**U.S.
      Securities and Exchange Commission**


Washington,
      D.C. 20549


**Form
      10-K/A**


**(Amendment
      No. 1)**




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


OF
      1934
      for the fiscal year ended December 31, 2005




**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: 0-27351*





**American
      Dairy, Inc.**


(Exact
      name of registrant as specified in its charter)






Utah
            
            87-0445575(State
                or other jurisdiction
                of
            
            (I.R.S.
                Employer
              Identification
                No.)Incorporation
                or
                organization)




C-16
      Shin
      Chen International Building


No.
      10,
      Jiu-shen Road, Zho Yan Chu, Beijing


The
      People's Republic of China





(Address
      of principal executive offices)




Registrant's
      telephone number, including area code: 011-0452-4312688




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






Title
                of each class
            
            Name
                of each exchange on which
                registeredCommon
                Stock
            
            NYSE
                Archipelago Exchange
                (ArcaEx)





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




N/A(Title
                of class)




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




1


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. o




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
      o 
Non-accelerated
      filer 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




State
      the
      aggregate market value of the voting and non-voting common equity held by
      non-affiliates computed by reference to the price at which the common equity
      was
      last sold, or the average bid and asked price of such common equity, as of
      the
      last business day of the registrant's most recently completed second fiscal
      quarter closing price: $29,020,324.




**APPLICABLE
      ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY**


**PROCEEDINGS
      DURING THE PRECEDING FIVE YEARS:**




Indicate
      by check mark whether the registrant has filed all documents and reports
      required to be filed by Section 12, 13 or 15(d) of the Securities Exchange
      Act
      of 1934 subsequent to the distribution of securities under a plan confirmed
      by a
      court. o Yes 
o
      No




(APPLICABLE
      ONLY TO CORPORATE REGISTRANTS)




Indicate
      the number of shares outstanding of each of the registrant's classes of common
      stock, as of the latest practicable date: the number of shares of the
      registrant's common stock outstanding as of March 29, 2006 was 14,132,824
      shares.




**DOCUMENTS
      INCORPORATED BY REFERENCE**




None




2




**EXPLANATORY
      NOTE**








American
        Dairy, Inc. is filing this Form 10-K/A to amend
        certain sections of its Form 10-K for the year ended December 31, 2005. We
        originally filed our Form 10-K for the year ended December 31, 2005 (the
        “Original Filing”) on March 31, 2006. Subsequent to that date, we have received
        comments from the Securities and Exchange Commission to the Original Filing,
        as
        well as to our Quarterly Reports on Form 10-Q for the three months ended
        March
        31, 2006 and September 30, 2005. We have filed amendments to these reports
        as
        well. We are amending the Original Filing solely to comply with the Securities
        and Exchange Commission’s comments only in the financial statement, notes
        thereto, Part I, Item 1., Business, and Item 1A, Risk Factors, Part II, Item
        7.,
        Management’s Discussion and Analysis, and Item 9A., Disclosure Controls and
        Procedures and the management certificates appearing as Exhibits 31.1, 31.2
        and
        32 to this amendment. This Form 10-K/A does not otherwise amend the Original
        Filing.





**INDEX**


PART
                    IItem
                    1.
                Business
                4Item
                    1A.
                Risk
                    Factors
                11Item
                    2.
                Properties
                15Item
                    3.
                Legal
                    Proceedings
                15Item
                    4.
                Submission
                    of Matters to a Vote of Security Holders
                15PART
                    IIItem
                    5.
                Market
                    for the Company’s Common Stock and Related Stockholder
                    Matters
                16Item
                    6.
                Selected
                    Financial Data
                17Item
                    7.
                Management's
                    Discussion and Analysis of Financial Condition and Results of
                    Operations
                18Item
                    8.
                Financial
                    Statements and Supplementary Data
                25Item
                    9A.
                Disclosure
                    Controls and Procedures
                27PART
                    IIIItem
                    10.
                Directors
                    and Executive Officers of the RegistrantItem
                    11.
                Executive
                    Compensation
                29Item
                    12.
                Security
                    Ownership of Certain Beneficial Owners and Management and Related
                    Stockholder Matters
                30PART
                    IVItem
                    15.
                Exhibits,
                    Financial Statement Schedules


