets and liabilities recognized or disclosed at
fair value on a non-recurring basis beginning July 1, 2009. The adoption of this
guidance did not have a material impact on our financial
statements.





In April
2009, the FASB issued additional guidance on estimating fair value when the
volume and level of transaction activity for an asset or liability have
significantly decreased in relation to normal market activity for the asset or
liability, or on circumstances that may indicate that a transaction is not
orderly. This guidance also addresses when the use of multiple, or different,
valuation techniques may be warranted and considerations for determining the
weight that should be applied to the various techniques. The guidance is
effective for the interim and annual reporting periods ending after June 15,
2009, and must be applied prospectively. The adoption of this guidance did not
have a material impact on our financial statements.





In May
2009, the FASB issued authoritative accounting guidance on subsequent events, a
topic that was previously only addressed by auditing literature. The guidance
clarified that subsequent events are either recognized or non-recognized and
modified the definition of subsequent events to refer to events or transactions
that occur after the balance sheet date but before the financial statements are
issued.





In June
2009, the FASB amended the accounting and disclosure requirements for transfers
of financial assets. This amendment requires greater transparency and additional
disclosures for transfers of financial assets and the entity’s continuing
involvement with them, and it changes the requirements for derecognizing
financial assets. In addition, this amendment eliminates the concept of a
qualifying special-purpose entity, or QSPE. This amendment is effective for
financial statements issued for fiscal years beginning after November 15, 2009.
This amendment is not expected to have a material impact on our financial
statements.




35





In June
2009, the FASB amended the accounting and disclosure requirements for the
consolidation of variable interest entities, or VIEs. The elimination of the
concept of a QSPE, as discussed above, removes a prior exception to
consolidation. This amendment requires an enterprise to perform a qualitative
analysis when determining whether or not it must consolidate a VIE. The
amendment also requires an enterprise to continuously reassess whether it must
consolidate a VIE. Additionally, the amendment requires enhanced disclosures
about an enterprise’s involvement with VIEs and any significant change in risk
exposure due to that involvement, as well as how its involvement with VIEs
impacts the enterprise’s financial statements. Finally, an enterprise will be
required to disclose significant judgments and assumptions used to determine
whether or not to consolidate a VIE. This amendment is effective for financial
statements issued for fiscal years beginning after November 15, 2009. This
amendment is not expected to have a material impact on our financial
statements.





In July
2009, the FASB adopted the FASB Accounting Standards
CodificationTM, or the
Codification, as the single source of authoritative nongovernmental U.S. GAAP.
The Codification is effective for interim and annual periods ending after
September 15, 2009. All existing accounting standards documents, with a few
grandfathered exceptions, are superseded.  All other accounting
literature not included in the Codification is nonauthoritative.  The
Codification did not have an impact on our financial statements.





In August
2009, the FASB issued guidance regarding accounting for redeemable equity
instruments that was effective upon issuance. The guidance updates prior
guidance regarding how to distinguish liabilities from equity, in accordance
with guidance from the Emerging Issues Task Force on classification and
measurement of redeemable securities. The adoption of this guidance did not have
a material impact on our financial statements.





In August
2009, the FASB issued guidance regarding the fair value measurement of
liabilities. The update was effective for the first reporting period (including
interim periods) beginning after August 28, 2009.  The adoption of
this update did not have a material impact on our financial
statements.





In
September 2009, the FASB issued guidance to provide technical corrections
regarding the computation of earnings per share for a period that includes a
redemption or an induced conversion of a portion of a class of preferred stock
and the effect of the calculation of earnings per share for the redemption or
induced conversion of preferred stock.  The guidance was effective
upon issuance and adoption of it did not have material impact on our financial
statements.





In
February, 2010, the FASB amended and clarified certain recognition and
disclosure requirements for public and certain other entities. Under these
amendments, certain entities are required to evaluate subsequent events through
the date that the financial statements are issued. Further, an entity that is an
SEC filer is not required to disclose the date through which subsequent events
have been evaluated. This amendment is effective for financial statements issued
for interim or annual periods ending after June 15, 2010. This amendment is not
expected to have a material impact on our financial statements.





Item
7A. Quantitative and Qualitative Disclosures About Market Risk





We
conduct all of our operations in the PRC, and the Renminbi is the national
currency in which our operations are conducted. We have not utilized any
derivative financial instruments or any other financial instruments, nor do we
utilize any derivative commodity instruments in our operations, nor any similar
market sensitive instruments.





The
exchange rate between the Renminbi and the U.S. dollar is subject to the PRC
government’s foreign currency conversion policies, which may change at any
time.  The exchange rate at December 31, 2008 was approximately 6.8
Renminbi to 1 U.S. dollar.  The exchange rate at December 31, 2009 was
approximately 6.83 Renminbi to 1 U.S. dollar.  The exchange rate is
currently permitted to float within a very limited range.





36




Item
8. Financial Statements and Supplementary Data





Financial
Statements





Please
see the accompanying audited consolidated financial statements attached hereto
beginning on page F-1.





Item
9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure





On
December 7, 2007, we dismissed MHM as our independent auditor following
notification of an informal SEC investigation related to individuals and
entities that provided accounting or certain advisory services to us, including
MHM and Henny Wee & Co.  The report of MHM on our financial
statements for the two most recent fiscal years did not contain an adverse
opinion or disclaimer of opinion, nor was it qualified or modified as to
uncertainty, audit scope or accounting principles. The decision to dismiss MHM
was approved by our Audit Committee.  During our two most recent
fiscal years and the subsequent interim period through the date of dismissal,
there were no reportable events as the term is described in Item 304(a)(1)(iv)
or (v) of Regulation S-K.  Effective January 25, 2008, we engaged
Grant Thornton, the Hong Kong member firm of Grant Thornton International Ltd.,
as our new independent registered public accountants.





Item
9A. Controls and Procedures





Evaluation
of Disclosure Controls and Procedures





Our
disclosure controls and procedures are designed to ensure that information
required to be disclosed in reports filed or submitted under the Exchange Act is
recorded, processed, summarized, and reported within the time periods specified
in SEC rules and forms and that such information is accumulated and communicated
to management, including our Chief Executive Officer and Chief Financial
Officer, to allow timely decisions regarding required disclosures.





Management
has evaluated the effectiveness of our disclosure controls and procedures for
the year ended December 31, 2009, under the supervision and with the
participation of our Chief Executive Officer and Chief Financial Officer, and
identified a material weakness in our internal control over financial reporting
which we view as an integral part of our disclosure controls and
procedures.  Consequently, our Chief Executive Officer and Chief
Financial Officer have concluded that our disclosure controls and procedures
were not effective at December 31, 2009.  This weakness is discussed
below under “— Management’s
Report on Internal Control Over Financial Reporting.”





Because
of this weakness and our historical weaknesses and deficiencies, management took
additional steps to ensure the reliability of our financial
reporting.  These steps included additional internal review,
additional Audit Committee review, efforts to remediate historical material
weaknesses and significant deficiencies in internal control over financial
reporting, and the performance of additional procedures by management with
respect to the financial statements contained in this report.





Management’s
Report on Internal Control Over Financial Reporting





Management,
under the supervision of our Chief Executive Officer and Chief Financial
Officer, is responsible for establishing and maintaining adequate internal
control over financial reporting.  Our internal control over financial
reporting is a process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements
for external purposes in accordance with generally accepted accounting
principles in the United States, or GAAP.  Internal control over
financial reporting includes those policies and procedures that (a) pertain
to the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of assets, (b) provide reasonable
assurance that transactions are recorded as necessary to permit preparation of
financial statements in accordance with GAAP, (c) provide reasonable
assurance that receipts and expenditures are being made only in accordance with
appropriate authorization of management and the board of directors, and
(d) provide reasonable assurance regarding prevention or timely detection
of unauthorized acquisition, use or disposition of assets that could have a
material effect on the financial
statements.




37





Management
conducted an assessment on the effectiveness of our internal control over
financial reporting based on criteria established in Internal Control – Integrated Framework issued
by the Committee of Sponsoring Organizations of the Treadway Commission, or
COSO, for the year ended December 31, 2009, under the supervision and with the
participation of our Chief Executive Officer and Chief Financial Officer and
concluded that these controls were not effective at December 31,
2009.  As a result of that assessment, we identified that we did not
effectively and timely assess the accounting treatment for certain routine and
non-routine transactions, including sales, purchases, government subsidy income,
and operating expenses, which we consider to constitute a material weakness in
our internal control over financial reporting.





A control
system, no matter how well conceived and operated, can provide only reasonable,
not absolute, assurance that the objectives of the control system are met.
Because of the inherent limitations in all control systems, no evaluation of
controls can provide absolute assurance that all control issues and instances of
fraud, if any, have been detected.





Our
internal control over financial reporting as of December 31, 2009 has been
audited by Grant Thornton, the Hong Kong member firm of Grant Thornton
International Ltd., an independent registered public accounting firm, as stated
in their report which is included herein.





Remediation
Plan





We are
devoting significant resources to remediating the material weakness identified
above and to improving our internal controls, including hiring additional
accounting, internal audit and finance staff, engaging consultants to assist
with these functions, upgrading our systems, and implementing additional
financial and management controls, reporting systems and procedures. Since the
year ended December 31, 2007, we have spent an aggregate of approximately $1
million to date on improving our controls. However, we do not expect that our
plan will fully remediate the material weakness identified above until at least
June 30, 2010, and it may not ensure the adequacy of our internal controls over
our financial reporting and processes in the future.





If we
experience additional material weaknesses and significant deficiencies in our
internal controls over financial reporting in the future, investors may lose
confidence in our reported financial information, which could lead to a decline
in our stock price, limit our ability to access the capital markets in the
future, and require us to incur additional costs to further improve our internal
control systems and procedures.





Changes
in Internal Controls





Since the
year ended December 31, 2007, we have been implementing the remedial measures
described above, including hiring additional accounting, internal audit and
finance staff, engaging consultants to assist with these functions, training our
staff, upgrading our systems, and implementing more rigorous and additional
financial and management controls, reporting systems, policies and procedures
and increasing our corporate audit focus on key accounting controls and
processes, including documentation requirements.   We expect to
continue to implement additional financial and management controls, reporting
systems and procedures.




38





Item
9B. Other Information





Not
applicable.




39




PART
III





Item
10.  Directors, Executive Officers and Corporate
Governance





The
information required by this item regarding our directors, director nominees,
and committees of the board of directors is incorporated by reference to our
definitive Proxy Statement for our 2010 Annual Meeting of Shareholders to be
filed with the SEC not later than 120 days after the end of our fiscal year
ended December 31, 2009, or the 2010 Proxy Statement, under the heading
“Election of Directors” and “Corporate Governance.” Information regarding
Section 16(a) beneficial ownership reporting compliance is incorporated by
reference to our 2010 Proxy Statement under the heading “Section 16(a)
Beneficial Ownership Reporting Compliance.”  Information regarding our
executive officers is incorporated by reference to our 2010 Proxy Statement
under the heading “Management—Executive Officers.”





Code
of Ethics





We have
adopted a Code of Ethics that applies to all of our officers, directors and
employees. The most recent version is available on the Investor Relations
section of our website at www.americandairyinc.com.  The
information contained on our website is not incorporated by reference into this
Annual Report on Form 10-K.  If we make any substantive
amendments to the code or grant any waiver from a provision of the code to any
executive officer or director, we will promptly disclose the nature of the
amendment or waiver on our website, as well as via any other means required by
applicable law.





Item
11. Executive Compensation





The
information required by this item is incorporated by reference to the 2010 Proxy
Statement under the heading “Executive Compensation.”





Item
12. Security Ownership of Certain Beneficial Owners and Management and Related
Shareholder Matters





The
information required by this item is incorporated by reference to the 2010 Proxy
Statement under the headings “Security Ownership of Certain Beneficial Owners
and Management” and “Equity Compensation Plan Information.”





Item
13. Certain Relationships and Related Transactions, and Director
Independence





The
information required by this item is incorporated by reference to the 2010 Proxy
Statement under the captions “Certain Relationships and Related Transactions”
and “Corporate Governance.”





Item 14. Principal Accountant Fees and Services





The
information required by this item is incorporated by reference to the 2010 Proxy
Statement under the caption “Ratification of Appointment of Independent
Registered Public Accounting Firm.”




40




PART IV




Item
15. Exhibits and Financial Statement Schedules





Financial
Statements


The
financial statements required by this item are included herein:




Reports of Independent Registered Public Accounting
      Firm
            
            
            F-1Audited
      Financial Statements
            
            
            F-3Consolidated
      Balance Sheets
            
            
            F-3Consolidated
      Statements of Operations and Comprehensive Income
            
            
            F-5Consolidated
      Statements of Changes in Shareholders’ Equity
            
            
            F-7Consolidated
      Statements of Cash Flows
            
            
            F-8Notes
      to the Consolidated Financial Statements
            
            
            F-11





Exhibits


The
following exhibits are filed as a part of this Annual Report.




Incorporated by ReferenceExhibit No.
              
              Exhibit Title
              
              Filed
                Herewith
              
              Form
              
              Exhibit
                No.
              
              File No.
              
              Filing Date2
              
              Stock
      Exchange Agreement, dated as of January 15, 2003, by and among the
      registrant, the registrant’s shareholders and Lazarus Industries,
      Inc.
              
              
              
              8-K
              
              2.1
              
              000-27351
              
              1/21/032.1
              
              Amendment
      to Stock Exchange Agreement, dated as of March 5, 2003, by and among the
      registrant, the registrant’s shareholders and Lazarus Industries,
      Inc
              
              
              
              8-K/A
              
              2.2
              
              000-27351
              
              3/5/033.1
              
              Articles
      of Incorporation
              
              
              
              10-SB
              
              1
              
              000-27351
              
              9/16/993.2
              
              Amendment
      to Articles of Incorporation
              
              
              
              10-KSB/A
              
              3.2
              
              000-27351
              
              5/25/043.3
              
              Bylaws
              
              
              
              10-SB
              
              2
              
              000-27351
              
              9/16/994.1
              
              Specimen
      certificate evidencing shares of common stock
              
              
              
              S-1/A
              
              4.1
              
              333-158777
              
              5/28/094.2
              
              Form
      of 7.75% Convertible Note
              
              
              
              8-K/A
              
              4.1
              
              001-32473
              
              10/6/064.3
              
              Form
      of Common Stock Purchase Warrant
              
              
              
              8-K/A
              
              4.2
              
              001-32473
              
              10/6/0610.1
              
              Joint
      Venture Agreement to organize Beijing Feihe
              
              
              
              10-QSB
              
              10.1
              
              000-27351
              
              5/17/0410.2
              
              2003
      Stock Incentive Plan
              
              
              
              S-8
              
              10
              
              333-123932
              
              4/7/0510.3
              
              Asset
      Purchase Agreement, dated as of May 20, 2005, by and between the
      registrant and Nutricia Nutritionals Col, Ltd.
              
              
              
              8-K
              
              10.1
              
              001-32473
              
              5/26/0510.4
              
              Form
      of Subscription Agreement, dated as of October 3, 2006, by and between the
      registrant and investors listed therein
              
              
              
              8-K/A
              
              10.1
              
              333-128075
              
              10/6/0610.5
              
              Form
      of Registration Rights Agreement, dated as of October 3, 2006, by and
      between the registrant and investors listed therein
              
              
              
              8-K/A
              
              10.2
              
              333-128075
              
              10/6/0610.6
              
              Share
      Transference Agreement, dated as of July 1, 2006, by and between the
      registrant and Shanxi Li Santai Science and Technology Co.,
      Ltd.
              
              
              
              S-1/A
              
              10.16
              
              333-128075
              
              4/17/0710.7
              
              Amended
      and Restated Notes Purchase Agreement, dated as of June 1, 2007, by and
      among the registrant, Leng You-Bin, Liu Hua and Citadel Equity
      Fund
              
              
              
              8-K
              
              10.1
              
              001-32473
              
              6/4/0710.8
              
              Indenture,
      dated as of June 1, 2007, by and between the registrant and The Bank of
      New York.
              
              
              
              8-K
              
              10.2
              
              001-32473
              
              6/4/07




41




Incorporated by ReferenceExhibit No.
            
            Exhibit Title
            
            Filed
              Herewith
            
            Form
            
            Exhibit No.
            
            File No.
            
            Filing Date10.9
            
            Form
      of Note (attached as exhibit to the Indenture filed as Exhibit
      10.19)
            
            
            
            8-K
            
            10.2
            
            001-32473
            
            6/4/0710.10
            
            Registration
      Rights Agreement
            
            
            
            8-K
            
            10.3
            
            001-32473
            
            6/4/0710.11
            
            Investor
      Rights Agreement
            
            
            
            8-K
            
            10.4
            
            001-32473
            
            6/4/0710.12
            
            Share
      Pledge Agreement
            
            
            
            8-K
            
            10.5
            
            001-32473
            
            6/4/0710.13
            
            Indenture,
      dated as of June 27, 2007, by and among the registrant, the holders listed
      therein and The Bank of New York
            
            
            
            S-1/A
            
            10.25
            
            333-128075
            
            6/28/0710.14
            
            Form
      of 1% Guaranteed Senior Secured Convertible Note (attached as an exhibit
      to the Indenture filed as exhibit 10.25)
            
            
            
            S-1/A
            
            10.25
            
            333-128075
            
            6/28/0710.15
            
            Form
      of Accession Letter
            
            
            
            S-1/A
            
            10.26
            
            333-128075
            
            6/28/0710.16
            
            Form
      of Non-Competition Agreement, by and between the registrant and each of
      Mr. Leng You-Bin and Roger Liu
            
            
            
            S-1/A
            
            10.27
            
            333-128075
            
            6/28/0710.17
            
            Joinder
      Agreement
            
            
            
            S-1/A
            
            10.28
            
            333-128075
            
            6/28/0710.18
            
            Loan
      Agreement, dated as of June 27, 2007, by and between the registrant and
      Moveup
            
            
            
            10-Q/A
            
            10.1
            
            001-32473
            
            8/22/0710.19
            
            Equity
      Purchase Agreement, dated as of August 2, 2007, by and among Moveup, Hunan
      Mulin Modern Food Company, Ltd., Australia Ausnutria Dairy Pty., Chen
      Yuanrong and Ausnutria
            
            
            
            10-Q/A
            
            10.2
            
            001-32473
            
            8/22/0710.20
            
            Share
      Subscription Agreement, dated as of August 12, 2007, by and between Moveup
      and Ausnutria
            
            
            
            10-Q/A
            
            10.3
            
            001-32473
            
            8/22/0710.21
            
            Share
      Subscription Agreement, by and between the registrant and
      Ausnutria
            
            
            
            10-Q/A
            
            10.4
            
            001-32473
            
            8/22/0710.22
            
            Equity
      Purchase Agreement, dated as of October 25, 2007, by and among Moveup,
      Hunan Mulin Modern Food Company, Ltd Chen Yuanrong and
      Ausnutria
            
            
            
            8-K
            
            10.1
            
            001-32473
            
            10/31/0710.23
            
            Employment
      Agreement, dated as of April 15, 2008 by and between the registrant and
      Jonathan H. Chou
            
            
            
            8-K
            
            10.1
            
            001-32473
            
            4/18/0810.24
            
            Supplemental
      Indenture, dated as of November 12, 2008, by and between the registrant
      and The Bank of New York Mellon, as Trustee, as amended
            
            
            
            8-K/A
            
            10.1
            
            001-32473
            
            11/21/0810.25
            
            Agreement
      Regarding 2009 Notes, dated as of November 12, 2008, by and among the
      registrant, Leng You-Bin and the investors named therein
            
            
            
            8-K/A
            
            10.2
            
            001-32473
            
            11/21/0810.26
            
            Share
      Pledge Agreement, dated as of November 12, 2008, by and among the
      registrant, Leng You-Bin and The Bank of New York, Mellon, as collateral
      agent
            
            
            
            8-K/A
            
            10.3
            
            001-32473
            
            11/21/0810.27
            
            First
      Amendment to Registration Rights Agreement, dated as of November 12, 2008,
      by and between the registrant and the investors named
    therein.
            
            
            
            8-K/A
            
            10.4
            
            001-32473
            
            11/21/0810.28
            
            Waiver
      Letter to Registration Rights Agreement, dated as of November 12, 2008, by
      and between the registrant and the investors named therein
            
            
            
            8-K/A
            
            10.5
            
            001-32473
            
            11/21/0810.29
            
            Form
      of Amended and Restated 7.75% Convertible Note due October 2,
      2009
            
            
            
            8-K/A
            
            10.6
            
            001-32473
            
            11/21/0810.30
            
            Form
      of Amended and Restated Common Stock Purchase Warrant
            
            
            
            8-K/A
            
            10.7
            
            001-32473
            
            11/21/0810.31
            
            Form
      of 2009 Stock Incentive Plan and related agreements
            
            
            
            8-K/A
            
            10.1
            
            001-32473
            
            5/14/0910.32
            
            Subscription
      Agreement, dated as of August 12, 2009, by and among American Dairy, Inc.
      and the Purchasers
            
            
            
            8-K
            
            10.1
            
            001-32473
            
            8/12/09




42






Incorporated by ReferenceExhibit No.
            
            Exhibit Title
            
            Filed
              Herewith
            
            Form
            
            Exhibit No.
            
            File No.
            
            Filing Date10.33
            
            Registration
      Rights Agreement, dated as of August 26, 2009, by and among American
      Dairy, Inc. and the Purchasers
            
            
            
            8-K
            
            10.1
            
            001-32473
            
            8/26/0914.1
            
            Code
      of Business Conduct and Ethics
            
            
            
            10-KSB
            
            14
            
            000-27351
            
            3/31/0514.2
            
            Amended
      and Restated Code of Business Conduct and Ethics
            
            
            
            8-K
            
            14
            
            001-32473
            
            5/12/0816.1
            
            Letter
      of HJ & Associates, L.L.C. regarding change in certifying
      accountant
            
            
            
            8-K
            
            16
            
            000-27351
            
            8/6/0316.2
            
            Letter
      of Weinberg & Company, regarding change in certifying
      accountant
            
            
            
            8-K
            
            16
            
            000-27351
            
            11/17/0316.3
            
            Letter
      of Murrell, Hall, McIntosh & Co., PLLP, regarding change in certifying
      accountant
            
            
            
            8-K
            
            16.1
            
            001-32473
            
            12/13/0721.1
            
            Subsidiaries
      of the registrant
            
            X23.1
            
            Consent
      of Grant Thornton
            
            X24.1
            
            Power
      of Attorney (included on signature page)
            
            X31.1
            
            Certification
      of Principal Executive Officer pursuant to Rules 13a-14 and 15d-14(a), as
      adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002
            
            X31.2
            
            Certification
      of Principal Financial Officer pursuant to Rules 13a-14 and 15d-14(a), as
      adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
      2002
            
            X32.1
            
            Certification
      of Principal Executive Officer and Principal Financial Officer pursuant to
      18 U.S.C. § 1350, as adopted pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002
            
            X




43





SIGNATURES




In
accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.




March
      16, 2010
            AMERICAN
      DAIRY, INC.By:
            /s/
      Leng You-BinLeng
      You-Bin, Chief ExecutiveOfficer
      and President (Principal Executive Officer)By:
            /s/
      Jonathan H. ChouJonathan
      H. Chou, Chief Financial Officer(Principal
      Accounting and Financial Officer)




POWER
OF ATTORNEY





KNOW BY
ALL MEN BY THESE PRESENTS, that each person whose signature appears below
constitutes and appoints Leng You-Bin as his or her true and lawful
attorney-in-fact and agent, with full power of substitution and resubstitution,
for him or her and in his or her name, place and stead, in any and all
capacities, to sign any and all Amendments hereto, and to file the same, with
all exhibits thereto, and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorney-in-fact and
agent full power and authority to do and perform each and every act and thing
requisite and necessary to be done in and about the premises, as fully to all
intents and purposes as he or she might or could do in person, hereby ratifying
and confirming all that said attorney-in-fact and agent, or his substitute or
substitutes, may lawfully do or cause to be done by virtue thereof.




In
accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.






/s/
      Leng You-Bin
            March
      16, 2010Leng
      You-Bin, Director, Chief ExecutiveOfficer
      and President (Principal Executive Officer)/s/
      Liu Hua
            March
      16, 2010Liu
      Hua, Director, Vice Chairman, Secretary and Treasurer/s/
      Liu Sheng-Hui
            March
      16, 2010Liu
      Sheng-Hui, Director/s/
      Hui-Lan Lee
            March
      16, 2010Hui-Lan
      Lee, Director/s/
      Kirk Downing
            March
      16, 2010Kirk
      Downing, Director/s/
      James Lewis
            March
      16, 2010James
      Lewis, Director




/s/
      Neil Shen
            March
      16, 2010Neil
      Shen, Director





45




INDEX
TO CONSOLIDATED FINANCIAL STATEMENTS




Reports
      of Independent Registered Public Accounting Firm
            
            
            F-1Audited
      Financial Statements
            
            
            F-3Consolidated
      Balance Sheets
            
            
            F-3Consolidated
      Statements of Operations and Comprehensive Income
            
            
            F-5Consolidated
      Statements of Changes in Shareholders’ Equity
            
            
            F-7Consolidated
      Statements of Cash Flows
            
            
            F-8Notes
      to the Consolidated Financial Statements
            
            
            F-11









REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING
FIRM





Board of
Directors and


Shareholders
of American Dairy, Inc.




We have
audited the accompanying consolidated balance sheets of American Dairy, Inc. (a
Utah Corporation) and subsidiaries (the “Company”) as of December 31, 2009 and
December 31, 2008 and the related consolidated statements of operations and
comprehensive income, changes in shareholders' equity, and cash flows for each
of the years in the two year period ended December 31, 2009.  These
financial statements are the responsibility of the Company's
management.  Our responsibility is to express an opinion on these
financial statements based on our audits.





We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States).  Those standards require
that we plan and perform the audits to obtain reasonable assurance about whether
the financial statements are free of material misstatement.  An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements.  An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement
presentation.  We believe that our audits provide a reasonable basis for
our opinion.





In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of the Company as of December
31, 2009 and December 31, 2008 and the results of their operations and their
cash flows for each of the years in the two year period ended December 31, 2009
in conformity with accounting principles generally accepted in the United States
of America.





As
discussed in Note 3 to the Notes to the Consolidated Financial Statements, the
Company adopted new accounting guidance for business acquisitions, effective
January 1, 2009.





We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), American Dairy, Inc. and subsidiaries’ internal
control over financial reporting as of December 31, 2009, based on criteria
established in Internal Control—Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO) and our report
dated March 16, 2010 expressed an adverse opinion.








/s/  GRANT
THORNTON





Hong
Kong


March 16,
2010




F-1




REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM


Board of
Directors and


Shareholders
of American Dairy, Inc.





We have
audited American Dairy, Inc. (a Utah Corporation) and subsidiaries’ (the
“Company”) internal control over financial reporting as of December 31,
2009, based on criteria established in  Internal Control—Integrated
Framework  issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO). The Company’s management is responsible for
maintaining effective internal control over financial reporting and for its
assessment of the effectiveness of internal control over financial reporting,
included in the accompanying Management’s Report on Internal Control over
Financial Reporting. Our responsibility is to express an opinion on the
Company’s internal control over financial reporting based on our
audit.





We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control over
financial reporting, assessing the risk that a material weakness exists, testing
and evaluating the design and operating effectiveness of internal control based
on the assessed risk, and performing such other procedures as we considered
necessary in the circumstances. We believe that our audit provides a reasonable
basis for our opinion.





A
company’s internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A company’s internal control over
financial reporting includes those policies and procedures that (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company;
(2) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance with
generally accepted accounting principles, and that receipts and expenditures of
the company are being made only in accordance with authorizations of management
and directors of the company; and (3) provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition, use, or
disposition of the company’s assets that could have a material effect on the
financial statements.





Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.





A
material weakness is a deficiency, or combination of control deficiencies, in
internal control over financial reporting, such that there is a reasonable
possibility that a material misstatement of the company’s annual or interim
financial statements will not be prevented or detected on a timely
basis.  If one or more material weaknesses exist, a company’s internal
control over financial reporting cannot be considered effective.  The
following material weakness has been identified and included in management’s
assessment: Accounting treatment for routine and non-routine transactions – The
Company did not effectively and timely assess the accounting treatment for
transactions, including sales, purchases, government subsidy income, and
operating expenses.





In our
opinion, because of the effect of the material weakness described above on the
achievement of the objectives of the control criteria, American Dairy, Inc. and
subsidiaries has not maintained an effective internal control over financial
reporting as of December 31, 2009, based on criteria established in
Internal Control—Integrated Framework  issued by COSO.




We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets of American
Dairy, Inc. and subsidiaries as of December 31, 2009 and 2008, and the
related consolidated statements of operations, stockholders’ equity and
comprehensive loss, and cash flows for each of the two years in the period ended
December 31, 2009.  The material weakness identified above was
considered in determining the nature, timing, and extent of audit tests applied
in our audit of the 2009 financial statements, and this report does not affect
our report dated March 16, 2010, which expressed an unqualified opinion on those
financial statements.








/s/ GRANT
THORNTON





Hong
Kong


March 16,
2010




F-2




AMERICAN
DAIRY, INC.


CONSOLIDATED
BALANCE SHEETS




Note
            
            
            December 31,
              2009
            
            
            December 31,
              2008US$
            
            
            US$ASSETSCurrent
      assets:Cash
      and cash equivalents
            
            
            
            
            
            48,949,524
            
            
            
            11,785,408Notes
      and loans receivable, net of allowance of $4,000,000
            
            
            8
            
            
            
            438,776
            
            
            
            1,493,245Trade
      receivables, net of allowance of $791,119 and $1,311,331,
      respectively
            
            
            9
            
            
            
            27,495,190
            
            
            
            12,275,497Due
      from related parties
            
            
            19
            
            
            
            2,188,243
            
            
            
            265,479Employee
      receivables
            
            
            
            
            
            
            396,724
            
            
            
            307,249Advances
      to suppliers
            
            
            12
            
            
            
            24,417,968
            
            
            
            24,943,046Receivable
      from discontinued operations
            
            
            13
            
            
            
            -
            
            
            
            31,002,897Inventories,
      net of allowance of $518,561 and $575,916, respectively
            
            
            10
            
            
            
            59,044,665
            
            
            
            52,330,333Prepayments
      and other current assets
            
            
            
            
            
            
            1,814,472
            
            
            
            63,711VAT
      refundable taxes
            
            
            
            
            
            
            8,532,629
            
            
            
            488,938Other
      receivables
            
            
            
            
            
            
            4,307,680
            
            
            
            4,598,359Current
      assets of discontinued operations
            
            
            13
            
            
            
            -
            
            
            
            12,392,384Total
      current assets
            
            
            
            
            
            
            177,585,871
            
            
            
            151,946,546Investments:Investment
      in mutual funds – available for sale
            
            
            11
            
            
            
            136,466
            
            
            
            77,504Investment
      at cost
            
            
            
            
            
            
            263,264
            
            
            
            262,611399,730
            
            
            
            340,115Property
      and equipment:Property
      and equipment, net
            
            
            14
            
            
            
            154,572,409
            
            
            
            88,289,858Construction
      in progress
            
            
            15
            
            
            
            23,170,909
            
            
            
            28,847,959177,743,318
            
            
            
            117,137,817Biological
      assets:Immature
      biological assets
            
            
            16
            
            
            
            35,672,123
            
            
            
            23,784,479Mature
      biological assets, net
            
            
            16
            
            
            
            13,232,124
            
            
            
            1,483,35548,904,247
            
            
            
            25,267,834Other
      assets:Deferred
      tax assets
            
            
            5
            
            
            
            3,632,815
            
            
            
            730,490Prepaid
      leases
            
            
            
            
            
            
            29,016,486
            
            
            
            29,146,748Other
      intangible assets
            
            
            7
            
            
            
            821,331
            
            
            
            -Goodwill
            
            
            17
            
            
            
            1,784,331
            
            
            
            2,282,838Deferred
      charges, net
            
            
            
            
            
            
            369,608
            
            
            
            107,396Long
      term assets of discontinued operations
            
            
            13
            
            
            
            -
            
            
            
            31,587,018Total
      assets
            
            
            
            
            
            
            440,257,737
            
            
            
            358,546,802




F-3




LIABILITIES
      AND SHAREHOLDERS’ EQUITYLiabilitiesCurrent
      liabilities:Current
      maturities of long term debt
            
            
            22
            
            
            
            7,312,935
            
            
            
            4,018,704Convertible
      debt redeemable within one year
            
            
            23
            
            
            
            -
            
            
            
            17,732,033Short
      term debt
            
            
            22
            
            
            
            -
            
            
            
            73,809,893Notes
      and loans payable
            
            
            18
            
            
            
            62,372,922
            
            
            
            8,055,450Accounts
      payable
            
            
            
            
            
            
            37,956,046
            
            
            
            36,643,041Accrued
      expenses
            
            
            24
            
            
            
            8,365,245
            
            
            
            10,620,393Income
      tax payable
            
            
            
            
            
            
            2,980,774
            
            
            
            1,185,528Advances
      from customers
            
            
            
            
            
            
            6,893,947
            
            
            
            9,864,080Due
      to related parties
            
            
            19
            
            
            
            10,531,851
            
            
            
            1,017,399Advances
      from employees
            
            
            20
            
            
            
            483,647
            
            
            
            1,016,173Accrued
      employee benefits
            
            
            21
            
            
            
            4,120,053
            
            
            
            2,873,889Other
      payable
            
            
            25
            
            
            
            23,693,617
            
            
            
            19,513,681Current
      liabilities of discontinued operations
            
            
            13
            
            
            
            -
            
            
            
            35,063,603Total
      current liabilities
            
            
            
            
            
            
            164,711,037
            
            
            
            221,413,867Long
      term debt, net of current portion
            
            
            22
            
            
            
            32,427,230
            
            
            
            9,146,034Long
      term tax payable
            
            
            5
            
            
            
            4,747,083
            
            
            
            2,750,887Deferred
      income
            
            
            
            
            
            
            10,538,313
            
            
            
            8,416,492Performance
      share obligation
            
            
            26
            
            
            
            11,382,000
            
            
            
            -Long
      term liability of discontinued operations
            
            
            13
            
            
            
            -
            
            
            
            395,176Total
      liabilities
            
            
            
            
            
            
            223,805,663
            
            
            
            242,122,456Temporary
      equityRedeemable
      shares of common stock (2,100,000 and 0 shares issued and outstanding,
      respectively)
            
            
            26
            
            
            
            53,645,093
            
            
            
            -Shareholders’
      equityCommon
      stock (US$0.001 par value, 50,000,000 shares authorized; 19,607,376 and
      17,253,907 issued and outstanding as of December 31, 2009 and 2008,
      respectively)
            
            
            26
            
            
            
            19,607
            
            
            
            17,254Additional
      paid-in capital
            
            
            26
            
            
            
            54,482,098
            
            
            
            26,758,425Common
      stock  warrants
            
            
            27
            
            
            
            1,774,151
            
            
            
            3,003,448Statutory
      reserves
            
            
            28
            
            
            
            6,861,224
            
            
            
            6,861,224Accumulated
      other comprehensive income
            
            
            
            
            
            
            25,651,571
            
            
            
            25,146,055Retained
      earnings
            
            
            
            
            
            
            73,672,879
            
            
            
            54,091,493Total
      shareholders’ equity
            
            
            
            
            
            
            162,461,530
            
            
            
            115,877,899Noncontrolling
      interests
            
            
            
            
            
            
            345,451
            
            
            
            546,447Total
      equity
            
            
            
            
            
            
            162,806,981
            
            
            
            116,424,346Total
      liabilities and shareholders’ equity
            
            
            
            
            
            
            440,257,737
            
            
            
            358,546,802





The
accompanying notes are an integral part of these financial
statements.




F-4




AMERICAN
DAIRY, INC.


CONSOLIDATED
STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME




For the years ended December 31,Note
            
            
            2009
            
            
            2008US$
            
            
            US$Sales
            
            
            
            
            
            271,077,948
            
            
            
            193,191,710Cost
      of goods sold
            
            
            
            
            
            140,426,711
            
            
            
            117,180,986Gross
      profit
            
            
            
            
            
            130,651,237
            
            
            
            76,010,724Operating
      and administrative expenses:Sales
      and marketing
            
            
            
            
            
            105,109,120
            
            
            
            50,685,804General
      and administrative
            
            
            
            
            
            20,478,875
            
            
            
            19,046,939Total
      operating expenses
            
            
            
            
            
            125,587,995
            
            
            
            69,732,743Income
      from continuing operations
            
            
            
            
            
            5,063,242
            
            
            
            6,277,981Other
      income (expenses):Interest
      income
            
            
            
            
            
            306,691
            
            
            
            579,724Interest
      and finance costs
            
            
            
            
            
            (6,139,152
            )
            
            
            (18,843,032
            )Amortization
      of deferred charges
            
            
            
            
            
            
            (124,110
            )
            
            
            (657,258
            )Registration
      rights penalty
            
            
            23
            
            
            
            -
            
            
            
            (2,389,077
            )Gain
      on extinguishment of debt
            
            
            23
            
            
            
            -
            
            
            
            30,497,268Goodwill
      impairment expense
            
            
            17
            
            
            
            (929,526
            )
            
            
            -Loss
      on derivatives
            
            
            
            
            
            
            (2,162,000
            )
            
            
            (8,321,481
            )Government
      subsidy-tax refund
            
            
            5
            
            
            
            21,177,132
            
            
            
            6,810,231Other
      income, net
            
            
            
            
            
            
            (1,765,267)
            
            
            
            182,406Income
      from continuing operations before income tax expenses and noncontrolling
      interests
            
            
            
            
            
            
            15,427,010
            
            
            
            14,136,762Income
      tax (benefit) expenses
            
            
            5
            
            
            
            (746,198)
            
            
            
            3,567,135Net
      income from continuing operations before noncontrolling
      interests
            
            
            
            
            
            
            16,173,208
            
            
            
            10,569,627Noncontrolling
      interests
            
            
            
            
            
            
            118,270
            
            
            
            (9,470
            )Net
      income from continuing operations
            
            
            
            
            
            
            16,291,478
            
            
            
            10,560,157Net
      income from discontinued operations
            
            
            13
            
            
            
            3,289,908
            
            
            
            6,462,878Net
      income attributable to common shareholders
            
            
            
            
            
            
            19,581,386
            
            
            
            17,023,035Other
      comprehensive income:Cumulative
      currency translation adjustments
            
            
            
            
            
            
            446,554
            
            
            
            13,169,453Change
      in fair value of available for sale investments
            
            
            11
            
            
            
            58,962
            
            
            
            (104,865
            )




F-5




Total
      comprehensive income
            
            
            
            
            
            
            20,086,902
            
            
            
            30,087,623Earnings
      per share of common stock – BasicIncome
      from continuing operations
            
            
            
            
            
            
            0.86
            
            
            
            0.62Income
      from discontinued operations, net of tax
            
            
            
            
            
            
            0.17
            
            
            
            0.38Net
      income
            
            
            
            
            
            
            1.03
            
            
            
            1.00Earnings
      per share of common stock – DilutedIncome
      from continuing operations
            
            
            
            
            
            
            0.81
            
            
            
            0.60Income
      from discontinued operations, net of tax
            
            
            
            
            
            
            0.16
            
            
            
            0.37Net
      income
            
            
            
            
            
            
            0.97
            
            
            
            0.97Weighted
      average shares of common stock outstandingBasic
            
            
            
            
            
            
            19,004,337
            
            
            
            16,993,390Diluted
            
            
            
            
            
            
            20,180,598
            
            
            
            17,636,862





The
accompanying notes are an integral part of these financial
statements.