3


**PART
      I**





**Item
      1. Business.**




**General**




American
      Dairy, Inc. was incorporated under the corporate laws of the State of Utah
      on
      December 31, 1985, originally with 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, American Dairy completed the acquisition of 100% of the issued
      and
      outstanding capital stock of American Flying Crane Corporation (formerly called
      American Dairy Holdings, Inc.) ("AFC"), a Delaware corporation. As a result,
      AFC
      become a wholly-owned subsidiary of American Dairy. In addition, American Dairy
      amended its Articles of Incorporation to change its name to "American Dairy,
      Inc." and completed a one-for-nineteen (1-for-19) reverse split of its Common
      Stock.  For
      financial reporting purposes, this transaction was treated as a recapitalization
      of AFC and the historical figures prior to May 7, 2003 represent the activities
      of AFC. AFC is engaged in the business of processing and wholesale sale of
      milk
      powder and other related products.





AFC
      holds
      100% of the issued and outstanding capital of Heilongjiang Feihe Dairy Co.,
      Limited ("Feihe Dairy") in The People's Republic of China. The principal
      activity of Feihe Dairy is the production and distribution of milk powder and
      other dairy products. Feihe Dairy has three subsidiaries, BaiQuan Feihe Dairy
      Co., Limited (of which it owns 100% of the registered capital and which is
      engaged in the production and supply of processed milk and soybean products
      for
      Feihe Dairy), Beijing Feihe Biotechnology Scientific and Commercial Co., Limited
      (of which it owns 95% of the registered capital, the other 5% being held in
      a
      trust for American Dairy, and which is the marketing company for Feihe Dairy)
      and Shanxi Feihesantai Biotechnology Scientific and Commercial Co., Limited
      ("Shanxi") (of which it owns 60% of the registered capital and which was
      originally formed to develop and operate a walnut processing
      plant).





American
      Dairy purchased all of the outstanding capital stock of AFC from its
      stockholders in exchange for 9,650,000 restricted shares (post-split) of the
      common stock of American Dairy. In addition to the shares issued as
      consideration for the merger, at the time of the closing, AFC paid a dividend
      in
      the approximate amount of $860,000 to its sole shareholder as an adjustment
      for
      the significant increase in value in AFC which occurred between the signing
      of
      the agreement and the closing. Pursuant to the written consent of the
      stockholders holding approximately 66% of the outstanding common stock of
      American Dairy, the stockholders approved:





1.
      an
      amendment to the Articles of Incorporation of American Dairy to change its
      corporate name to "American Dairy, Inc.";





2.
      a
      one-for-nineteen (1-for-19) reverse split of the Common Stock of American Dairy;
      and





3.
      the
      establishment of its 2003 Stock Incentive Plan covering 3,000,000 shares of
      Common Stock for its key employees, including officers, employees, directors
      and
      consultants.





4


**Current
      Corporate Structure**




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


ADY|
                |
                |
                ||
                |
                |
                |100%
                100%
                100%
                100%|
                |
                |
                ||
                |
                |
                |V
                V
                V
                VLang
                    Fang
                Gan
                    Han
                American
                    Flying
                ShanxiFeiHe
                FeiHe
                Crane
                FeihesantaiFeihesantai
                
                ||100%||VHeilongjiang
                    FeiHeDairy


|
              |
              ||
              |
              |100%
              95%
              5%
                  Leng YOUBIN|
              |
              ||
              |
              ||
              V
              VV
 Bai
                  Quan
              BeijingFeiHe
              FeiHe





**Heilongjiang
      Feihe Dairy Co., Limited and Subsidiaries**





Heilongjiang
      Feihe Dairy Co., Limited ("Feihe Dairy") and its subsidiaries are companies
      organized under the laws of The People's Republic of China. The history of
      Feihe
      Dairy commenced in 1962 when its predecessor, Heilongjiang Zhaoguang Hongguang
      Dairy Plants ("Hongguang Dairy Plant") was established as a wholly - owned
      State
      Enterprise, whose principal activities were the production and distribution
      of
      powdered milk in China. The Hongguang Dairy Plant was located at Zhaoguang
      Livestock Farm of Zhaoguang Agro-Cultivated Bureau, its production capability
      was five tons a day and its main sales territory was Shangdong Province.