F-6




AMERICAN
DAIRY, INC.


CONSOLIDATED
STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY





Common
      Stock
              
              
              
              
              
              
              
              
              
              
              
              Accumulated(US$0.001 par value)
              
              
              Additional
              
              
              Common
              
              
              
              
              
              OtherNumber of
              
              
              Par
              
              
              Paid-in
              
              
              Stock
              
              
              Statutory
              
              
              Comprehensive
              
              
              Retained
              
              Noncontrolling
              
              TotalShares
              
              
              Value
              
              
              Capital
              
              
              Warrants
              
              
              Reserves
              
              
              Income
              
              
              Earnings
              
              Interest
              
              EquityUS$
              
              
              US$
              
              
              US$
              
              
              US$
              
              
              US$
              
              
              US$
              
              US$
              
              US$Balance
      as of January 1, 2008
              
              
              16,961,768
              
              
              
              16,961
              
              
              
              22,629,333
              
              
              
              3,011,444
              
              
              
              6,040,382
              
              
              
              12,081,467
              
              
              
              37,889,300
              
              536,977
              
              
              82,205,864Warrant
      exercise
              
              
              3,000
              
              
              
              3
              
              
              
              14,743
              
              
              
              (7,996
              )
              
              
              -
              
              
              
              -
              
              
              
              -
              
              -
              
              
              6,750Shares
      issued for services
              
              
              72,500
              
              
              
              73
              
              
              
              1,092,578
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              -
              
              
              1,092,651Shares
      issued for notes conversion
              
              
              216,639
              
              
              
              217
              
              
              
              2,881,082
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              
              2,881,299Stock
      compensation
              
              
              -
              
              
              
              -
              
              
              
              140,689
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              -
              
              
              140,689Net
      income
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              17,023,035
              
              9,470
              
              
              17,032,505Appropriation
      to statutory reserves
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              820,842
              
              
              
              -
              
              
              
              (820,842)
              
              -
              
              
              -Currency
      translation adjustments
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              13,169,453
              
              
              
              -
              
              -
              
              
              13,169,453Change
      in fair value of available for sale investments
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (104,865
              )
              
              
              -
              
              -
              
              
              (104,865
              )Balance
      as of December 31, 2008
              
              
              17,253,907
              
              
              
              17,254
              
              
              
              26,758,425
              
              
              
              3,003,448
              
              
              
              6,861,224
              
              
              
              25,146,055
              
              
              
              54,091,493
              
              546,447
              
              
              116,424,346Warrant
      exercise
              
              
              804,347
              
              
              
              804
              
              
              
              3,066,962
              
              
              
              (1,229,297
              )
              
              
              -
              
              
              
              -
              
              
              
              -
              
              -
              
              
              1,838,469Stock
      compensation
              
              
              -
              
              
              
              -
              
              
              
              2,196,106
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              -
              
              
              2,196,106Shares
      issued for notes conversion
              
              
              1,549,122
              
              
              
              1,549
              
              
              
              22,460,605
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              -
              
              
              22,462,154Net
      income
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              19,581,386
              
              (118,270)
              
              
              19,463,116Sale
      of a subsidiary
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              (82,726)
              
              
              (82,726)Currency
      translation adjustments
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              446,554
              
              
              
              -
              
              -
              
              
              446,554Change
      in fair value of available for sale investment
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              58,962
              
              
              
              -
              
              -
              
              
              58,962Balance
      as of December 31, 2009
              
              
              19,607,376
              
              
              
              19,607
              
              
              
              54,482,098
              
              
              
              1,774,151
              
              
              
              6,861,224
              
              
              
              25,651,571
              
              
              
              73,672,879
              
              345,451
              
              
              162,806,981





The
accompanying notes are an integral part of these financial
statements.




F-7




AMERICAN
DAIRY, INC.


CONSOLIDATED
STATEMENTS OF CASH FLOWS





For the years ended December 31,2009
            
            
            2008US$
            
            
            US$Cash
      flows from operating activities:Net
      income before noncontrolling interests
            
            
            19,463,116
            
            
            
            17,032,505Less:  Net
      income from discontinued operations
            
            
            3,289,908
            
            
            
            6,462,878Net
      income from continuing operations before noncontrolling
      interests
            
            
            16,173,208
            
            
            
            10,569,627Adjustments
      to reconcile net income to operating activities:Depreciation
      of property and equipment
            
            
            5,707,017
            
            
            
            4,840,402Depreciation
      of biological assets
            
            
            1,835,364
            
            
            
            6,816Amortization
      of prepaid leases
            
            
            677,115
            
            
            
            473,601Amortization
      of other intangible assets
            
            
            260,843
            
            
            
            -Amortization
      of deferred income
            
            
            (13,772
            )
            
            
            (13,524
            )Loss
      on disposal of property and equipment
            
            
            475,363
            
            
            
            5,397Loss
      on disposal of biological assets
            
            
            1,739,714
            
            
            
            286,727Provision
      for losses on receivables
            
            
            (523,473
            )
            
            
            641,218Provision
      for losses on inventories
            
            
            156,297
            
            
            
            (217,045
            )Goodwill
      impairment expense
            
            
            929,526
            
            
            
            -Gain
      on debt extinguishment
            
            
            -
            
            
            
            (30,497,268
            )Compensation
      expense for stock issued
            
            
            -
            
            
            
            1,092,650Compensation
      expense for option awards
            
            
            2,196,106
            
            
            
            140,689Registration
      rights penalty paid in shares
            
            
            -
            
            
            
            2,881,299Interest
      expense from accrual of guaranteed redemption value
            
            
            -
            
            
            
            13,584,533Interest
      expense from amortization of note discounts
            
            
            5,129,617
            
            
            
            8,028,585Gain
      on waived interest expense
            
            
            (550,000
            )
            
            
            -Loss
      on derivatives
            
            
            2,162,000
            
            
            
            8,321,481Amortization
      of deferred charges
            
            
            124,110
            
            
            
            657,258Gain
      of sales of subsidiary
            
            
            (2,552,733
            )
            
            
            -Changes
      in assets and liabilities:Increase
      in trade receivables, net
            
            
            (14,696,220
            )
            
            
            (8,398,068
            )Increase
      in due from related parties
            
            
            (1,922,764
            )
            
            
            (150,002
            )Increase
      in employee receivables
            
            
            (89,475
            )
            
            
            (201,587
            )Increase
      in inventories, net
            
            
            (7,228,712
            )
            
            
            (27,334,926
            )(Increase)
      decrease in advances to suppliers
            
            
            (2,493,869
            )
            
            
            3,108,442(Increase)
      decrease in prepayments and other assets
            
            
            (1,750,761
            )
            
            
            2,306,151Increase
      in VAT refundable taxes
            
            
            (9,038,250
            )
            
            
            (345,235
            )Decrease
      (increase) in other receivables
            
            
            290,679
            
            
            
            (745,087
            )Increase
      in deferred tax assets
            
            
            (2,902,325
            )
            
            
            (730,491
            )Increase
      in accounts payable and accrued expenses
            
            
            2,273,545
            
            
            
            25,220,827Increase
      in income taxes payable
            
            
            1,255,857
            
            
            
            1,167,261(Decrease)
      increase in advances from customers
            
            
            (2,970,133
            )
            
            
            5,125,231Increase
      in due to related parties
            
            
            9,514,452
            
            
            
            615,839




F-8




(Decrease)
      increase in advances from employees
            
            
            (532,526
            )
            
            
            441,594Increase
      in accrued employee benefits
            
            
            -
            
            
            
            1,785,718Increase
      in other payable
            
            
            4,247,669
            
            
            
            8,160,185Increase
      in long term tax payable
            
            
            1,996,196
            
            
            
            1,036,458Increase
      in deferred income
            
            
            6,864,185
            
            
            
            -Net
      cash provided by continuing operations
            
            
            16,743,850
            
            
            
            31,864,756Discontinued
      operations
            
            
            444,305
            
            
            
            (1,965,294
            )Net
      cash provided by operating activities
            
            
            17,188,155
            
            
            
            29,899,462Cash
      flows from investing activities:Purchase
      of property and equipment
            
            
            (68,233,977
            )
            
            
            (23,154,636
            )Purchase
      of biological assets
            
            
            (16,059,370
            )
            
            
            (21,944,621
            )Increase
      (decrease) in notes and loans receivable
            
            
            16,465,898
            
            
            
            (8,699,813
            )(Decrease)
      increase in notes and loans receivable
            
            
            (15,407,716
            )
            
            
            10,131,885Decrease
      in time deposit
            
            
            -
            
            
            
            8,446,778Purchase
      of Longjiang dairy operation
            
            
            (4,382,890
            )
            
            
            -Deposit
      for disposal of a subsidiary
            
            
            -
            
            
            
            4,352,033Proceeds
      from sale of a subsidiary
            
            
            38,957,413
            
            
            
            -Proceeds
      from sale of property equipment
            
            
            16,275
            
            
            
            -Proceeds
      from disposal of biological assets
            
            
            195,326
            
            
            
            -Net
      cash used in continuing operations
            
            
            (48,449,041
            )
            
            
            (30,868,374
            )Discontinued
      operations
            
            
            -
            
            
            
            (1,390,763
            )Net
      cash used in investing activities
            
            
            (48,449,041
            )
            
            
            (32,259,137
            )Cash
      flows from financing activities:Proceeds
      from short term notes and loans payable
            
            
            61,619,202
            
            
            
            7,844,115Repayment
      of short term notes and loans payable
            
            
            (7,318,715
            )
            
            
            (8,777,630
            )Proceeds
      from long term debt
            
            
            27,568,260
            
            
            
            12,747,806Repayment
      of long term debt
            
            
            (408,311
            )
            
            
            (108,369
            )Repayment
      of short term debt
            
            
            (80,450,000
            )
            
            
            (11,000,000
            )Proceeds
      from issuance of redeemable common stock
            
            
            62,865,093
            
            
            
            -Proceeds
      from warrant exercise
            
            
            1,838,469
            
            
            
            6,750Net
      cash provided by continuing operations
            
            
            65,713,998
            
            
            
            712,672Discontinued
      operations
            
            
            -
            
            
            
            -Net
      cash provided by financing activities
            
            
            65,713,998
            
            
            
            712,672Effect
      of exchange rate changes on cash
            
            
            602,575
            
            
            
            2,374,537Net
      increase in cash of discontinued operations
            
            
            2,108,429
            
            
            
            3,106,821Net
      increase in cash and cash equivalents
            
            
            37,164,116
            
            
            
            727,534Cash
      and cash equivalents, beginning of year
            
            
            11,785,408
            
            
            
            11,057,874Cash
      and cash equivalents, end of year
            
            
            48,949,524
            
            
            
            11,785,408Supplemental
      disclosure of cash flow information:Cash
      paid during the year for income tax
            
            
            (6,101,669
            )
            
            
            (3,084,582
            )




F-9




Cash
      received during the year for tax refund
            
            
            16,265,458
            
            
            
            6,715,872Interest
      paid during the year
            
            
            (2,667,860
            )
            
            
            (1,498,952
            )Supplemental
      disclosure of non-cash investing and financing activities:Conversion
      of convertible debt and accrued interest into common stock
            
            
            22,462,154
            
            
            
            -Registration
      rights penalty paid in shares
            
            
            -
            
            
            
            2,881,299Conversion
      of bridge loan to redeemable common stock
            
            
            16,000,000
            
            
            
            -





The
accompanying notes are an integral part of these financial
statements.




F-10




AMERICAN
DAIRY, INC


NOTES
TO THE CONSOLIDATED FINANCIAL STATEMENTS





1.ORGANIZATION
      AND NATURE OF OPERATION





The
accompanying consolidated financial statements include the financial statements
of American Dairy, Inc (the “Company” or “American Dairy”) and its
subsidiaries.  The Company and its subsidiaries are collectively
referred to as the “Group.”





The
Company was incorporated in the State of Utah on December 31, 1985, originally
under the corporate name of Gaslight Inc. It was inactive until March 30, 1988
when it changed its corporate name to Lazarus Industries, Inc. and engaged in
the business of manufacturing and marketing medical devices. This line of
business was discontinued in 1991, and it became a non-operating public company
shell.





Effective
May 7, 2003, the Company acquired 100% of the issued and outstanding capital
stock of American Flying Crane Corporation (“AFC”), a Delaware corporation. In
connection with that acquisition, the Company changed its name to American
Dairy, Inc.





AFC was
incorporated in Delaware, with 50,000,000 shares of authorized common stock at a
par value of $0.001 per share. AFC owns 100% of the registered capital of
Heilongjiang Feihe Dairy Co., Limited (“Feihe Dairy”).  Feihe Dairy in
turn owns 99% of the registered capital of Baiquan Feihe Dairy Co. Limited
(“Baiquan Dairy”), 95% of Beijing Feihe Biotechnology Scientific and Commercial
Co., Limited (“Beijing Feihe”) and 99% of Qiqihaer Feihe Soybean Co., Limited
(“Feihe Soybean”), 97% of Heilongjiang Feihe Kedong Feedlots Co., Limited
(“Kedong Feedlots”), 95% of Heilongjiang Feihe Gannan Feedlots Co., Limited
(“Gannan Feedlots”), 100% of Heilongjiang Aiyingquan International Trading Co.,
Limited (“Aiyingquan”) which was established in 2009, and 85% of the registered
capital of Heilongjiang Flying Crane Trading Co., Limited (“Feihe Trading”),
which was established in January 2010.




From 2006
onwards, the Company also own 100% of the registered capital of Shanxi
Feihesantai Biotechnology Scientific and Commercial Co., Limited (“Shanxi”),
Langfang Flying Crane Dairy Products Co., Limited (“Langfang Feihe”) and Gannan
Flying Crane Dairy Products Co., Limited (“Gannan”).





The core
activities of subsidiaries included in the consolidated financial statements are
as follow:




·
            American
      Flying Crane Corporation – Investment holding·
            Langfang
      Flying Crane Dairy Products Co., Limited – Packaging and distribution of
      the Company’s products





·
            Gannan
      Flying Crane Dairy Products Co., Limited – Manufacturing of the Company’s
      dairy products·
            Heilongjiang
      Feihe Dairy Co., Limited – Manufacturing and distribution of the Company’s
      dairy products





·
            Baiquan
      Feihe Dairy Co., Limited – Manufacturing of the Company’s dairy
      products·
            Beijing
      Feihe Biotechnology Scientific and Commercial Co., Limited – Marketing and
      distribution of the Company’s
products





·
            Shanxi
      Feihesantai Biotechnology Scientific and Commercial Co., Limited –
      Manufacturing and distribution of walnut products·
            Heilongjiang
      Feihe Kedong Feedlots Co., Limited – Breeding and rearing of dairy cows,
      and distribution of fresh milk





·
            Heilongjiang
      Feihe Gannan Feedlots Co., Limited – Breeding and rearing of dairy cows,
      and distribution of fresh milk·
            Qiqihaer
      Feihe Soybean Co., Limited – Manufacturing and distribution of soybean
      products





·
            Heilongjiang
      Aiyingquan International Trading Co., Limited–Marketing and distribution
      of water and cheese, specifically marketed for consumption by
      children




F-11




Apart
from AFC, the subsidiaries’ principal country of operations is the People’s
Republic of China (the “PRC”).





2.PRINCIPAL
      ACCOUNTING POLICIES





Basis
of presentation





The
accompanying consolidated financial statements have been prepared in accordance
with generally accepted accounting principles in the United States of America
(“US GAAP”).





Principles
of consolidation





The
consolidated financial statements include the financial statements of the
Company and its subsidiaries.





Subsidiaries
are all entities over which the Group has the power to govern the financial and
operating policies generally accompanying a shareholding of more than one half
of the voting rights. The existence and effect of potential voting rights that
are currently exercisable or convertible are considered when assessing whether
the Group controls another entity. Subsidiaries are fully consolidated from the
date on which control is transferred to the Group. They are de-consolidated from
the date that control ceases.





Inter-company
transactions, balances and unrealized gains on transactions between Group
companies are eliminated. Unrealized losses are also eliminated.





Acquisitions





The
purchase method of accounting is used to account for the acquisition of
subsidiaries by the Group. The cost of an acquisition is measured as the fair
value of the assets given, equity instruments issued and liabilities incurred or
assumed at the date of exchange, plus costs directly attributable to the
acquisition. Identifiable assets acquired and liabilities and contingent
liabilities assumed in a business combination are measured initially at their
fair values at the acquisition date, irrespective of the extent of any minority
interest. The excess of the cost of acquisition over the fair value of the
Group’s share of the identifiable net assets acquired is recorded as goodwill.
If the cost of acquisition is less than the fair value of the net assets of the
subsidiary acquired, the difference is allocated as a pro rata reduction of the
amounts of the acquired assets, except for financial assets and current
assets.  The residual amount, if any, is recognized directly in the
consolidated statements of operations and comprehensive income.





Acquisition
of companies under common control is recorded at the book value of the acquired
companies.





Foreign
currency translation





The
Group’s principal country of operations is the PRC. The financial position and
results of operations of the subsidiaries are determined using the local
currency (“Renminbi” or “RMB”) as the functional currency.





Translation
of amounts from RMB into United States dollars (“US$” or “$”) for reporting
purposes is performed by translating the results of operations denominated in
foreign currency at the weighted average rate of exchange during the reporting
period. Assets and liabilities denominated in foreign currencies at the balance
sheet date are translated at the market rate of exchange in effect at that date.
The registered equity capital denominated in the functional currency is
translated at the historical rate of exchange at the time of capital
contribution. All translation adjustments resulting from the translation of the
financial statements into US$ are reported as a component of accumulated other
comprehensive income in shareholders’ equity.




F-12





As of
December 31, 2009 and 2008 the year end exchange rates applied for balances were
RMB6.83 and RMB 6.85 per US$, respectively, and the average exchange rates
applied for transactions were RMB 6.84 and RMB6.96 per US$,
respectively.





Cash
and cash equivalents





Cash and
cash equivalents represent cash on hand, demand deposits and highly liquid
investments placed with banks or other financial institutions, which have
original maturities less than three months.  The carrying amounts
reported approximate their fair value.





Investments





Investment
in securities classified as available-for-sale are carried at fair market value,
with the unrealized gains and losses, net of tax, included in the determination
of comprehensive income and reported in shareholders’ equity.





The fair
value of substantially all securities is determined by quoted market prices. The
estimated fair value of securities for which there are no quoted market prices
is based on similar types of securities that are traded in the
market.





Investment
at cost represents an investment in a non-marketable equity
interest.  Fair value is not estimated unless impairment is
indicated.  The Group has concluded that there are no impaired
investments as of December 31, 2009 and 2008.





Trade
receivables, net, and notes and loans receivable, net





The
Group’s trade receivables are due from trade customers. Credit is extended based
on evaluation of customers’ financial condition. Trade receivable payment terms
vary and amounts due from customers are stated in the financial statements net
of an allowance for doubtful accounts. Receivables outstanding longer than the
payment terms are considered past due. The Group determines its allowance by
considering a number of factors, including the length of time the receivable is
past due, the Group’s previous loss history, the counter party’s current ability
to pay its obligation to the Group, and the condition of the general economy and
the industry as a whole. The Group writes off receivables when they are deemed
uncollectible, and payments subsequently received on such receivables are
credited to the allowance for doubtful accounts.





Notes
receivable consists of one promissory note and notes due from banks in the PRC.
Notes receivable are reviewed periodically as to whether their carrying value
has become impaired. The Group considers the assets to be impaired if the
collectability of the balances become doubtful.  Interest is not
accrued on notes receivable where the collectability of the balances are
doubtful.




Interest
income from notes receivable where the collectability of the balances are not
doubtful and loans receivable is recognized when earned, taking into account the
principal amounts outstanding and the interest rates applicable.