In
      1982,
      Heilongjiang Zhaoguang Dairy Plants ("Zhaoguang Dairy"), another State
      Enterprise, was established at Zhaoguang Plantation near BeiAn City. In 1984,
      Hongguang Dairy Plants and Zhaoguang Dairy were merged into Heilongjiang
      Zhaoguang Dairy Plants. The State continued to retain ownership of the merged
      Heilongjiang Zhaoguang Dairy Plants.





In
      1997,
      the merged Heilongjiang Zhaoguang Dairy Plants was further reorganized and
      its
      name changed to Heilongjiang Feihe Dairy Group Limited. In February 2000,
      Heilongjiang Feihe Dairy Group Limited completed its registered capital
      restructuring to become a private company with registered capital of
      $894,226.





In
      March
      2001, the restructured Heilongjiang Feihe Dairy Group Limited changed its name
      to its present name of Heilongjiang Feihe Dairy Co., Limited and acquired all
      of
      the fixed assets (including land use rights, plant and equipment and factory
      buildings) of Kedong Gongmu Dairy Plants. Heilongjiang Sanhao Dairy Co., Limited
      ("Sanhao Dairy") was incorporated on March 28, 2001 with registered capital
      of
      $433,110. Feihe Dairy owned 99% of Sanhao Dairy and Fu Man Guo held the
      remaining 1% in trust for Feihe Dairy. Under a Sale and Purchase Agreement
      dated
      February 6, 2001 between Feihe Dairy and Kedong County Economic Committee,
      Feihe
      Dairy agreed to acquire all the fixed assets including land use rights from
      Kedong Gongmu Dairy Plants at a consideration of $364,269. Following the
      incorporation of Sanhao Dairy, Feihe Dairy, as its contribution towards the
      registered capital, injected all the fixed assets from Kedong Gongmu Dairy
      Plants, except for its land uses rights to 47,640 square meters of land, into
      Sanhao Dairy, plus cash of $68,841.





5


In
      August
      2001, Feihe Dairy's new production facilities in Kedong County commenced
      production of milk powder.





During
      2004, American Dairy merged Sanhao Dairy into BaiQuan Feihe Dairy Co., Limited
      and consolidated their operations.





During
      April 2004, American Dairy established a 60% owned subsidiary called Shanxi
      Feihesantai Biotechnology Scientific and Commercial Co., Limited ("Shanxi
      Feihesantai"), a limited liability company registered in Shanxi Province in
      The
      People's Republic of China. The remaining 40% owner of Shanxi Feihesantai is
      Licheng Shantia Technology Enterprises Limited, an unaffiliated company. The
      business of Shanxi Feihesantai is the production and distribution of walnut
      power and other walnut products.





During
      June 2005, American Dairy purchased a milk powder processing facility from
      Nutricia Nutritionals Co. of Heilongjiang Province for $7,300,000 and its
      inventory for $130,000. American Dairy also has acquired 19 milk collection
      stations in this transaction.





**Principal
      Products**




Our
      products fall into three main product categories, milk powder, soybean powder
      and walnut products.




**Milk
      Powder**





This
      is
      our primary product and itself is divided into several sub-categories. We
      produce milk powder for babies and young children formulated for 0 to six
      months, six months to one year, one to three years and three to five years
      of
      age. We also produce milk powder for students and for the middle aged and
      elderly population.





**Soybean
      Powder**





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





**Walnut
      Powder and Other Products**





We
      produce other auxiliary products which we market in conjunction with our baby
      milk powder as well as to health-conscious adults. These products include walnut
      powder, walnut dew, walnut oil and rice powder/rice cereal.