Inventories,
net





Inventories
are comprised of raw materials, work-in-progress and finished goods and are
valued at the lower of cost or market value. The value of inventories is
determined using the weighted average cost method and includes any related
production overhead costs incurred in bringing the inventories to their present
location and condition. Overhead costs included in finished goods include,
direct labor cost and other costs directly applicable to the manufacturing
process.





The Group
estimates an inventory allowance for excessive, slow moving and obsolete
inventories as well as inventory whose carrying value is in excess of net
realizable value.  Inventory amounts are reported net of such
allowances.




F-13





Construction
in progress





All
facilities purchased for installation, self-made or subcontracted are accounted
for as construction in progress. Construction in progress is recorded at
acquisition cost, including cost of facilities, installation expenses and
interest. Upon completion and readiness for use of the project, the cost of
construction in progress is transferred to property and equipment.





Interest
costs associated with construction in progress are capitalized in the period
they are incurred.  Interest is no longer capitalized when the asset
is completed and ready for use.





Property
and equipment, net





Property
and equipment are recorded at cost. Expenditures for major additions and
improvements are capitalized and minor replacements, maintenance, and repairs
are charged to expense as incurred. When property and equipment are retired or
otherwise disposed of, the cost and accumulated depreciation are removed from
the accounts and any resulting gain or loss is included in the results of
operations for the respective period.





Depreciation
is provided over the estimated useful lives of the related assets using the
straight-line method.  The estimated useful lives for significant
property, plant and equipment categories are as follows:





Buildings
      and plant
            20-33
      yearsMachinery
      and equipment
            10-14
      yearsOffice
      equipment
            5
      yearsMotor
      vehicles
            5-8
      years





The Group
reviews the carrying value of property, plant, and equipment for impairment
whenever events and circumstances indicate that the carrying value of an asset
may not be recoverable from the estimated future cash flows expected to result
from its use and eventual disposition. In cases where undiscounted expected
future cash flows are less than the carrying value, an impairment loss is
recognized equal to an amount by which the carrying value exceeds the fair value
of assets. The factors considered by management in performing this assessment
include current operating results, trends and prospects, the manner in which the
property is used, and the effects of obsolescence, demand, competition, and
other economic factors.  There were no impairments recorded in the
years ended December 31, 2009 and 2008.





Biological
assets





Immature
biological assets





Biological
assets consist of dairy cows held in the Group’s pastures for milking
purposes.  Immature biological assets are recorded at cost, including
acquisition costs, transportation costs, insurance expenses, interest costs and
feeding costs, incurred in bringing the asset to its intended productive
state.  Once the asset reaches productive state, the cost of the
immature biological asset is transferred to mature biological assets using the
weighted average cost method.





Interest
costs associated with immature biological assets are capitalized in the period
they are incurred.  Interest is no longer capitalized when the asset
reaches its productive state.




F-14





Mature
biological assets





Mature
biological assets are recorded at cost. When mature biological assets are
retired or otherwise disposed of, the cost and accumulated depreciation are
removed from the accounts and any resulting gain or loss is included in the
results of operations for the respective period.





Depreciation
is provided over the estimated useful live of the mature biological assets of 5
years using the straight-line method.  The estimated residual value of
mature biological assets is 10%.





Feeding
and management costs incurred on mature biological assets are included as costs
of goods sold on the consolidated statements of operations and comprehensive
income.





When
biological assets are retired or otherwise disposed of, the cost and accumulated
depreciation are removed from the accounts and any resulting gain or loss is
included in the results of operations for the respective period.





The Group
reviews the carrying value of biological assets for impairment whenever events
and circumstances indicate that the carrying value of an asset may not be
recoverable from the estimated future cash flows expected to result from its use
and eventual disposition. In cases where undiscounted expected future cash flows
are less than the carrying value, an impairment loss is recognized equal to an
amount by which the carrying value exceeds the fair value of assets. The factors
considered by management in performing this assessment include current health
status of the asset and production capacity.  There were no
impairments recorded in the year ended December 31, 2009 and 2008.





Prepaid
leases





All lands
in the PRC are state-owned and no individual land ownership right exists. The
Group acquired the rights to use certain lands and the premiums paid for such
rights are recorded as prepaid leases and amortized over the use terms of 40 to
50 years in the statements of operations using the straight-line
method.





Certain
of the land use rights can only be used by the Group to which the right was
granted and cannot be transferred or sold to others.




Other
intangible assets





Other
intangible assets consist of production permits and exclusive rights of milk
supply, which are carried at cost less accumulated amortization. Amortization is
calculated on a straight-line basis over the expected useful lives of one and
4.7 years, respectively.





Goodwill





In
accordance with authoritative FASB guidance regarding accounting for business
combinations goodwill represents the excess of the cost of an acquisition over
the fair value of the group’s share of the net identifiable tangible and
intangible assets acquired at the date of acquisition.





Goodwill
is not amortized and is tested for impairment annually or more frequently if
events or changes in circumstances indicate that it might be impaired. At the
end of each year, the Group tests impairment of goodwill at the reporting unit
level and recognizes impairment in the event that the carrying value exceeds the
fair value of each reporting unit. The Company estimates the fair value of its
reporting units based on their discounted cash flows. If the carrying value of a
reporting unit exceeds its estimated fair value in the first step, a second step
is performed, in which the reporting unit’s goodwill is written down to its
implied fair value. The second step requires the Company to allocate the fair
value of the reporting unit derived in the first step to the fair value of the
reporting unit’s net assets, with any fair value in excess of amounts allocated
to such net assets representing the implied fair value of goodwill for that
reporting unit. If the carrying value of the goodwill allocated to a reporting
unit exceeds its fair value, such goodwill is written down by an amount equal to
such excess.




F-15




Deferred
charges, net





Deferred
charges represent issuance costs of convertible debt, which are deferred and
amortized on a straight-line basis over the life of the associated debt from the
date of issuance.  Such amortization is included as a separate item of
expenses in ‘Other income (expenses)’ on the consolidated statements of
operations and comprehensive income.





Convertible
debt and embedded derivatives





The
Company applies FASB issued authoritative guidance to determine the
classification of its convertible debt.  In accordance with the
guidance, when convertible debt is issued and the conversion price is greater
than the market value of the stock on issuance date, no value is apportioned to
the conversion feature.  Therefore, convertible debt is entirely
recorded in liabilities.





The
Company identifies any embedded derivative instruments that may be contained
within its convertible debt instruments in accordance with authoritative FASB
guidance regarding accounting for derivative instruments and hedging activities
and records the fair value of such derivatives separately from the value of the
host instrument. Changes in the fair value of the derivative instruments are
recorded in the statements of operations and comprehensive income each reporting
period. The fair value of the derivative at inception is also recorded as a
discount to the face value of the convertible debt and is amortized as
additional finance cost over the period of the debt.





Deferred
income





From time
to time, the Group receives funding from local authorities in the PRC to support
their development of the production facilities; these funds are recorded as
deferred income when received.





Deferred
income generally is amortized on a straight line basis over the life of the
facilities, which is generally 20-33 years, and the requirements for recording
revenue have been met. Deferred income related to governmental tax refunds are
recognized when collectability is certain.





Financial
instruments





Financial
instruments of the Company primarily comprise of cash and cash equivalents,
notes and loans receivable, trade receivables, other receivables, investment in
mutual funds, notes and loans payable, debt securities such as convertible debt
and long term debt, accounts payable, payable for property and equipment,
payable for prepaid leases and other payables.  As of December 31,
2009 and 2008, their carrying values approximated their fair
values.





Revenue
recognition





Sales
Revenue





Revenue
from the sale of goods is recognized on the transfer of risks and rewards of
ownership, which coincides with the time when the goods are shipped to customers
and the title has passed.





Revenue
is shown net of sales returns, which amounted to less than 0.02% of total sales
in each of the years ended December 31, 2009 and 2008.




F-16





Any
shipping, handling or other costs incurred by the Group associated with the
sale, are expensed as sales and marketing expenses in the period when the sale
occurs. Such costs amounted to $8,085,248 and $5,056,821 during the years ended
December 31, 2009 and 2008, respectively.




Government
subsidy – tax refund





Sales
revenues represent amounts invoiced, net of a value-added tax (“VAT”).  All
of the Group’s products sold in the PRC are subject to Chinese VAT at a rate of
17% of the gross sales price or at a rate approved by the Chinese local
government.  This VAT may be offset by VAT paid by the Group on raw
materials and other materials included in the cost of producing its finished
products.  The VAT amounts paid and available for offset are maintained in
other payables.




The
Group’s entities that operate production facilities in the Kedong County in the
PRC, namely Feihe Dairy, Gannan Feihe and Baiquan Dairy, receive 40%, 50% and
50%, respectively, of the value added tax paid on inventory refunded as local
County incentive to support local economy through employment of local residents.
Such refunds are included in the consolidated statements of operations and
comprehensive income as refunds of income tax and VAT taxes.





Feihe
Dairy and Baiquan Dairy also benefit from the Business Promotion Policy
Concerning Income Tax on Foreign Enterprises promulgated by the Qiqihaer City
Municipal Government, which provides foreign owned enterprises registered in
Qiqihaer City, tax holiday of seven years for full Enterprise Income Tax (“EIT”)
exemption. The preferential tax treatment commenced in 2003 and expired in
2009.





Advances
from customers





Revenue
from the sale of goods is recognized when goods are shipped. Receipts in advance
for goods to be shipped in the future are recorded as advances from
customers.





Cost
of goods sold





Cost of
goods sold primarily consists of direct and indirect manufacturing costs,
including production overhead costs, shipping and handling costs for the
products sold.





Sales
and marketing





Sales and
marketing costs consist primarily of advertising and market promotion expenses,
and other overhead expenses incurred by the Group’s sales and marketing
personnel. Advertising expenses amounted to $31,190,272 and $11,116,857 during
the years ended December 31, 2009 and 2008, respectively.





Advertising
expenses are expensed as incurred.





Product
display fees





The
Company has entered into a number of agreements with their resellers, whereby
the Company pays the reseller an agreed upon amount to display its products. As
prescribed with authoritative FASB guidance regarding accounting for
consideration given by a vendor to a customer, the Company has reduced sales by
the amount paid under these agreements. For the years ended December 31, 2009
and 2008 these amounts were $25,509,131 and $7,025,104,
respectively.




F-17





Employee
benefit costs





According
to the People’s Republic of China regulations on pension, a company contributes
to a defined contribution retirement plan organized by municipal government in
the province in which the Company was registered and all qualified employees are
eligible to participate in the plan. Contributions to the plan are calculated at
20% of the employees’ salaries above a fixed threshold amount, employees
contribute 4% and the Company contributes the balance of 16%.




Share-based
compensation





The
Company adopted the authoritative FASB guidance regarding accounting for
share-based payment. Under the fair value recognition provisions of this
guidance, the Company is required to measure the cost of employee services
received in exchange for share-based compensation measured at the grant date
fair value of the award.





Leases





Leases
where substantially all the rewards and risks of ownership of assets remain with
the lessor are accounted for as operating leases.





Taxation





The
Company must make certain estimates and judgments in determining income tax
expense for financial reporting purposes. These estimates and judgments occur in
the calculation of certain deferred tax assets and liabilities, which arise from
differences in the timing of recognition of revenue and expense for tax and
financial reporting purposes.





Refer to
Note 5 in the notes to Consolidated Financial Statements for further information
regarding the components of the Company’s income tax expense.





Earnings
per share of common stock





In
accordance with authoritative FASB guidance regarding computation of earnings
per share, basic earnings per share is computed by dividing net income
attributable to common shareholders by the weighted average number of shares of
common stock outstanding during the year.  Diluted earnings per share
is calculated by dividing net income attributable to common shareholders as
adjusted for the effect of dilutive common stock equivalent shares, if any, by
the weighted average number of ordinary and dilutive ordinary equivalent shares
outstanding during the year. Common stock equivalents shares consist of the
shares of common stock issuable upon the conversion of convertible debt (using
the as-converted method).




Segment
reporting





The Group
has two reportable segments:  dairy products and dairy
farm.  The dairy products segment produces and sells dairy products,
such as wholesale and retail milk powders as well as soybean powder, rice
cereal, walnut powder and walnut oil. The dairy farm segment operates the
Group’s two dairy farms in the PRC, construction of which was completed in the
fourth quarter of 2009.  As the Group primarily generates its revenues
from customers in the PRC, no geographical segments are presented.





Use
of estimates





The
preparation of financial statements in conformity with US GAAP requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities, disclosures of contingent assets and liabilities at the
balance sheet dates and the reported amounts of revenues and expenses during the
reporting periods. Actual results could materially differ from those
estimates.




F-18





The
estimates and assumptions that have a significant risk of causing a material
adjustment to the carrying amounts of assets and liabilities are reserves for
losses on trade receivables, notes and loans receivable, other receivables and
deposits receivable, reserves for inventory, estimated useful lives of property
and equipment and biological assets, and impairment of goodwill.




3.  ACCOUNTING
PRONOUNCEMENTS





In
December 2007, the FASB issued authoritative guidance on noncontrolling
interests in consolidated financial statements.  The guidance
established new accounting and reporting standards for the noncontrolling
interest in a subsidiary and for the deconsolidation of a subsidiary.
Specifically, the guidance requires the recognition of a noncontrolling interest
(minority interest) as equity in the consolidated financial statements that
is presented separate from the parent’s equity. The amount of net income
attributable to the noncontrolling interest will be included in consolidated net
income on the face of the income statement. The guidance clarifies that changes
in a parent’s ownership interest in a subsidiary that do not result in
deconsolidation are equity transactions if the parent retains its controlling
financial interest. In addition, the guidance requires that a parent recognize a
gain or loss in net income when a subsidiary is deconsolidated. Such gain or
loss will be measured using the fair value of the noncontrolling equity
investment on the deconsolidation date. The guidance also includes expanded
disclosure requirements regarding the interests of the parent and its
noncontrolling interest. The guidance is effective for fiscal years, and interim
periods within those fiscal years, beginning on or after December 15,
2008.  The adoption of the guidance resulted in the reclassification
of minority interest into equity.





In
December 2007, FASB issued authoritative guidance on accounting for business
combinations, including the measurement of acquirer shares issued in
consideration for a business combination, the recognition of contingent
consideration, the accounting for pre-acquisition gain and loss contingencies,
the recognition of capitalized in-process research and development, the
accounting for acquisition-related restructuring cost accruals, the
treatment of acquisition related transaction costs and the recognition of
changes in the acquirer’s income tax valuation allowance.The
requirements are effective for fiscal years beginning after December 15,
2008.  The adoption of these requirements did not have a material
impact on the Company’s financial statements.





In
February 2008, the FASB issued a deferral for the fair value requirements for
non-financial assets and liabilities not required to be stated at fair value on
a recurring basis (at least annually) until fiscal years beginning after
November 15, 2008. This deferral primarily impacts assets such as property,
plant and equipment, intangible assets and goodwill upon non-recurring events
such as business combinations, asset impairments and goodwill impairment, among
others. The adoption of the deferral did not have a material impact on the
Company’s financial statements.





In March
2008, the FASB issued new disclosure requirements for an entity’s derivative and
hedging activities. These disclosure requirements are effective for periods
beginning after November 15, 2008 and the adoption of the disclosure
requirements did not have a material impact on the Company’s financial
statements.





In May
2008, the FASB issued guidance that requires an issuer of certain convertible
debt instruments that may be settled in cash, or other assets, on conversion to
separately account for the debt and equity components in a manner that reflects
the issuer’s non-convertible debt borrowing rate. The Company adopted this
guidance in the first quarter of 2009 on a retrospective basis. The adoption of
this guidance did not have a material impact on the Company’s financial
statements.





In June
2008, the FASB issued guidance which requires entities to apply the two-class
method of computing basic and diluted earnings per share for participating
securities that include awards that accrue cash dividends (whether paid or
unpaid) any time common shareholders receive dividends and those dividends will
not be returned to the entity if the employee forfeits the award. The guidance
is effective for fiscal years beginning after December 15, 2008, and the interim
periods within those years. Retroactive disclosure is required. The adoption of
this guidance did not have a material impact on the Company’s financial
statements.




F-19





In June
2008, the FASB ratified certain authoritative guidance regarding determining
whether an instrument (or embedded feature) is indexed to an entity’s own stock.
This guidance is effective for years beginning after December 15, 2008 and the
adoption of the guidance did not have a material impact on the Company’s
financial statements.





In July
2008, the FASB issued new guidance regarding fair value measurements. This new
guidance defines fair value, establishes a framework for measuring fair value in
generally accepted accounting principles and expands disclosures about fair
value measurements. The new guidance was effective for the Company beginning
July 1, 2008, for certain financial assets and liabilities. The new guidance was
effective for non-financial assets and liabilities recognized or disclosed at
fair value on a non-recurring basis beginning July 1, 2009. The adoption of this
guidance did not have a material impact on the Company’s financial
statements.





In April
2009, the FASB issued additional guidance on estimating fair value when the
volume and level of transaction activity for an asset or liability have
significantly decreased in relation to normal market activity for the asset or
liability, or on circumstances that may indicate that a transaction is not
orderly. This guidance also addresses when the use of multiple, or different,
valuation techniques may be warranted and considerations for determining the
weight that should be applied to the various techniques. The guidance is
effective for the interim and annual reporting periods ending after June 15,
2009, and must be applied prospectively. The adoption of this guidance did not
have a material impact on the Company’s financial statements.





In May
2009, the FASB issued authoritative accounting guidance on subsequent events, a
topic that was previously only addressed by auditing literature. The guidance
clarified that subsequent events are either recognized or non-recognized and
modified the definition of subsequent events to refer to events or transactions
that occur after the balance sheet date but before the financial statements are
issued.





In June
2009, the FASB amended the accounting and disclosure requirements for transfers
of financial assets. This amendment requires greater transparency and additional
disclosures for transfers of financial assets and the entity’s continuing
involvement with them, and it changes the requirements for derecognizing
financial assets. In addition, this amendment eliminates the concept of a
qualifying special-purpose entity (“QSPE”). This amendment is effective for
financial statements issued for fiscal years beginning after November 15, 2009.
This amendment is not expected to have a material impact on the Company’s
financial statements.





In June
2009, the FASB amended the accounting and disclosure requirements for the
consolidation of variable interest entities (“VIEs”). The elimination of the
concept of a QSPE, as discussed above, removes a prior exception to
consolidation. This amendment requires an enterprise to perform a qualitative
analysis when determining whether or not it must consolidate a VIE. The
amendment also requires an enterprise to continuously reassess whether it must
consolidate a VIE. Additionally, the amendment requires enhanced disclosures
about an enterprise’s involvement with VIEs and any significant change in risk
exposure due to that involvement, as well as how its involvement with VIEs
impacts the enterprise’s financial statements. Finally, an enterprise will be
required to disclose significant judgments and assumptions used to determine
whether or not to consolidate a VIE. This amendment is effective for financial
statements issued for fiscal years beginning after November 15, 2009. This
amendment is not expected to have a material impact on the Company’s financial
statements.





In July
2009, the FASB adopted the FASB Accounting Standards
CodificationTM (the
“Codification”) as the single source of authoritative nongovernmental U.S. GAAP.
The Codification is effective for interim and annual periods ending after
September 15, 2009. All existing accounting standards documents, with a few
grandfathered exceptions, are superseded. All other accounting literature not
included in the Codification is nonauthoritative.  The Codification
did not have an impact on the Company’s financial statements.




F-20





In August
2009, the FASB issued guidance regarding accounting for redeemable equity
instruments that was effective upon issuance. The guidance updates prior
guidance regarding how to distinguish liabilities from equity, in accordance
with guidance from the Emerging Issues Task Force on classification and
measurement of redeemable securities. The adoption of this guidance did not have
a material impact on the Company’s financial statements.





In August
2009, the FASB issued guidance regarding the fair value measurement of
liabilities. The update was effective for the first reporting period (including
interim periods) beginning after August 28, 2009.  The adoption of
this update did not have a material impact on the Company’s financial
statements.