**Sources
      of Milk**





Under
      supply arrangements with numerous small dairy farmers who have cattle grazing
      rights and use rights to approximately 514,640 acres of land in Kedong County
      in
      northeastern China, American Dairy has been able to receive supplies of raw
      milk
      without having to make capital investments in farms and cattle. Approximately
      27% of this acreage is arable pasture land, and approximately 30% is planted
      with beans and corn. Historically, the milk industry in China has been very
      fragmented and segmented with most production being generated by farmers owning
      and milking one to ten cows.





**Milk
      Processing Facilities**





American
      Dairy has the following principal operating milk powder production and packaging
      plants:





**Kedong
      I (Sanhao Dairy)**





Located
      in Kedong County in the City of QiQiHaEr, in Heilongjiang Province, China,
      American Dairy acquired this plant in March 2001 for $461,632. The land is
      approximately 47,640 square meters. The plant buildings have approximately
      4,500
      square meters of production space and 720 square meters of office space. The
      plant is approximately 14 years old. Sanhao Dairy has approximately 236
      production and packaging employees at this plant and has a capacity of 50 tons
      per day.





6


**BaiQuan
      Feihe Dairy**





American
      Dairy acquired this plant in January 2003 for $700,483. Additional land was
      subsequently acquired for $293,450 in March 2004. The land is approximately
      40,000 square meters. The plant building has approximately 5,458 square meters
      of production space and 800 square meters of office space, and is approximately
      15 years old. BaiQuan Dairy has approximately 62 production and packaging
      employees and has a capacity of 100 tons per day.




**Kedong
        II**





American
      Dairy began building a new milk powder processing plant during 2004 in close
      proximity to its Sanhao Dairy plant in Kedong County. We acquired the land
      use
      rights to this location for $400,966 and entered into a construction contract
      to
      build the new plant for approximately $4,200,000 (Rmb. 34,866,000). We incurred
      construction costs and ordered new milk powder processing machines and equipment
      from suppliers at a cost of $10,757,620 through December 31, 2005. This
      new
      plant was completed in December 2005 and has a capacity of 300 tons per day.





**Numico**





During
      2005, American Dairy entered into an Asset Purchase Agreement with Nutricia
      Nutritionals Co., Ltd. of Heilongjiang ("Nutritionals") in China. Nutritionals
      is a wholly-owned subsidiary of Royal Numico N.V., a public limited liability
      company organized in the Netherlands. Pursuant to the Agreement, Feihe Dairy
      acquired substantially all of the assets of Nutritionals for $7,300,000 and
      its
      inventory for $130,000. The assets are comprised primarily of the land use
      rights and buildings of Nutritionals' milk powder plant in Heilongjiang Province
      in the PRC and all of its milk powder processing equipment at its plant. The
      Company also acquired approximately 19 milk collection stations for the
      collection of raw milk to supply the processing plant. This milk powder plant
      is
      capable of processing approximately 8,100 tons of raw milk per month into
      approximately 1,620 tons of milk powder per month. the milk powder plant in
      Heilongjiang Province which Feihe Dairy acquired from Nutricia Nutritionals
      Co.,
      Ltd. in 2005 has a capacity of 270 tons per day. The acquisition increased
      the
      production capacity of American Dairy's milk powder operations by approximately
      60%.





The
      combined capacity of all of these plants is 720 tons per day.





The
      existing production facilities of American Dairy employ approximately 578 total
      production personnel.




All
      aspects of production of American Dairy's products are based on traditional
      practices designed to yield premium quality, wholesome and superior tasting
      foods. Because of the consistent quality of the milk powder products of American
      Dairy, it was awarded an ISO9002 quality Assurance Certificate in October 2000.
      In accordance with the requirements of ISO9002, American Dairy established
      a
      "Quality Assurance Handbook" that provides standardized requirements and
      procedures regarding the purchase of raw milk, its milk processing systems,
      storage and packaging standards, the distribution of its products, and employee
      training.





**Milk
        Processing**




American
      Dairy believes that through purchasing raw milk locally and employing minimal
      processing techniques, it is able to preserve the fresh taste of milk. American
      Dairy's dairy processes raw milk within 24 to 36 hours after milking. Most
      large
      regional dairies, it believes, process raw milk which 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 only processed the following day.
      American Dairy's milk 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. American
      Dairy believes that this process adversely affects the taste and feel of milk.
      In addition, American Dairy's 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 it believes adversely affects the favor of the milk.