In
September 2009, the FASB issued guidance to provide technical corrections
regarding the computation of earnings per share for a period that includes a
redemption or an induced conversion of a portion of a class of preferred stock
and the effect of the calculation of earnings per share for the redemption or
induced conversion of preferred stock. The guidance was effective upon issuance
and adoption of it did not have material impact on the Company’s financial
statements.





In
February 2010, the FASB amended and clarified certain recognition and disclosure
requirements for public and certain other entities. Under these amendments,
certain entities are required to evaluate subsequent events through the date
that the financial statements are issued. Further, an entity that is an SEC
filer is not required to disclose the date through which subsequent events have
been evaluated. This amendment is effective for financial statements issued for
interim or annual periods ending after June 15, 2010. This amendment is not
expected to have a material impact on the Company’s financial
statements.





4.
      CONCENTRATIONS
      OF BUSINESS AND CREDIT RISK





Financial
instruments that potentially subject the Group to significant concentrations of
credit risk consist primarily of cash and cash equivalents, trade receivables,
and notes and loans receivable.





(1)
Cash and cash equivalents





The
Company maintains certain bank accounts in the PRC which are not protected by
FDIC insurance or other insurance.  Cash balance held in PRC bank
accounts to $47,985,151 and $11,623,649 as of December 31, 2009 and 2008,
respectively.  As of December 31, 2009 and 2008, the Company held
$964,373 and $161,759 of cash balances within the United States of which
$714,373 and $0 was in excess of FDIC insurance limits,
respectively.





As of
December 31, 2009 and 2008 substantially all of the Group’s cash and cash
equivalents, investment in mutual funds and short term notes receivable were
held by major financial institutions located in the PRC and United States which
management believes are of high credit quality.





(2)
Sales and trade receivables





Nearly
all of the Group’s sales are concentrated in the PRC and substantially all of
the Group’s profits are generated from the operation
there.  Accordingly, the Group is susceptible to fluctuations in its
business caused by adverse economic conditions in the PRC.





The Group
provides credit in the normal course of business and substantially all customers
are located in the PRC.  The Group performs ongoing credit evaluations
of its customers and maintains allowances for doubtful accounts based on factors
surrounding the credit risk of specific customers, historical trends, and other
information.  No individual customer accounted for more than 10% of
net revenues during the years ended December 31, 2009 and 2008.




F-21





(3)
Short term notes and loans receivable





Short
term notes and loans receivable include a promissory note in the principal
amount of $4,000,000 (the “Note”) issued by Huge Power Int’l S.A., a company
organized in Samoa (“Huge Power”).  On June 27, 2007, the Company
loaned a principal amount of $4,000,000 to Huge Power and Huge Power issued the
Note.  The Note stated interest is an annual rate of 8%, payable in
cash semi-annually.  The Note matured on June 27,
2009.  Huge Power has made payments of interest under the Note;
however, the Company has been unable to obtain the collateral that is required
to be pledged according to the Note agreement.  As a result, the
Company has provided an allowance for doubtful collection of the Note as a
result of not receiving collateral. Interest on the Note is recognized when
received due to the doubtful collection.





5.TAXATION





The
components of income before income taxes from continuing operations consisted of
the following:





2009
            
            
            2008US$
            
            
            US$Income
      (loss) subject to domestic income taxes only
            
            
            11,081,074
            
            
            
            7,208,685Income
      (loss) subject to foreign income taxes only
            
            
            40,184,436
            
            
            
            19,931,453Intercompany
      elimination
            
            
            (35,838,500
            )
            
            
            (13,003,376
            )15,427,010
            
            
            
            14,136,762




The
Company is subject to U.S. federal and state income taxes.  The
Company’s subsidiaries incorporated in the PRC are subject to enterprise income
taxes.  The provision for income taxes from continuing operations
consisted of the following:





2009
            
            
            2008US$
            
            
            US$Current:Federal
            
            
            253,644
            
            
            
            -State
            
            
            912
            
            
            
            5,823PRC
            
            
            1,725,593
            
            
            
            4,291,8021,980,149
            
            
            
            4,297,625Deferred:Federal
            
            
            -
            
            
            
            -State
            
            
            -
            
            
            
            -PRC
            
            
            (2,726,347
            )
            
            
            (730,490
            )(746,198
            )
            
            
            3,567,135





The
provision for income taxes is attributable to:





Continuing
      operations
            
            
            (746,198)
            
            
            
            3,567,135Discontinued
      operations
            
            
            539,389
            
            
            
            2,130,686(206,809)
            
            
            
            5,697,821





F-22





The
following is a reconciliation of the difference between the actual provision for
income taxes and the provision computed by applying the federal statutory rate
on income from continuing operations before income taxes:




2009
            
            
            2008US$
            
            
            US$Tax
      at Federal Statutory Rate
            
            
            5,245,183
            
            
            
            4,806,499Stock
      Compensation
            
            
            603,173
            
            
            
            122,971Interest
      Expense
            
            
            1,509,524
            
            
            
            (1,127,998
            )Gain
      and Loss on Debt extinguishment
            
            
            -
            
            
            
            (8,516,108
            )Debt
      Discount
            
            
            -
            
            
            
            6,086,760Dividend
      exclusion
            
            
            (1,254,171
            )
            
            
            -Debt
      Financing Cost
            
            
            (913,865
            )
            
            
            -Other
      U.S. Permanent Differences
            
            
            742,619
            
            
            
            77,824State
      Taxes
            
            
            2,311
            
            
            
            1,571Change
      in Valuation Allowance
            
            
            (3,749,135
            )
            
            
            671,485Foreign
      Rate Differential
            
            
            11,123,220
            
            
            
            3,749,815Foreign
      Tax Holiday
            
            
            (16,086,536
            )
            
            
            (3,397,666
            )Foreign
      Tax Surcharge
            
            
            1,951,397
            
            
            
            968,871AMT
      Taxes
            
            
            271,969
            
            
            
            -Others
            
            
            (191,887
            )
            
            
            123,111(746,198
            )
            
            
            3,567,135





The
following presents the aggregate dollar and per share effects of the
Company’s tax holidays:





2009
            
            
            2008US$
            
            
            US$Aggregate
      dollar effect of tax holiday
            
            
            (16,086,536
            )
            
            
            (3,397,666
            )Per
      share effect—basic
            
            
            0.85
            
            
            
            0.20Per
      share effect—diluted
            
            
            0.80
            
            
            
            0.19





Deferred
tax assets and liabilities are recognized for the expected future tax
consequences of differences between the carrying amounts of assets and
liabilities and their respective tax bases using enacted tax rates in effect for
the year in which the differences are expected to reverse. Deferred taxes are
comprised of the following:





2009
            
            
            2008US$
            
            
            US$Net
      operating loss carryforward
            
            
            657,223
            
            
            
            5,223,638Accrued
      liabilities and allowances
            
            
            1,709,949
            
            
            
            1,545,318Debt
      restructuring costs
            
            
            -
            
            
            
            369,701Others
            
            
            (9,920
            )
            
            
            (9,953
            )PRC
      deferred tax assets
            
            
            5,142,028
            
            
            
            980,981Gross
      deferred tax assets
            
            
            7,499,280
            
            
            
            8,109,685Deferred
      tax liabilities
            
            
            -
            
            
            
            -Total
      deferred tax assets
            
            
            7,499,280
            
            
            
            8,109,685Valuation
      allowance
            
            
            (3,866,465
            )
            
            
            (7,379,195
            )Net
      deferred tax assets
            
            
            3,632,815
            
            
            
            730,490




F-23




The
Company has recorded a valuation allowance against all of its U.S. federal and
state and PRC deferred tax assets at December 31, 2009 except for Feihe Dairy
and Gannan Feihe. In accordance with ASC 740 Accounting for Income Taxes based
on all available evidence, including the Company’s historical results and the
uncertainty of predicting its future income, the valuation allowance reduces the
Company’s deferred tax assets to an amount that is more likely than not to be
realized.





For U.S.
federal income tax purposes, the Company has net operating loss (“NOL”)
carryforwards of approximately $1.9 million and $15.3 million, at December 31,
2009 and 2008, respectively. The 2009 NOL carryforwards will expire after 20
years beginning 2029 and the 2008 NOL carryforwards will expire after 20 years
beginning 2028, if not utilized. The Company also has approximately $8.5 million
and $0.4 million of NOL carryforwards for PRC enterprise income tax purposes, at
December 31, 2009 and 2008, respectively.





On March
16, 2007, the PRC National People’s Congress passed the PRC Enterprise Income
Tax Law (“New EIT Law”) which became effective on January 1,
2008.  The New EIT Law applies a uniform 25% enterprise income tax
rate to both foreign invested enterprises and domestic enterprises. The New EIT
Law provides a five-year transition period from its effective date for those
enterprises which were established before the promulgation date of the New EIT
Law and which were entitled to a preferential tax treatment such as a reduced
tax rate or a tax holiday.  On December 26, 2007, the PRC State
Council issued the Notice of the State Council Concerning Implementation of
Transitional Rules for Enterprise Income Tax Incentives (“Circular 39”). 
Based on Circular 39, certain specifically listed categories of enterprises
which enjoyed a preferential tax rate are eligible for a graduated rate increase
to 25% over the 5-year period beginning from January 1, 2008.





Pursuant
to Article 8 of the Income Tax Law of the PRC Concerning Foreign Investment and
Foreign Enterprises ( the “FEIT Law”), a manufacturing enterprise that operates
for at least 10 years was eligible to receive certain preferential tax
treatments.  Moreover, a foreign invested manufacturing enterprise
(“FIME”), starting from its first profitable calendar year after offset of
accumulated tax losses, was entitled to a two-year exemption from enterprise
income tax followed by a three year 50% reduction in its enterprise income tax
rate.




Under the
current tax regime in China, Foreign Invested Enterprises (“FIEs”) established
prior to the promulgation of the New EIT Law have been offered a transitional
policy and a grand-fathering of certain preferential tax
treatments.  Thus, an enterprise that is entitled to preferential
treatment in the form of enterprise income tax reduction or exemption prior to
January 1, 2008 would continue to enjoy such preferential treatment until
the expiration of the period.




Under the
old tax regime in China, Feihe Dairy secured a combination of preferential tax
treatments and government incentives in the respective jurisdictions where it
conducted its manufacturing activities. Feihe Dairy qualified for a full tax
exemption of 33 percent for tax years beginning 2003 and 2004, and an 18 percent
tax exemption for tax years 2005 through 2007. In addition to the preferential
tax treatment, Feihe Dairy received a tax subsidy from the local government for
100 percent of the enterprise income tax liability paid for tax years 2005
through 2008. The tax subsidy arrangement with the local government was renewed
in 2009, which entitles Feihe Dairy to receive a tax subsidy from the local
government for 40 percent of the enterprise income tax liability paid for tax
years 2009 through 2013. Through the previous government incentive, Feihe Dairy
received income tax subsidy totaling $3.3 million for year 2008 and $ 0 for year
2009. The tax subsidy received is recorded in “Other Income” on the Consolidated
Statements of Operations and Comprehensive Income.





Under the
old tax regime in China, Baiquan Dairy obtained a tax subsidy from the local
government for 100 percent of the enterprise income tax liability paid for tax
years 2004 through 2008.  The tax subsidy arrangement with the local
government was renewed in 2009, which entitles Baiquan Dairy to receive a tax
subsidy from the local government for 40 percent of the enterprise income tax
liability paid for the tax year 2009. The Company’s management anticipates
receiving a tax subsidy for year 2009 through the current government incentive
after the 2009 annual tax return is filed. The tax subsidy will be recorded in
"Other Income" on the Consolidated Statements of Operations and Comprehensive
Income.  Because Baiquan Dairy had a loss for fiscal year 2008, it did
not receive any tax subsidy in such year.




F-24




Since
Gannan Feihe, Shanxi and Langfang Feihe are considered FIMEs established prior
to the promulgation of the New EIT law, they will enjoy 100% tax
holidays for 2008 and 2009 and 50% tax holidays for 2010, 2011 and
2012.




The tax
subsidies granted by the local government for the Company’s PRC subsidiaries may
be modified or challenged by the central government or the tax authority. 
The Company’s loss of some or all of the tax subsidies received from the local
government would adversely affect the Company’s financial
statements.




Undistributed
earnings of the Company’s PRC subsidiaries amounted to approximately $60 million
as of December 31, 2009.  Those earnings are considered to be
permanently reinvested and accordingly, no deferred tax expense is recorded for
U.S. federal and state income tax or applicable withholding
taxes.  The PRC tax authorities have clarified that dividend
distributions made out of pre-January 1, 2008 retained earnings will not be
subject to withholding taxes.




A
reconciliation of the January 1, 2008 through December 31, 2009 amount of
unrecognized tax benefits excluding interest and penalties (“Gross UTB”) is as
follows:





Gross
      UTBUS$Beginning
      balance at January 1, 2008
            
            
            2,814,613Increase
      in unrecorded tax benefits taken in current year
            
            
            651,027Ending
      balance at December 31, 2008
            
            
            3,465,640Increase
      in unrecorded tax benefits taken in current year
            
            
            1,529,682Ending
      balance at December 31, 2009
            
            
            4,995,322





At
December 31, 2009, of the total $5.0 million in unrecognized tax benefits, $3.2
million represents the amount that if recognized, would favorably affect the
effective income tax rate in any future periods.  At December 31,
2008, of the total $3.5 million in unrecognized tax benefits, $1.8 million
represents the amount that if recognized, would favorably affect the effective
income tax rate in any future periods.




F-25





The
Company records interest and penalties related to unrecognized tax benefits in
income tax expense. The Company had cumulatively accrued approximately $1.0
million and $0.6 million for estimated interest and penalties related to
uncertain tax positions at December 31, 2009 and 2008, respectively. For the
twelve months ended December 31, 2009 and 2008, the Company recorded estimated
interest and penalties of approximately $0.4 million and $0.3 million,
respectively.
 
 The
Company and its subsidiaries are subject to taxation in the U.S. and the PRC.
The Company’s U.S. federal and state income tax returns are generally not
subject to examination by the tax authorities for tax years before 2005. With a
few exceptions, the tax years 2005-2009 remain open to examination by tax
authorities in the PRC.
 
 6.EARNINGS
      PER SHARE OF COMMON STOCK
 
 The
following table sets forth the computation of weighted-average shares
outstanding for calculating basic and diluted earnings per share for the fiscal
years ended:
  2009
              
              
              2008Weighted-average
      shares – Basic
              
              
              19,004,337
              
              
              
              16,993,390Effect
      of dilutive securitiesStock
      options
              
              
              454,995
              
              
              
              -Warrants
              
              
              514,182
              
              
              
              643,472Performance
      adjustment shares
              
              
              207,084
              
              
              
              -Weighted-average
      shares – Diluted
              
              
              20,180,598
              
              
              
              17,636,862
 
 For the
year ended December 31, 2008, 1,473,437 shares of the Company’s common stock
attributable to the potential conversion of the 7.75% Convertible Notes due 2009
and 251,040 warrants were excluded from the calculation of diluted income per
share because the conversion price or exercise price exceeded the average price
per share of the Company’s common stock.
 
 7.  LONGJIANG
FEIHE ACQUISITION
 
 On May
20, 2009, the Company’s subsidiary Gannan Flying Crane Dairy Products Co.,
Limited (“Gannan Feihe”) acquired 100% interest of the dairy processing plant
from Heilongjiang Xin Tian Dairy Co., Ltd, for a total cash consideration of
$4,382,890.  The transaction was accounted for as a business
acquisition in accordance with authoritative FASB guidance regarding accounting
for business combinations.  The purpose of the acquisition was to expand
milk production capacities in the Heilongjiang Province, China.
  US$Total
      purchase price
                
                
                4,382,890Fair
      value of identifiable assets acquired:Property
      and equipment, net
                
                
                2,219,661Prepaid
      leases
                
                
                481,460Other
      intangible assets
                
                
                1,081,113Deferred
      tax asset
                
                
                175,980Goodwill
                
                
                424,6764,382,890
  None of
the goodwill resulting from this acquisition is tax deductible.
  F-26
  Other
intangible assets as of December 31, 2009, related to this acquisition consist
of the following:
  Production
                Permit
              
              
              Exclusive
      Right
                of
      milk supply
              
              TotalUS$
              
              
              US$
              
              US$Cost
              
              
              204,535
              
              
              
              876,578
              
              1,081,113Accumulated
      amortization
              
              
              (136,508
              )
              
              
              (124,475
              )
              (260,983)Exchange
      gain
              
              
              227
              
              
              
              974
              
              1,201Total
              
              
              68,254
              
              
              
              753,077
              
              821,331
  Production
permits and exclusive rights of milk supply are carried at cost less accumulated
amortization. Amortization is calculated on a straight-line basis over the
expected useful lives of one and 4.7 years, respectively.  Amortization
expense of intangible assets is estimated to be approximately $255,000,
$186,000, $186,000, $186,000, and $8,000 for 2010, 2011, 2012, 2013, and 2014,
respectively.
 
 Financial
results of the acquired processing plant for the period from the acquisition
date to December 31, 2009 were a net profit of $2,624,836 and include no sales.
The net profit incurred mainly included government subsidy income of $2,930,600
offset by other operating expenses.
 
 All sales
of Longjiang Feihe are inter-company transactions and eliminated in
consolidation.
 
 Disclosure
of unaudited pro-forma financial information is considered impractical because
there are no operational results available for the processing plant prior to
acquisition.
 
 8.NOTES
      AND LOANS RECEIVABLE
 
 The notes
and loans receivable amounts included in the consolidated balance sheets for the
years ended December 31, 2009 and 2008 were as follows:
 
 (1)
Short term notes and loans receivable
 
 2009
              
              
              2008US$
              
              
              US$Bills
      receivable from banks in the PRC, due within three months
              
              
              438,776
              
              
              
              34,286Promissory
      note, bearing interest at 8%, due on June 27, 2009 (See Note
      4(3))
              
              
              4,000,000
              
              
              
              4,000,000Loans
      receivable from an unrelated party, bearing interest at 10%, due on
      January 17, 2009
              
              
              -
              
              
              
              1,458,9594,438,776
              
              
              
              5,493,245Less:
      Allowance for doubtful note receivable
              
              
              (4,000,000
              )
              
              
              (4,000,000
              )438,776
              
              
              
              1,493,245
  9.TRADE
      RECEIVABLES, NET
 
 The trade
receivables amount included in the consolidated balance sheets for the years
ended December 31, 2009 and 2008 were as follows:
 
 2009
              
              
              2008US$
              
              
              US$Trade
      receivables
              
              
              28,286,309
              
              
              
              13,586,828Less:
      Allowance for doubtful accounts
              
              
              (791,119
              )
              
              
              (1,311,331
              )Trade
      receivables, net
              
              
              27,495,190
              
              
              
              12,275,497
  F-27
  The
movement of the allowance for doubtful notes and loans and trade receivables
during the years was as follow:
 
 2009
              
              
              2008US$
              
              
              US$Balance
      as at January 1
              
              
              5,311,331
              
              
              
              4,670,113Add:
      Current year additions
              
              
              2,198,399
              
              
              
              641,218Less:
      Current year reductions of reserves
              
              
              (2,721,872
              )
              
              
              -Foreign
      exchange fluctuation
              
              
              3,261
              
              
              
              -Balance
      as at December 31
              
              
              4,791,119
              
              
              
              5,311,331
  10.INVENTORIES,
      NET
 
 The
inventory amounts included in the consolidated balance sheets for the years
ended December 31, 2009 and 2008 comprised of:
 
 2009
              
              
              2008US$
              
              
              US$Raw
      materials
              
              
              23,360,410
              
              
              
              16,193,783Work-in-progress
              
              
              34,486,084
              
              
              
              14,667,279Finished
      goods
              
              
              1,716,732
              
              
              
              22,045,187Less:
      Inventory provision
              
              
              (518,561
              )
              
              
              (575,916
              )Total
      inventories, net
              
              
              59,044,665
              
              
              
              52,330,333
 
 The
movement of provision for inventory reserves during the years was as
follow:
  2009
              
              
              2008US$
              
              
              US$Balance
      as at January 1
              
              
              575,916
              
              
              
              744,067Add:
      Current year additions
              
              
              156,297
              
              
              
              214,635Less:
      Current year reduction of reserves
              
              
              (215,052
              )
              
              
              (431,680
              )Foreign
      exchange fluctuation
              
              
              1,400
              
              
              
              48,894Balance
      as at December 31
              
              
              518,561
              
              
              
              575,916
  The
charge of $431,680 in 2008 related to a write-off of the Company’s 2007
inventory provision, since all of the subject inventory was sold in 2008 at less
than full value.  The charge of $215,052 in 2009 related to a reduction in
the Company's 2008 inventory provision, since the subject inventory was either
sold or used in 2009.
  F-28
  11.INVESTMENT
      IN MUTUAL FUNDS – Available for sale
 
 Investment
in mutual funds is carried at fair value based on the quoted market prices of
the underlying fund at December 31, 2009 and 2008.  Unrealized gain
(loss) recorded for the years ended December 31, 2009 and 2008 was $58,962 and
$(104,865), respectively.
 
 Fair value measurementDescription
              
              December 31,
              
              
              Quoted prices
                in active
                markets of
                identical assets
                (Level 1)
              
              
              Significant
                other
                observable
                inputs
                (Level 2)
              
              
              Significant
                unobservable
                inputs
                (Level 3)US$
              
              
              US$
              
              
              US$
              
              
              US$Investment
      in mutual funds – 2009
              
              
              136,466
              
              
              
              136,466
              
              
              
              -
              
              
              
              -Investment
      in mutual funds – 2008
              
              
              77,504
              
              
              
              77,504
              
              
              
              -
              
              
              
              -
  12.ADVANCES
      TO SUPPLIERS
  Advances
to suppliers consist primarily of advances for purchase of dairy cows, as well
as advances for advertisements, inventories and equipment, not delivered at the
balance sheet date.  The Company utilizes advances to suppliers in an
effort to keep future purchasing prices stable and
consistent.
 
 Advanced
amounts are refundable if the transaction is not completed by the other party in
accordance with the terms of the contract or agreement.  No advances
to suppliers were repaid in cash, and the Company has a minimal repayment
history.
  13.DISCONTINUED
      OPERATIONS
 
 Moveup
was initially formed in October 2007 to serve as an acquisition vehicle in
connection with the Company’s proposed acquisition of 100% of the outstanding
equity interest in Ausnutria Dairy (Hunan) Company Ltd. (“Ausnutria”), a
distributor of dairy products focused on the high-end segment of the dairy
products market in the PRC.  In 2007, we entered into several
agreements with Ausnutria in connection with this transaction, which did not
close.
  In
February 2008, the Company made a deposit payment of approximately $1.4
million to Ausnutria Holding Co., Ltd., which indirectly owns Ausnutria, in
connection with the Company’s efforts to resolve the incomplete transactions in
2007.  The transaction did not close and the Company entered into
renegotiations. In connection with this transaction, a total deposit for
investment of $31,586,473 was recorded in the financial records of Moveup as of
December 31, 2008.
  In
December 2008, the Company and Ausnutria’s owners entered into a letter of
intent to unwind the transactions.   Accordingly, the prior
transactions to acquire Ausnutria were effectively cancelled and Moveup is
reflected in the Company’s consolidated financial statements as a discontinued
operations.  In February 2009, the Company, through its
subsidiary Feihe Dairy, entered into an equity purchase agreement pursuant to
which Feihe Dairy and the minority shareholder of Moveup, Liu Sheng-Hui, one of
the Company’s directors and Vice President of Finance of Feihe Dairy, each
agreed to sell to Hunan Xindaxin Co., Ltd. 100% of their equity interests in
Moveup for an aggregate consideration of approximately $43.3
million.  The Company received approximately $11.0 million from the
purchasers and the second tranche of approximately $32.3 million was
released from an escrow account to Feihe Dairy and Mr. Liu in 2009.
 
 Moveup
received advances from the Group of $31,002,897 as of December 31, 2008,
respectively. The consideration received from the sale of Moveup was used, among
other uses, to repay these intra-Group advances during 2009.
  F-29
  The
following table presents the components of discontinued operations reported in
the consolidated statements of operations and comprehensive income:
 
 For the years ended
                December31,2009
              
              
              2008US$
              
              
              US$Sales
              
              
              10,451,277
              
              
              
              38,979,045Income
      from operations
              
              
              1,301,909
              
              
              
              8,593,564Gain
      on sale of subsidiary
              
              
              2,552,733
              
              
              
              -Income
      tax expenses
              
              
              (564,734
              )
              
              
              (2,130,686
              )Net
      income from discontinued operations
              
              
              3,289,908
              
              
              
              6,462,878
 
 14.
      PROPERTY
      AND EQUIPMENT, NET
 
 Property
and equipment and related accumulated depreciation as of December 31, 2009 and
2008 were as follows:
  2009
              
              
              2008US$
              
              
              US$Buildings
      and plant
              
              
              111,469,845
              
              
              
              50,745,361Machinery
      and equipment
              
              
              55,787,234
              
              
              
              47,680,884Office
      equipment
              
              
              2,793,510
              
              
              
              797,562Motor
      vehicles
              
              
              2,210,482
              
              
              
              1,183,861172,261,071
              
              
              
              100,407,668Less:
      Accumulated depreciation
              
              
              (17,688,662
              )
              
              
              (12,117,810
              )Net
      book value
              
              
              154,572,409
              
              
              
              88,289,858
  (1) Depreciation
expenses
 
 Depreciation
expense for the years ended December 31, 2009 and 2008 was $5,707,017 and
$4,840,402, respectively, of which $4,448,935 and $3,700,632 were included as a
component of cost of goods sold in the respective years.
 
 (2)
Pledged property and equipment
 
 The net
book value of buildings and equipment pledged for borrowings were $25,571,012
and $8,008,238 as at December 31, 2009 and 2008.
 
 (3)
Capitalized interest
 
 $2,970,058
and $nil of interest expense was capitalized in property and equipment for the
years ended December 31, 2009 and 2008.
  F-30
 
 15.CONSTRUCTION
      IN PROGRESS
 
 The
construction projects under construction at December 31, 2009 and 2008 were as
follow:
 
 2009
              
              
              2008US$
              
              
              US$Feihe
      Dairy processing facilities
              
              
              4,671,469
              
              
              
              -Langfang
      Feihe production factory facilities
              
              
              2,711
              
              
              
              9,950Gannan
      production factory facilities
              
              
              13,721,606
              
              
              
              179,937Shanxi
      walnut processing facilities
              
              
              51,386
              
              
              
              38,622Gannan
      Pasture facilities
              
              
              702,116
              
              
              
              13,381,175Kedong
      Pasture facilities
              
              
              -
              
              
              
              13,745,720Soybean
      processing facilities
              
              
              4,015,104
              
              
              
              1,479,131Others
              
              
              6,517
              
              
              
              13,424Total
              
              
              23,170,909
              
              
              
              28,847,959
 
 $142,591
and $4,149,543 of interest expense was capitalized in construction in progress
for the years ended December 31, 2009 and 2008.
 
 16.
      BIOLOGICAL
      ASSETS
  2009
              
              
              
              2008US$
              
              
              
              US$Immature
      biological assets
              
              
              35,672,123
              
              
              
              23,784,479Mature
      biological assets
              
              
              15,008,468
              
              
              
              1,490,171Less:
      Accumulated depreciation
              
              
              (1,776,344
              )
              
              
              (6,816
              )Net
      book value
              
              
              48,904,247
              
              
              
              25,267,834
 
 (1)
Depreciation expenses
 
 Depreciation
expense for the year ended December 31, 2009 and 2008 was $1,835,364 and $6,816,
all of which was recorded in cost of goods sold.
 
 (2)
Pledged property and equipment
 
 The net
book value of biological assets pledged for borrowings was $46,659,512 and
$19,995,659 at December 31, 2009 and 2008.
 
 (3)
Capitalized interest
 
 $1,433,903
and $1,999,630 of interest expense was capitalized in immature biological assets
for the year ended December 31, 2009 and 2008.
  F-31
 
 17.
      GOODWILL
  Goodwill
represents the excess of the purchase price over the estimated fair value of the
net tangible and identifiable intangible assets acquired from the Shanxi
minority interest acquisition in 2006 and from the Longjiang Feihe acquisition
in 2009 (Note 7).  Such amounts are not tax deductible.
  The
Company has performed step 1 of the goodwill impairment test relating to
goodwill arising from its acquisition of the Shanxi minority interest using a
combination of a discounted cash flow and replacement cost approach and
determined that the carrying value of the reporting unit exceeded the fair value
of the reporting unit. The value of the reporting unit implied by our test was
based on management’s current assessment of stagnating growth due to delays
in the forecasted ability to increase walnut operations and recent industry
and general economic conditions.  The Company has not finalized its
evaluation of the implied fair value of goodwill and has recorded an estimate of
impairment loss of $929,526 in goodwill impairment as of December 31, 2009
pending finalization of the appraisal of implied fair value of
goodwill.
  No
goodwill impairment expense was recognized in 2008.
 18.NOTES
      AND LOANS PAYABLE
 
 Notes and
loans payable included in the consolidated balance sheets for the years ended
December 31, 2009 and 2008 comprised of:
 
 2009
              
              
              2008US$
              
              
              US$Note
      payable to a bank in the PRC, bearing interest at 7.47% per annum,
      unsecured, payable with interest on maturity, due on May 11,
      2009
              
              
              -
              
              
              
              4,522,774Note
      payable to a bank in the PRC, bearing interest at 7.47% per annum, secured
      by plant and machinery, payable with interest on maturity, due on May 11,
      2009
              
              
              -
              
              
              
              2,772,023Unsecured,
      non-interest bearing loan payable to an unrelated party, due on
      demand.
              
              
              442,600
              
              
              
              442,600Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum, secured
      by machinery, payable with interest on maturity, due on January 4,
      2010
              
              
              2,193,881
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum, secured
      by machinery,  payable with interest on maturity, due on January
      5, 2010
              
              
              3,656,468
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum, secured
      by land use rights, guaranteed by Feihe Dairy, payable with interest on
      maturity, due on May 22, 2010
              
              
              4,972,796
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum, secured
      by machinery, payable with interest on maturity, due on May 22,
      2010
              
              
              2,340,139
              
              
              
              -
  F-32
  2009
              
              
              2008US$
              
              
              US$Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum, secured
      by machinery, payable with interest on maturity, due on March 31,
      2010
              
              
              3,773,475
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum, secured
      by buildings of Qiqihaer Feihe Soybean Co., Limited, guaranteed by Feihe
      Dairy(i), payable with interest on maturity, due on July 19,
      2010
              
              
              1,775,581
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum,
      guaranteed by Feihe Dairy(i), payable with interest on maturity, due on
      July 19, 2010
              
              
              1,149,593
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum,
      guaranteed by Feihe Dairy(ii), payable with interest on maturity, due on
      August 30, 2010
              
              
              2,925,174
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum,
      guaranteed by Feihe Dairy(ii), payable with interest on maturity, due on
      September 28, 2010
              
              
              1,462,587
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum,
      guaranteed by Feihe Dairy, payable with interest on maturity, due on
      September 14, 2010
              
              
              11,846,955
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum, secured
      by building, payable with interest on maturity, due on September 15,
      2010
              
              
              2,778,915
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum,
      guaranteed by Feihe Dairy(ii), payable with interest on maturity, due on
      October 22, 2010
              
              
              2,925,174
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum,
      guaranteed by Feihe Dairy(i), payable with interest on maturity, due on
      July 19, 2010
              
              
              5,850,348
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum,
      guaranteed by Feihi Dairy, payable with interest on maturity, due on
      November 12, 2010
              
              
              5,850,348
              
              
              
              -Note
      payable to a bank in the PRC, bearing interest at 5.31% per annum, secured
      by machinery, guaranteed by Feihe Dairy, payable with interest on
      maturity, due on December 23, 2010
              
              
              4,680,278
              
              
              
              -Notes
      payables to local suppliers
              
              
              3,429,767
              
              
              
              -Unsecured,
      non-interest bearing loan payable to County Finance Department, due on
      demand. (iii)
              
              
              318,843
              
              
              
              318,053Total
              
              
              62,372,922
              
              
              
              8,055,450
  
 (i)
              In
      connection with the purchase of raw materials by Qiqihaer Feihe Soybean
      Co., Limited, Feihe Dairy guaranteed the loans payable to a bank in the
      PRC for a period of one year, beginning on July 20, 2009 and ending on
      July 19, 2010. The maximum potential future amount under the terms of the
      guarantee is RMB 63,200,000 (or $9,253,000 as of December 31,
      2009).
  F-33
  (ii)
              Feihe
      Dairy guaranteed the loans payable to a bank in the PRC for a period of
      one year, beginning on August 30, 2009 and ending on August 29, 2010. The
      maximum potential future amount under the terms of the guarantee is RMB
      100,000,000 (or $14,641,000 as of December 31, 2009).(iii)
              Shanxi
      received funding from the local County Finance Department for its
      construction of the production facilities in the
      region.  Although, no repayment terms were attached with the
      funds, the Company considers them to be unsecured, non-interest bearing
      loans from the County Finance Department that are repayable on
      demand.
 
 None of
the notes and loans payable have restrictions or covenants
attached.
 
 19.RELATED
      PARTY TRANSACTIONS
 
 Due
from/to related parties included in the consolidated balance sheets for the
years ended December 31, 2009 and 2008 comprised of:
 
 2009
              
              
              2008US$
              
              
              US$Due
      from related parties:Due
      from Directors of the Group
              
              
              60,978
              
              
              
              33,011Due
      from related companies
              
              
              2,127,265
              
              
              
              232,468Total
              
              
              2,188,243
              
              
              
              265,479
 
 2009
              
              
              2008US$
              
              
              US$Due
      to related parties:Due
      to Directors of the Group
              
              
              29,252
              
              
              
              33,156Due
      to related companies
              
              
              10,429,470
              
              
              
              730,833Loan
      payable to a related party
              
              
              73,129
              
              
              
              253,410Total
              
              
              10,531,851
              
              
              
              1,017,399
 
 Due
from/to Directors of the Group
 
 As part
of normal business operation, Directors of the Group will from time to time
incur routine expenses on behalf of the Group, or receive general advances from
the Group for settlement of Group expenses, such as travel, meals, and other
business expenses.  The amounts advanced are settled periodically
throughout the year and amounts outstanding at year end are short term in nature
and due on demand. During 2009, advance to directors aggregated to $272,170 and
repayments to directors aggregated to $248,107. During 2008, advance to
directors aggregated to $163,499 and repayments to directors aggregated to
$181,343.
  F-34
 
 As of
December 31, 2009 and 2008, the Group had the following balances due from its
Directors:
 
 2009
              
              
              2008US$
              
              
              US$Leng
      You-bin
              
              33,823
              
              
              -Liu
      Hua
              
              
              27,155
              
              
              
              28,483Directors
      of subsidiaries in the PRC
              
              
              -
              
              
              
              4,528Total
              
              
              60,978
              
              
              
              33,011
 
 As of
December 31, 2009 and 2008, the Group had the following balances due to its
Directors:
 
 2009
              
              
              2008US$
              
              
              US$Leng
      You-Bin
              
              
              29,252
              
              
              
              32,608Directors
      of subsidiaries in the PRC
              
              
              -
              
              
              
              548Total
              
              
              29,252
              
              
              
              33,156
 
 Due
from/to related companies
 
 Mr. Leng
You-Bin is the Chairman, Chief Executive Officer, President, and General Manager
of the Group.  During the years ended December 31, 2009 and 2008, the
Group sold goods to companies owned by close family members of Mr. Leng You-Bin,
including one company, Heilongjiang Feihe Yuanshengtai Co., Limited, which was
directly owned by Mr. Leng You-Bin, on an arm’s length basis.  During
2009, Mr. Leng You-Bin and the shareholder group transferred this entity to a
new shareholder group consisting of unrelated third parties and one former
employee of the Company.
 For the
years ended December 31, 2009 and 2008, the Group made sales of goods to the
following related companies:
 
 2009
              
              
              2008US$
              
              
              US$Tangshan
      Feihe Trading Company
              
              
              5,750,743
              
              
              
              1,216,948Qinhuangdao
      Feihe Trading Company
              
              
              411,312
              
              
              
              476,397Dalian
      Hewang Trading Company
              
              
              227,392
              
              
              
              90,629Total
              
              
              6,389,447
              
              
              
              1,783,974
 
 As of
December 31, 2009 and 2008, the Group had the following balances due from its
related companies:
 
 2009
              
              
              2008US$
              
              
              US$Tangshan
      Feihe Trading Company
              
              
              1,897,078
              
              
              
              177,524Qinhuangdao
      Feihe Trading Company
              
              
              230,187
              
              
              
              54,944Total
              
              
              2,127,265
              
              
              
              232,468
 
 F-35
  As of
December 31, 2009 and 2008, the Group had the following balances due to its
related companies consisting primarily of advances on cattle purchases and
payments for goods received in advance:
 
 2009
              
              
              2008US$
              
              
              US$Heilongjiang
      Feihe Yuanshengtai Co., Ltd
              
              
              10,428,246
              
              
              
              729,480Dalian
      Hewang Trading Company
              
              
              1,224
              
              
              
              1,353Total
              
              
              10,429,470
              
              
              
              730,833
  Loan
payable to related parties
 
 The Group
has an outstanding loan payable to a charitable organization set up by Leng
You-Bin for under privileged children in the Heilongjiang province of the PRC,
of $73,129 and $253,410  at December 31, 2009 and 2008,
respectively.  The loan is unsecured and bears interest at 5.85% per
annum and is payable on demand.
 
 20.ADVANCES
      FROM EMPLOYEES
 
 Advances
from employees represent temporary funding by employees to improve cash flow and
working capital of the Company. The advances were unsecured, interest free and
repayable within one year.
 
 21.EMPLOYEE
      BENEFITS
 
 The
full-time employees of the Company’s subsidiaries that are incorporated in the
PRC are entitled to staff welfare benefits, including medical care, welfare
subsidies, unemployment insurance and pension benefits. These companies are
required to accrue for these benefits based on certain percentages of the
employees’ salaries in accordance with the relevant regulations, and to make
contributions to the state-sponsored pension and medical plans out of the
amounts accrued for medical and pension benefits. The total amounts charged to
the consolidated statements of operations and comprehensive income for such
employee benefits amounted to approximately $2,396,382 and $1,893,632 for the
years ended December 31, 2009 and 2008, respectively. The PRC government is
responsible for the medical benefits and ultimate pension liability to these
employees.
  Effective
January 1, 2007, the Company established the American Dairy Inc
401(k) Profit Sharing Plan and Trust (the “Plan”).  The Plan is a
discretionary defined contribution plan and covers substantially all employees
who have attained the age of 21, have completed at least six months of service,
and have worked a minimum of 1,000 hours in the past Plan or anniversary
year.
 
 Under
provisions of the Plan, the Company, for any plan year, has contributed an
amount equal to 100% of the participant’s contribution or 5% of the
participant’s eligible compensation, whichever is less.  The Company may,
at its own discretion, make additional matching contributions to
participants.  Company contributions, net of forfeitures, amounted to
$32,599 and $12,545 in the years ended December 31, 2009 and 2008,
respectively.
 