**Dairy
        Product Processing**




American
      Dairy's 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. No chemicals or additives are employed. Because
      they are produced locally, our dairy products arrive to consumers in American
      Dairy's marketing area sooner after production than most other dairy products.
      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 its products, as well as
      sanitary conditions in its facilities. Product Sales





7


**Walnut
      Powder Operations**





During
      April 2004, American Dairy established a 60% owned subsidiary called Shanxi
      Feihesantai Biotechnology Scientific and Commercial Co., Limited, a limited
      liability company registered in Shanxi Province in The People's Republic of
      China. The other 40% of Shanxi Feihesantai is owned by Licheng Shantia
      Technology Enterprises Limited, an unaffiliated company. The business of Shanxi
      Feihesantai is the production and distribution of walnut powder and other walnut
      products. Shanxi Feihesantai was organized with $402,174 in registered capital.
      This plant was completed and began operations during October 2005.




**Product
      Sales**





The
      following table reflects the sales of the five principal products of American
      Dairy during the fiscal year ended December 31, 2005:




2005
                
                2004Product
                    name
                
                Quantity
                
                
                
                %
                
                Quantity
                
                
                
                %(Kg)
                
                Amount
                
                of
                    sales
                
                (Kg)
                
                Amount
                
                of
                    saleCa+Zn
                    series(1)
                
                
                4,722,624
                
                $
                13,348,008
                
                
                19
                %
                
                4,719,669
                
                $
                12,682,053
                
                
                34
                %CPP
                    series(1)
                
                
                4,503,308
                
                $
                24,700,822
                
                
                35
                %
                
                2,398,579
                
                $
                12,609,205
                
                
                34
                %Soybean
                    series(2)
                
                
                1,781,052
                
                $
                3,065,612
                
                
                16
                %
                
                2,199,445
                
                $
                5,570,911
                
                
                15
                %Nucleotides
                    series(1)
                
                
                1,094,676
                
                $
                11,017,136
                
                
                10
                %
                
                219,153
                
                $
                2,418,618
                
                
                6
                %Rice
                    cereal series(3)
                
                
                2,664,230
                
                $
                7,319,683
                
                
                4
                %
                
                *
                
                $
                *(1)
                    Milk powder product(2)
                    Soybean powder products(3)
                    Rice products




**Product
      Distribution**





Currently,
      FeiHe's products are sold in stores nationwide in China except in Hong Kong
      SAR,
      Macau SAR and Taiwan. The company has a distribution team working out of its
      headquarters and coordinating a network of over 300 dealers or representatives
      in key provinces across China. The dealers, in turn, each hire one or two
      secondary agents who assist in the distribution process, including inventory
      management, product sales and service and payments. Dealer agents display and
      sell our products in specially designated areas in stores.





Generally,
      product is delivered only after receipt of payment from the dealer. Dealers
      have
      new agreements each year which specify sales targets and territories among
      other
      provisions. The Company seeks to expand the number of key provinces served
      by
      its dealer network as part of its growth strategy and ultimately to establish
      a
      distribution system based upon local production at local dairies. American
      Dairy
      distributed its products to over 25 provinces in China during 2005. No province
      exceeded 10% of sales.





**Customers**





No
      customers of American Dairy equaled or exceeded 10% of its sales during the
      years ended December 31, 2005, 2004 or 2003, except that one customer,
      Heilongjiang Changxin Dairy, represented approximately 15% of sales during
      2005.





**Research
      and Development**





American
        Dairy has six technicians engaged in research and development activities.
        These
        technicians monitor quality control at the milk processing plants of American
        Dairy to ensure that the processing, packaging and distribution of the milk
        products result in high quality premium milk products that are safe and healthy
        for our 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, 2003, 2004 and 2005 we spent less than
        $10,000 per year on research and development and all of such amount was paid
        in
        compensation to our six quality control technicians described
        above.