 22.DEBT
 
 1) Short
term debt
 
 In June
2007, pursuant to a notes purchase agreement and related agreements, the Company
issued an aggregate principal amount of $60,000,000 and $20,000,000,
respectively, in 1% Guaranteed Senior Secured Convertible Notes due 2012 (the
“2012 Notes”).  The 2012 Notes accrued interest at an annual rate of
1.00%, payable in cash on June 1 and December 1 of each year, and
matured on the five-year anniversary of their issuance.  The principal
amount of the 2012 Notes was convertible into common stock at the option of the
holder at an initial conversion price of $24.00 per share. On March 1, 2008,
pursuant to a semi-annual reset provision based on the volume-weighted 30-day
average trading price of the ordinary shares, the conversion price of the 2012
Notes was reset to $12.00 per share.
  F-36
 
 The notes
purchase agreement contained representations, warranties, indemnities and
covenants and the indentures under which the 2012 Notes were issued contained
covenants restricting the Company’s operations, including restrictions on its
use and maintenance of its properties, incurrence of indebtedness, declaration
or payment of dividends or other distributions, repurchase of capital stock or
subordinated obligations, making investments, incurrence of liens, sale of
assets, use of proceeds from the sale of the 2012 Notes, and engaging in
business unrelated to dairy and related food products.
 
 On
November 12, 2008, the Company entered into a supplemental indenture with
respect to the 2012 Notes.  The supplemental indenture granted each
holder of the 2012 Notes the option to elect that the Company repurchase all or
any portion of such holder’s 2012 Notes at a repurchase price of 115% of the
principal amount of 2012 Notes for which such holder elected early
repurchase.  On November 13, 2008, the holders of 100% of the
outstanding 2012 Notes elected to exercise the early repurchase option with
respect to all of the outstanding 2012 Notes, which obligated the Company to
repurchase the 2012 Notes for an aggregate amount of $92,000,000 in accordance
with the terms and conditions of the supplemental
indenture.  Accordingly, the Company repurchased all of the 2012
Notes, of which $11,000,000 was paid in November 2008, and $80,450,000 was paid
in 2009. A gain on waived interest of $550,000 due to early repayment was
recorded as other income.
 
 In
accordance with the FASB authoritative guidance on accounting for modifications
or exchanges of debt instruments, the terms of the 2012 Notes under the November
12, 2008 supplemental indenture were substantially different from the previous
terms of the 2012 Notes. Therefore, this transaction was accounted for as an
extinguishment of debt. This resulted in $30,497,268 of gain recognized in the
consolidated statements of operations and comprehensive income in the year ended
December 31, 2008.
 
 The
embedded derivatives contained in the original terms of the 2012 Notes were also
extinguished on November 12, 2008.  However, prior to extinguishment,
the fair value of the derivatives measured using the using the Monte Carlo
simulation approach was $58,340,781, resulting in a loss of $8,321,481 recorded
in the statements of operations and comprehensive income during the year ended
December 31, 2008.  The Monte Carlo simulation approach is a level 2
approach in the fair value valuation methodology hierarchy under the
guidance.  Under this approach, the required inputs are the spot price
of the stock at the valuation date, the annual drift (based on risk-free rate
under risk-neutral framework), the term, the volatility and the dividend
yield.
 
 In
connection with the issuance of the 2012 Notes, the Company entered into a
registration rights agreement and an investor rights agreement with holders of
the 2012 Notes.  The registration rights agreement requires the
Company to file certain registration statements and provides that the Company’s
failure to do so will result in additional interest accruing at an annual rate
of 0.25% for the first 90 days and thereafter at an annual rate of 0.50%. As
part of the first repurchase payment, the Company also paid $407,000 in accrued
and unpaid interest and accrued registration rights penalty to holders of the
2012 Notes during 2008.
 
 Costs of
$124,354 associated with the 2012 Notes restructuring were capitalized as a
deferred charge and are shown as an other asset in the consolidated balance
sheets as of December 31, 2008.  These costs were amortized over the
term of the restructured Notes.  Amortization of $107,396 and $16,958
was charged to expense during the years ended December 31, 2009 and 2008,
respectively.
  December
      31,
                2009
              
              
              December
      31,
                2008US$
              
              
              US$Short
      term debt due 2009Principal
              
              
              -
              
              
              
              81,000,000Less:  Note
      discount
              
              
              -
              
              
              
              (7,190,107
              )-
              
              
              
              73,809,893
 
 F-37
 2) Long term
debt
 
 Long term
debt comprised of the following as of December 31, 2009 and 2008:
 
 December
      31,
                2009
              
              
              December
      31,
                2008US$
              
              
              US$Loan
      payable to a bank in the PRC, bearing interest at 5.76%, secured by
      buildings and payable in monthly installments of $9,078, including
      interest. The Loan commenced in 2004 and was repaid in April
      2009
              
              
              -
              
              
              
              407,597Loan
      payable to a bank in the PRC, bearing interest at 7.47%, unsecured,
      guaranteed by Feihe Dairy (i), and payable on maturity. The Loan commenced
      in October 29, 2008 and matures on October 28, 2014
              
              
              3,861,230
              
              
              
              3,851,653Loan
      payable to a bank in the PRC, bearing interest at 7.47%, secured by
      biological assets, guaranteed by Feihe Dairy (i), and payable on maturity.
      The Loan commenced on October 29, 2008 and matures on September 24,
      2014
              
              
              3,928,509
              
              
              
              3,918,765Loan
      payable to a bank in the PRC, bearing interest at 7.47%, secured by
      biological assets, guaranteed by Feihe Dairy (i), and payable on maturity.
      The Loan commenced in October 29, 2008 and matures on September 25,
      2014
              
              
              4,004,563
              
              
              
              3,994,631Loan
      payable to a bank in the PRC, bearing interest at 5.94%, secured by
      biological assets, guaranteed by Feihe Dairy (i) and payable on maturity.
      The Loan commenced in June 29, 2009 and matures on October 28,
      2014
              
              
              6,907,798
              
              
              
              -Loan
      payable to a bank in the PRC, bearing interest at 5.94%, secured by
      biological assets, guaranteed by Feihe Dairy (i) and payable on maturity.
      The Loan commenced in March 27, 2009 and matures on October 28,
      2014
              
              
              3,850,992
              
              
              
              -Loan
      payable to a bank in the PRC, bearing interest at six months LIBOR plus
      1.95%, guaranteed by American Dairy Inc. The loan commenced in October 13,
      2009 and matures on October 13, 2014
              
              
              4,023,790
              
              
              
              -Loan
      payable to a bank in the PRC, bearing interest at 5.76%, secured by land
      use right, plant and machinery.  The Loan commenced in December
      24, 2009 and matures on December 24, 2014
              
              
              4,870,530
              
              
              
              -Loan
      payable to a bank in the PRC, bearing interest at 5.76%, guaranteed by
      Langfang Feihe and payable on maturity. The Loan commenced in December 24,
      2009 and matures on December 24, 2014
              
              
              8,292,753
              
              
              
              -Loan
      payable to a local government entity, bearing no interest, unsecured and
      payable on maturity.  The Loan commenced on January 29, 2008 and
      matured on December 31, 2009
              
              
              -
              
              
              
              992,09239,740,165
              
              
              
              13,164,738Less:
      current portion of long term debt
              
              
              (7,312,935
              )
              
              
              (4,018,704
              )32,427,230
              
              
              
              9,146,034
  
 (i)
              In
      connection with the purchase of long-lived fixed assets of Kedong Farms,
      Feihe Dairy guaranteed the loans payable to a bank in the PRC for a period
      of one year, beginning on October 29, 2008 and ending on October 28,
      2009.  The maximum potential amount under the terms of the
      guarantee was RMB 251,510,000.
 
 F-38
  Principal
payments due by year for the next five years and thereafter on long term debt
are as follows:
 
 Year ended December 31,
              
              Future
                repaymentsUS$2010
              
              
              7,312,9352011
              
              
              4,481,3672012
              
              
              -2013
              
              
              -2014
              
              
              27,945,86339,740,165
 
 In
October, 2009, the Company entered into a loan agreement with a bank in the PRC
for a principal amount of up to $9,227,851 for the purpose of financing the
purchase of certain equipment. As of December 31, 2009, there was $4,023,790 in
principal payable under this loan.  The loan bears interest at the
six-month LIBOR rate plus 1.95%, with principal payable in 10 equal semi-annual
installments and interest payable semi-annually. The loan agreement contains
certain customary events of default, including failure to pay any interest or
principal on the loan, failure to comply with any provision under the agreement,
the occurrence of certain insolvency events, and other material adverse
events.  The loan agreement also contains a financial covenant
requiring us to maintain a debt to earnings ratio.   For the last
quarter of 2009, the Company was in technical default of the financial
covenant.  The bank did not provide notice of default, waived the
technical default at December 31, 2009, and agreed to revise the financial
covenant to measure compliance on a 12-month rolling basis rather than quarter
by quarter.
  23.CONVERTIBLE
      DEBT
 
 Convertible
debt redeemable within one year consisted of the following as of December 31,
2009 and 2008:
 
 2009
              
              
              2008US$
              
              
              US$7.75%
      Convertible Notes due 2009, net of discount of $0 and $467,967 at December
      31, 2009 and 2008, respectively
              
              
              -
              
              
              
              17,732,033-
              
              
              
              17,732,033Less:
      current portion
              
              
              -
              
              
              
              (17,732,033
              )-
              
              
              
              -
 
 F-39
  On
October 3, 2006, pursuant to a subscription agreement, the Company issued an
aggregate principal amount of $18,200,000 in 7.75% Convertible Notes due 2009
(the “2009 Notes”) and warrants to purchase up to an aggregate of 251,000 shares
of Common Stock (the “Warrants”).  The value of the warrants of
$1,871,859 was recorded as a discount to the value of the 2009 Notes and was to
be amortized to interest expense over the term of the 2009 Notes.
  On
November 12, 2008, the Company entered into an agreement with respect to the
2009 Notes pursuant to which the Company issued to holders of the 2009 Notes an
aggregate amount of 216,639 shares of common stock ($2,881,299, excluding
$720,000 accrued at December 31, 2007) and such holders waived claims to
additional payments under the registration rights agreement relating to the 2009
Notes.  In connection with the agreement, the Company amended and
restated the 2009 Notes (the “New 2009 Notes”), amended and restated the
warrants issued therewith (the “New Warrants”), and amended the prior
registration rights agreement.
 
 In July,
August and October 2009, the holders of the 2009 Notes elected to convert the
2009 Notes into common stock.  In connection with these conversions,
$18.2 million in principal and approximately $4.3 million in accrued interest on
the 2009 Notes was converted into 1,549,122 shares of common stock at a
conversion price of $14.50 per share. No 2009 Notes remained outstanding as of
December 31, 2009.
 
 24.
      ACCRUED
      EXPENSES
 
 Accrued
expenses as of December 31, 2009 and 2008 consist of the following:
 
 2009
              
              
              2008US$
              
              
              US$Accrued
      selling expenses
              
              
              8,050,982
              
              
              
              6,802,837Other
      accrued expenses
              
              
              314,263
              
              
              
              3,817,5568,365,245
              
              
              
              10,620,393
 
 Accrued
selling expenses include advertising, transportation costs and some allocation
of sales department salaries.
 
 25.
      OTHER
      PAYABLE
 
 Other
payable as of December 31, 2009 and 2008 consists of the following:
 
 2009
              
              
              2008US$
              
              
              US$Payable
      for property and equipment
              
              
              12,220,117
              
              
              
              6,358,939Payable
      for leases
              
              
              1,082,590
              
              
              
              2,054,553Other
      tax payable
              
              
              1,989,165
              
              
              
              4,454,081Deposits
      from distributors
              
              
              1,604,165
              
              
              
              1,536Payable
      to Finance Bureau of Kedong
              
              
              1,462,587
              
              
              
              -Others
              
              
              5,334,993
              
              
              
              6,644,57223,693,617
              
              
              
              19,513,681
 
 F-40
  26.
      COMMON STOCK AND EQUITY
      TRANSACTIONS
 
 The
Company has 50,000,000 shares of authorized common stock with a par value $0.001
per share.
 
 (1)
During 2008, the Company had the following stock transactions:
 
 The
Company issued 3,000 shares of its common stock pursuant to the exercise of
warrants at an exercise price of $2.25 for a total consideration of
$6,750.
 
 The
Company issued 72,500 shares of common stock valued at $1,092,650, of which
$753,500 was issued for services provided by directors and $339,150 was issued
for services provided by employees.
 
 On
October 15, 2008, pursuant to the Company’s 2003 Stock Incentive Plan (the “2003
Plan”), an option to purchase 80,000 shares valued at $562,758 was granted to an
employee.  As the option vests one year from date of grant, $140,689
was allocated to the year ended December 31, 2008 using the straight line method
as described in Note 26(1).
 
 On
November 12, 2008, the Company issued to holders of the 2009 Notes 216,639
shares of common stock valued at $2,881,299, in connection with an agreement
reached with the holders to waive claims to additional payments under the
registration rights agreement relating to the 2009 Notes as described in Note
22(1).
 
 (2)
During 2009, the Company had the following stock transactions:
 
 The
Company recorded $422,069 of share-based compensation expense in general and
administrative expenses, in connection with an option to purchase 80,000 shares
valued at $562,758 granted to an employee on October 15, 2008.
 
 The
Company recorded $1,511,623 of share-based compensation expense in general and
administrative expenses, in connection with performance stock options to
purchase 2,073,190 shares valued at $22,106,218 granted to certain employees on
May 7, 2009.
 
 On July
1, July 6, August 17 and October 2, 2009, the holders of the 2009 Notes elected
to convert the 2009 Notes into common stock.  In connection with these
conversions, $18,200,000 in principal and $4,262,154 in accrued interest on the
2009 Notes was converted into 1,549,122 shares of common stock at a conversion
price of $14.50 per share.
 
 The
Company recorded $236,005 of share-based compensation expense in general and
administrative expenses, in connection with an option to purchase 50,000 shares
valued at $1,103,400 granted to an employee on October 15, 2009.
 
 The
Company recorded $26,409 of share-based compensation expense in general and
administrative expenses, in connection with an option to purchase 30,000 shares
valued at $565,900 granted to an employee on October 23, 2009.
  F-41
 
 (3)
During 2009, the Company had the following transactions related to redeemable
shares of common stock:
 
 On July
24, 2009, the Company entered into a Summary of Terms with Sequoia Capital China
Growth Fund I, LP and certain of its affiliates and designees (collectively,
“Sequoia”) in which Sequoia agreed to provide a 90-day bridge loan in the amount
of $16 million.  The bridge loan was funded on July 29,
2009.  On August 26, 2009, pursuant to a subscription agreement (the
“Subscription Agreement”) with Sequoia Company issued 2.1 million shares of its
common stock for an aggregate purchase price of $63 million, including $47
million in cash and the conversion of the $16 million bridge loan.  On
August 26, 2009, the Company also entered into a registration rights agreement
with Sequoia with respect to the shares.  Pursuant to the registration
rights agreement, the Company filed a registration statement covering the resale
of the securities issued or issuable pursuant to the subscription agreement,
which the SEC declared effective in October 2009.  The registration
rights agreement also granted demand and piggy-back registration rights to
Sequoia.
 
 Under the
terms of the Subscription Agreement, the common stock issued to Sequoia is
redeemable at the option of the holder if at any time after the third
anniversary of the issuance date the average the closing prices for shares of
the Company’s common stock for the period of fifteen (15) consecutive trading
days is less than $39 per share for an amount equal to the issuance price plus a
5% annual compounded return, subject to certain adjustments if there is a
performance adjustment event.  Due to the redeemable nature associated
with the common stock issued to Sequoia, the Company has classified the shares
of common stock as temporary equity.  When and if the redemption right
expires or when redemption becomes improbable, the shares of common stock will
be classified as shareholders’ equity.  The amount that would have been
paid if the redemption had occurred on December 31, 2009 is $63 million plus
interest based on LIBOR plus 5% accrued from inception.
 
 In the
Subscription Agreement, if the Company fails to meet certain earnings per share
targets for 2009 or 2010, the Company agreed to issue additional shares of
Common Stock to Sequoia, for no additional consideration, in proportion to the
amount by which the Company fails to meet the target, up to a maximum amount of
525,000 shares (as adjusted for stock splits, dividends, and similar
events). This right has been accounted for as an embedded derivative which
should be bifurcated from the host contract and, therefore, the Company recorded
a liability equal to the fair value in accordance with applicable authoritative
guidance, which was $9,220,000 at the date of inception.  The
derivative was measured using a Monte Carlo Simulation approach, which is a
Level 2 approach in the fair value hierarchy under the guidance, as discussed in
Note 22.  At December 31, 2009, the provision no longer meets criteria
for embedded derivative classification.  The Company recorded a loss
of $2,162,000, relating to the change in fair value of the embedded derivative
in other income (expense) in the consolidated statements of operations and
comprehensive income for the period ended December 31, 2009.  Since
the Company failed to meet these targets for 2009, the Company must issue
525,000 performance adjustment shares to Sequoia and has recorded a liability as
of December 31, 2009 in the amount of $11,382,000 for the issuance of
shares.
 
 The
rights, privileges and powers associated with the redeemable shares of common
stock issued to Sequoia are the same as those enjoyed by other holders of the
Company’s common stock (including without limitation the right to receive
dividends and any adjustments as noted above).
 
 27.
      OPTION
      PLAN AND WARRANTS
 
 (1)  2009
Stock Incentive Plan
  On May 7,
2009, the Company’s Board of Directors approved the Company’s 2009 Stock
Incentive Plan (the “2009 Plan”). All awards under the 2009 Plan will be subject
to shareholder approval at the Company’s 2009 Annual Meeting of Shareholders.
The Board of Directors approved the 2009 Plan in order to permit grants of
certain equity incentives, including incentive stock options, nonqualified stock
options, restricted stock awards, performance stock awards and other
equity-based compensation, to certain employees, directors, officers,
consultants, agents, advisors and independent contractors of the Company and its
subsidiaries. The total number of shares of the Company’s common stock initially
authorized for issuance under the 2009 Plan is 2,000,000 plus any authorized
shares that, as of May 7, 2009, were available for issuance under the Company’s
2003 Stock Incentive Plan. Shares issued under the 2009 Plan may be drawn from
authorized but unissued shares or shares now held or subsequently acquired by
the Company as treasury shares.
  F-42
 
 On May 7,
2009, the Compensation Committee of the Board of Directors granted new,
non-statutory performance stock options to certain officers and employees of the
Company under the 2009 Plan. In the aggregate, 2,073,190 performance stock
options were granted, each with an exercise price of $16.86 and a contractual
life of 6 years. The performance stock options will vest in two equal
tranches on the fourth and fifth anniversaries of the date such options were
granted, provided that the recipient has met the performance criteria
established in accordance with the 2009 Plan and the option holder continues to
be an employee of, or service provider to, the Company or its subsidiaries at
the time of the relevant vesting dates. If the recipient fails to satisfy the
performance goals related to the vesting date, the shares that would otherwise
vest on that date will be forfeited and cancelled.
 
 During
2009, none of the performance criteria set for the year ended December 31, 2009
were met. Accordingly, the options granted were to be forfeited and cancelled.
In December, 2009, management amended the performance and vesting terms to limit
the amount of shares that would otherwise be forfeited and cancelled due to the
failure to satisfy the annual performance goals to one-third of stock options
granted for each of fiscal year 2009, 2010, and 2011. The incremental cost or
benefit resulting from the modification is measured as the excess of the fair
value of the modified award over the fair value of the original award
immediately before its terms are modified and the effect on the number of
instruments expected to vest. As a result of this modification, $1,511,623 in
incremental compensation cost was recognized. 421 employees were affected by
this modification.
 
 The fair
value of the option awards are estimated on the date of grant using the
Black-Scholes option valuation model to be $22,106,218, of which $1,511,623 was
recorded as compensation expense in general and administrative expenses during
the year ended December 31, 2009, in accordance with the graded vesting
attribution method.  The valuation was based on the assumptions noted
in the following table.
 
 Expected
      volatility
              
              
              74.94
              %Expected
      dividends
              
              
              0
              %Expected
      term (in years)
              
              
              5.25Risk-free
      rate
              
              
              2.27
              %
 
 On
October 23, 2009, the Compensation Committee of the Board of Directors granted
new, non-statutory performance stock options to certain officers and employees
of the Company under the 2009 Plan. In the aggregate, 30,000 performance stock
options were granted, each with an exercise price of $27.69 and a contractual
life of 6 years. The performance stock options will vest in two equal
tranches on the fourth and fifth anniversaries of the date such options were
granted, provided that the recipient has met the performance criteria
established in accordance with the 2009 Plan and the option holder continues to
be an employee of, or service provider to, the Company or its subsidiaries at
the time of the relevant vesting dates. If the recipient fails to satisfy the
performance goals related to the vesting date, the shares that would otherwise
vest on that date will be forfeited and cancelled.
 
 The fair
value of the option awards are estimated on the date of grant using the
Black-Scholes option valuation model to be $565,900, of which $26,409 was
recorded as compensation expense in general and administrative expenses during
the year ended December 31, 2009, in accordance with the graded vesting
attribution method.  The valuation was based on the assumptions noted
in the following table.
 
 Expected
      volatility
              
              
              83
              %Expected
      dividends
              
              
              0
              %Expected
      term (in years)
              
              
              5.2
              5Risk-free
      rate
              
              
              2.59
              %
 
 F-43
  (2)  2003
Stock Incentive Plan
 
 Effective
May 7, 2003, the Company adopted and approved its 2003 Plan, which reserved
3,000,000 shares of common stock for issuance under the Plan. The Plan allows
the Company to issue awards of incentive non-qualified stock options, stock
appreciation rights, and stock bonuses to directors, officers, employees and
consultants of the Company which may be subject to restrictions. The Company
applies authoritative guidance issued by FASB regarding share-based payments in
accounting for the 2003 Plan, which requires that compensation for services that
a corporation receives through share-based compensation plans should be measured
by the quoted market price of the stock at the measurement date less the amount,
if any, that the individual is required to pay.  Compensation expense
for share-based compensation of $658,074 and $1,233,339 were recorded during the
years ended December 31, 2009 and 2008 related to the Plan.
  No stock
appreciation rights have been issued under the Plan.
 
 On
October 15, 2008, an option to purchase 80,000 shares was granted to an employee
that vests on the 12-month anniversary of the date of grant, conditioned upon
continued employment on such date, and have a contractual life of 4
years.  The fair value of the option award is estimated on the date of
grant using the Black-Scholes option valuation model to be $562,758, of which
$422,069 was recorded as compensation cost in the year ended December 31,
2009.  The valuation was based on the assumptions noted in the
following table.
 
 Expected volatility
              
              
              90.7
              %Expected dividends
              
              
              0
              %Expected term (in years)
              
              4Risk-free rate
              
              
              2.7
              %
 
 On
October 15, 2009, an option to purchase 50,000 shares was granted to an employee
that vests on the 12-month anniversary of the date of grant, conditioned upon
continued employment on such date, and have a contractual life of 4
years.  The fair value of the option award is estimated on the date of
grant using the Black-Scholes option valuation model to be $1,103,400, of which
$236,005 was recorded as compensation cost in the year ended December 31,
2009.  The valuation was based on the assumptions noted in the
following table.
 
 Expected volatility
              
              
              93
              %Expected dividends
              
              
              0
              %Expected term (in years)
              
              2.5Risk-free rate
              
              
              1.24
              %
 
 A summary
of option activity under the 2003 and 2009 Plans as of December 31, 2009 and
2008 and movement during the years then ended are as follows:
  Options
              
              Weighted
                average
                grant
      date
                fair
      value
              
              Weighted
                average
                exercise
      price
              
              Aggregate
                intrinsic
                value
              
              Weighted
                average
                remaining
                contractual
                termUS$
              
              US$
              
              US$Outstanding
      at January 1, 2008
              
              
              -
              
              -
              
              
              -
              
              -
              
              -Granted
              
              
              80,000
              
              7.03
              
              
              12.00Exercised
              
              
              -
              
              -
              
              
              -
              
              -
              
              -Forfeited
      or expired
              
              
              -
              
              -
              
              
              -
              
              -
              
              -Outstanding
      at December 31, 2008
              
              
              80,000
              
              7.03
              
              
              12.00
              
              243,200
              
              3.83Granted
              
              
              2,153,190
              
              11.04
              
              
              16.99Exercised
              
              
              -
              
              -
              
              
              -
              
              -
              
              -Forfeited
      or expired
              
              
              (748,536
              )
              10.66
              
              
              16.86
              
              -
              
              -Outstanding
      at December 31, 2009
              
              
              1,484,654
              
              11.02
              
              
              16.79
              
              7,443,232
              
              5.15Exercisable
      at December 31, 2009
              
              
              80,000
              
              7.03
              
              
              12.00
              
              774,400
              
              2.83
 
 F-44
  A summary
of the status of the Company’s non-vested options as of December 31, 2009 and
2008, and movements during the two years then ended are as follows:
 
 Options
              
              
              Weighted average
                granted date fair
                valueUS$Non-vested
      at January 1, 2008
              
              
              -
              
              
              
              -Granted
              
              
              80,000
              
              
              
              7.03Vested
              
              
              -
              
              
              
              -Forfeited
      or expired
              
              
              -
              
              
              
              -Non-vested
      at December 31, 2008
              
              
              80,000
              
              
              
              7.03Granted
              
              
              2,153,190
              
              
              
              11.04Vested
              
              
              (80,000
              )
              
              
              7.03Forfeited
      or expired
              
              
              (748,536
              )
              
              
              10.66Non-vested
      at December 31, 2009
              
              
              1,404,654
              
              
              
              11.25
 
 As of
December 31, 2009, there was a total of $11,399,488 of unrecognized compensation
cost related to non-vested share-based compensation granted under the 2003 and
2009 Plans.  The cost is expected to be recognized over various
periods of ranging from 10 months to 58 months.
 
 (3)  Warrants
 
 As of
December 31, 2009, the Company had 237,937, warrants outstanding at an average
exercise price of $14.50 per warrant. The warrants will expire on October 4,
2012.
 
 During
the years ended December 31, 2009 and 2008, 804,347 and 3,000 warrants,
respectively, were exercised at various exercise prices, resulting in proceeds
of $1,838,469 and $6,750, respectively, to the Company.
 
 Warrants
              
              
              Average
                exercise
                PriceUS$Outstanding
      warrants at January 1, 2008
              
              
              1,053,984
              
              
              
              5.05Exercised
              
              
              (3,000
              )
              
              
              2.25Expired
              
              
              -
              
              
              
              -Outstanding
      warrants at December 31, 2008
              
              
              1,050,984
              
              
              
              5.06Exercised
              
              
              (804,347
              )
              
              
              2.29Expired
              
              
              (8,700
              )
              
              
              1.50Outstanding
      warrants at December 31, 2009
              
              
              237,937
              
              
              
              14.50
  As of
December 31, 2009, there were 237,937 warrants outstanding with a weighted
average remaining contractual life of 2.8 years and a weighted average exercise
price of $14.50.
  F-45
 
 28.
      STATUTORY
      RESERVES
 
 Relevant
PRC laws and regulations permit payments of dividends by the Company’s PRC
subsidiaries and affiliates only out of their retained earnings, if any, as
determined in accordance with PRC accounting standards and regulations. In
addition, the statutory general reserve fund requires annual appropriations of
10% of net after-tax income should be set aside prior to payment of any
dividends.  As a result of these and other restrictions under PRC laws
and regulations, the PRC subsidiaries and affiliates are restricted in their
ability to transfer a portion of their net assets to the Company either in the
form of dividends, loans or advances.
 
 29.
      COMMITMENTS
      AND CONTINGENCIES
 
 (1)  Operating
lease arrangements
 
 The Group
has entered into leasing arrangements relating to office premises and computer
equipment that are classified as operating leases. There were no minimum future
rental payments under non-cancellable operating leases having remaining terms in
excess of one year.
 
 Rent
expenses incurred and expensed to consolidated statements of operations and
comprehensive income during the years ended December 31, 2009 and 2008 amounted
to $461,247 and $120,704 respectively.
 
 (2)  Capital
commitments
 
 Capital
commitments for purchase of property and equipment and biological assets as of
December 31, 2009 were approximately $28,916,801.
 
 (3)  Land
use rights
 
 All lands
in the PRC are state-owned and no individual land ownership rights
exist.  The Group has obtained land use rights certificates for the
land on which its facilities are located, except that Langfang Feihe is in the
process of obtaining such a certificate.
 
 Feihe
Dairy entered into a land use right contract on January 13, 2006 with the Bureau
of Land and Real Estate of Langfang Economic and Technology Development Zone in
Hebei Province, China, as amended by a supplementary contract dated January 13,
2006, which sets forth rights to use the land on which Langfang Feihe’s
facilities are located.  Feihe Dairy is applying to assign its rights
under the contract to Langfang Feihe.  Management believes that this
contract adequately evidences Langfang Feihe’s right to use the land, and that
there should be no legal obstacle to Langfang Feihe’s use of the land or
obtaining a certificate of land use right.  However, in the event that
Langfang Feihe fails to obtain such a certificate, there is a risk that the PRC
government may deem Langfang Feihe’s operations illegitimate or impose penalties
and fines.  While present, however, management believes that this
possibility is remote.
 
 (4)
Other assets
 
 Substantially
all of the Group’s assets and operations are located in the PRC.  The
Company is self-insured for all risks and carries no liability or property
insurance coverage of any kind.
 
 30.SEGMENTS
 
 In
accordance with authoritative guidance issued by FASB regarding disclosures
about segments of an enterprise and related information, based upon the manner
in which internal financial information is produced and evaluated by the Group’s
chief operating decision maker, the Group has determined that it has two
reportable segments: dairy products and dairy farm. The dairy products segment
produces and sells dairy products, such as wholesale and retail milk powders, as
well as soybean powder, rice cereal, walnut powder and walnut
oil.  The dairy farm segment operates the Group’s two dairy farms in
the PRC, construction of which was completed in the fourth quarter of
2009.  The Group’s two dairy farms provide milk to the
Group.  As the Group primarily generates its revenues from customers
in the PRC, no geographical segments are presented.
  F-46
 
 The
segment information for the reportable segments for the year ended December 31,
2009 is as follows:
  Dairy products
              
              
              Dairy farms
              
              
              Corporate
              
              
              TotalUS$
              
              
              US$
              
              
              US$
              
              
              US$Revenues
      from external customers
              
              
              281,694,080
              
              
              
              -
              
              
              
              -
              
              
              
              281,694,080Intersegment
      revenues
              
              
              -
              
              
              
              10,616,132
              
              
              
              -
              
              
              
              10,616,132Interest
      revenue
              
              
              294,815
              
              
              
              11,876
              
              
              
              -
              
              
              
              306,691Interest
      expenses
              
              
              909,469
              
              
              
              2,283
              
              
              
              5,227,400
              
              
              
              6,139,152Depreciation
      and amortization
              
              
              5,800,112
              
              
              
              2,680,230
              
              
              
              -
              
              
              
              8,480,342Income
      tax
              
              
              (2,501,269
              )
              
              
              -
              
              
              
              1,755,071
              
              
              
              (746,198
              )Segment
      profit (loss)
              
              
              30,634,469
              
              
              
              (2,788,614
              )
              
              
              11,081,075
              
              
              
              38,926,930Segment
      assets
              
              
              468,919,425
              
              
              
              151,112,953
              
              
              
              190,001,003
              
              
              
              810,033,381Goodwill
              
              
              1,784,331
              
              
              
              -
              
              
              
              -
              
              
              
              1,784,331Expenditures
      for segment assets
              
              
              35,591,324
              
              
              
              25,906,059
              
              
              
              -
              
              
              
              61,497,383
 
 The
segment information for the reportable segments for the year ended December 31,
2008 is as follows:
  Dairy products
              
              
              Dairy farms
              
              
              Corporate
              
              
              TotalUS$
              
              
              US$
              
              
              US$
              
              
              US$Revenues
      from external customers
              
              
              193,283,009
              
              
              
              -
              
              
              
              -
              
              
              
              193,283,009Intersegment
      revenues
              
              
              -
              
              
              
              91,299
              
              
              
              -
              
              
              
              91,299Interest
      revenue
              
              
              254,457
              
              
              
              5,242
              
              
              
              320,025
              
              
              
              579,724Interest
      expenses
              
              
              1,041,447
              
              
              
              183
              
              
              
              18,401,184
              
              
              
              19,442,814Depreciation
      and amortization
              
              
              4,936,788
              
              
              
              384,031
              
              
              
              -
              
              
              
              5,320,819Income
      tax
              
              
              3,536,373
              
              
              
              24,939
              
              
              
              5,823
              
              
              
              3,567,135Segment
      profit (loss)
              
              
              21,266,451
              
              
              
              (1,182,203
              )
              
              
              7,208,685
              
              
              
              27,292,933Segment
      assets
              
              
              385,536,806
              
              
              
              89,175,716
              
              
              
              188,428,520
              
              
              
              663,141,042Goodwill
              
              
              2,282,838
              
              
              
              -
              
              
              
              -
              
              
              
              2,282,838Expenditures
      for segment assets
              
              
              32,632,030
              
              
              
              27,602,841
              
              
              
              -
              
              
              
              60,234,871
  A
reconciliation of reportable segment revenues, profit, and assets, to the
Group’s totals is as follows:
 
 2009
              
              
              2008US$
              
              
              US$RevenuesTotal
      revenues for reportable segments
              
              
              281,694,080
              
              
              
              193,283,009Elimination
      of intersegment revenues
              
              
              (10,616,132
              )
              
              
              (91,299
              )Total
      consolidated revenues
              
              
              271,077,948
              
              
              
              193,191,710
  F-47
  2009
              
              
              2008US$
              
              
              US$ProfitTotal
      profit for reportable segments
              
              
              38,926,930
              
              
              
              27,292,933Elimination
      of dividend
              
              
              (23,499,920)
              
              
              
              (12,999,960
              )Elimination
      of unrealized profit
              
              
              -
              
              
              
              (156,212
              )Income
      from continuing operations before income taxes and minority
      interest
              
              
              15,427,010
              
              
              
              14,136,761
  2009
              
              
              2008US$
              
              
              US$AssetsTotal
      assets for reportable segments
              
              
              810,033,381
              
              
              
              663,141,042Elimination
      of intercompany receivables
              
              
              (249,519,304)
              
              
              
              (222,992,769
              )Elimination
      of investment
              
              
              (120,256,340)
              
              
              
              (125,424,661
              )Elimination
      of unrealized profit in inventories
              
              
              -
              
              
              
              (156,212
              )Total
      assets
              
              
              440,257,737
              
              
              
              314,567,400
  A
reconciliation of expenditures for segment assets is as follows:
 
 Dairy products
              
              
              Dairy farms
              
              
              Corporate
              
              
              TotalUS$
              
              
              US$
              
              
              US$
              
              
              US$2009Expenditures
      for segment assetsProperty
      and equipment
              
              
              13,962,989
              
              
              
              1,257,175
              
              
              
              -
              
              
              
              15,220,164Construction
      in progress
              
              
              21,628,335
              
              
              
              24,648,884
              
              
              
              -
              
              
              
              46,277,21935,591,324
              
              
              
              25,906,059
              
              
              
              -
              
              
              
              61,497,3832008Expenditures
      for segment assetsProperty
      and equipment
              
              
              6,691,893
              
              
              
              9,908,243
              
              
              
              -
              
              
              
              16,600,136Construction
      in progress
              
              
              25,940,137
              
              
              
              17,694,598
              
              
              
              -
              
              
              
              43,634,73532,632,030
              
              
              
              27,602,841
              
              
              
              -
              
              
              
              60,234,871
  31.
      SUBSEQUENT
      EVENTS
 
 a) Investment
in a new subsidiary
 
 On
January 22, 2010, a new subsidiary of the Company, Heilongjiang Flying Crane
Trading Company Limited was registered in Heilongjiang province, China. The
Company has paid RMB 2 million (or approximately $ 293,000 as of December 31,
2009) of total registered capital requirement of RMB 10,000,000 (or
approximately $ 1.5 million as of December 31, 2009), and will hold an 85%
equity interest. The main business of the new subsidiary will be sales of milk
and soybean related products.
  F-48
  32.
      QUARTERLY
      OPERATING RESULTS
 
 For the
fiscal year 2009 and 2008, quarterly operating results are summarized as
follows:
  Three Months Ended (Unaudited)Fiscal 2009
              
              December 31
              
              
              September 30
              
              
              June 30
              
              
              March 31US$
              
              
              US$
              
              
              US$
              
              
              US$Sales
              
              
              43,958,701
              
              
              
              72,110,934
              
              
              
              41,186,466
              
              
              
              113,821,847Gross
      (loss) profit
              
              
              (3,040,156)
              
              
              
              36,981,402
              
              
              
              24,132,413
              
              
              
              72,577,578Net
      (loss) income from continuing operations
              
              
              (26,977,937)
              
              
              
              11,141,097
              
              
              
              4,344,749
              
              
              
              27,783,569Net
      (loss) income from discontinued operations
              
              
              -
              
              
              
              -
              
              
              
              3,286,694
              
              
              
              3,214Net
      (loss) income
              
              
              (26,977,937)
              
              
              
              11,141,097
              
              
              
              7,631,443
              
              
              
              27,786,783Earnings
      per share - BasicNet
      (loss) income from continuing operations
              
              
              (1.24)
              
              
              
              0.57
              
              
              
              0.25
              
              
              
              1.61Net
      income from discontinued operations
              
              
              -
              
              
              
              -
              
              
              
              0.19
              
              
              
              -Net
      (loss) income
              
              
              (1.24)
              
              
              
              0.57
              
              
              
              0.44
              
              
              
              1.61Earnings
      per share - DilutedNet
      (loss) income from continuing operations
              
              
              (1.17)
              
              
              
              0.52
              
              
              
              0.24
              
              
              
              1.55Net
      income from discontinued operations
              
              
              -
              
              
              
              -
              
              
              
              0.16
              
              
              
              -Net
      (loss) income
              
              
              (1.17)
              
              
              
              0.52
              
              
              
              0.40
              
              
              
              1.55
  Three Months Ended (Unaudited)Fiscal 2008
              
              December 31
              
              
              September 30
              
              
              June 30
              
              
              March 31US$
              
              
              US$
              
              
              US$
              
              
              US$Sales
              
              
              79,623,405
              
              
              
              37,153,003
              
              
              
              37,314,648
              
              
              
              39,100,654Gross
      profit
              
              
              36,562,238
              
              
              
              12,467,649
              
              
              
              12,507,366
              
              
              
              14,473,471Net
      income (loss) from continuing operations
              
              
              21,963,267
              
              
              
              (22,119,836
              )
              
              
              3,552,514
              
              
              
              7,164,217Net
      income from discontinuedoperations
              
              
              3,147,283
              
              
              
              1,963,565
              
              
              
              1,244,737
              
              
              
              107,293Net
      income (loss)
              
              
              25,110,550
              
              
              
              (20,156,271
              )
              
              
              4,797,251
              
              
              
              7,271,505Earnings
      per share – BasicNet
      income (loss) from continuing operations
              
              
              1.29
              
              
              
              (1.31
              )
              
              
              0.21
              
              
              
              0.42Net
      income from discontinuedoperations
              
              
              0.18
              
              
              
              0.12
              
              
              
              0.07
              
              
              
              0.01Net
      income (loss)
              
              
              1.47
              
              
              
              (1.19
              )
              
              
              0.28
              
              
              
              0.43Earnings
      per share - DilutedNet
      income (loss) from continuing operations
              
              
              1.24
              
              
              
              (1.31
              )
              
              
              0.20
              
              
              
              0.40Net
      income from discontinuedoperations
              
              
              0.18
              
              
              
              0.12
              
              
              
              0.07
              
              
              
              0.01Net
      income (loss)
              
              
              1.42
              
              
              
              (1.19
              )
              
              
              0.27
              
              
              
              0.41
  F-49