8


**Growth
      Strategy**





The
        market for dairy products in China is growing rapidly. Our growth strategy
        involves capturing as much of this market as possible while it is in this
        rapid
        growth phase. This includes plans to acquire additional grazing rights and
        collection stations to secure our supply of raw milk and to acquire or construct
        additional processing and distribution facilities. We believe that our milk
        powder products enjoy a reputation for high quality among those familiar
        with
        them. We believe that this reputation has spread principally by word-of-mouth
        and also as a result of favorable press coverage. We have also increased
        our
        marketing efforts through national television. Pursuant to our marketing
        plan,
        we will seek to build upon our products' reputation and create strong brand
        identities, making our products more widely recognizable.





We
      will
      seek to extend the distribution of our products to contiguous markets with
      high
      population concentrations. If we can successfully implement our growth strategy,
      we will also seek to enter other markets through joint ventures, licensing
      or
      other arrangements with local dairy farms which we believe would benefit
      significantly from selling their raw milk to newly established local dairies
      that will produce and sell American Dairy brand milk powder products and soybean
      products in their local markets. The key elements of American Dairy's growth
      strategy to reach its goal, include:





*
      emphasizing local production and distribution of our products, beginning with
      purchasing raw milk from local farmers, resulting in premium quality milk powder
      products.





*
      increasing regional and national television advertising to better establish
      the
      "Feihe" brand name and increase the scope of our market area.





**Brand
      Development and Marketing**





American
      Dairy's marketing will emphasize the local production and national distribution
      of our products, which begins with local dairy herds and results in premium
      quality products to a national market. We believe that American Dairy's story
      adds legitimacy to our marketing claim that we produce farm fresh products
      and
      helps to instill confidence in consumers as to the purity and wholesomeness
      of
      our products.





We
      also
      seek to convey this story through the packaging we use for our products. Our
      products have also received marketing benefits from a considerable volume of
      favorable press and other publications of mass circulation which has rated
      our
      products highly.





American
      Dairy's marketing and promotional efforts will continue to include:




*
      Redesigning packaging of non-fluid products to promote a premium quality image.





*
      Refining and targeting our message, which to date has largely been the product
      of word-of-mouth and product reviews.





*
      Developing trade material, including four-color trade sell sheets and
      brochures.





*
      Further
      distinguishing our products from other dairy products.





*
      Expanding retail advertising, including print advertising, televised advertising
      and focused public relations.





American
        Dairy incurred advertising costs of $3,380,218 during fiscal 2005, and incurred
        advertising costs of $2,742,257 during fiscal 2004.





9




**Soy
      Bean and Rice Cereal**





American
      Dairy also produces soy bean powder and rice cereal which comprised 16% and
      4%
      respectively of sales during the fiscal year ended December 31,
      2005.





**Competition**





The
      food
      and beverage business is highly competitive and, therefore, American Dairy
      faces
      substantial competition in connection with the marketing and sale of our milk
      powder products and soybean products. Our products are positioned as premium
      products and, accordingly, are generally priced higher than certain 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**





American
      Dairy is regulated under national and county laws in China. The following
      information summarizes certain aspects of those regulations applicable to
      American Dairy and is qualified in its entirety by reference to all particular
      statutory or regulatory provisions.





Regulations
      at the national, province and county levels are subject to change. To date,
      compliance with governmental regulations has not had a material impact on
      American Dairy's level of capital expenditures, earnings or competitive
      position, but, because of the evolving nature of such regulations, management
      is
      unable to predict the impact such regulation may have in the foreseeable
      future.





As
      a
      manufacturer and distributor of food products, American Dairy is subject to
      regulations of China's Agricultural Ministry. This regulatory scheme governs
      the
      manufacture (including composition and ingredients), labeling, packaging and
      safety of food. It also regulates manufacturing practices, including quality
      assurance programs, for foods through its current good manufacturing practices
      regulations, and specifies the standards of identity for certain foods,
      including the products sold by American Dairy, and prescribes the format and
      content of many of the products sold by American Dairy, prescribes the format
      and content of certain nutrition information required to appear on food products
      labels and approves and regulates claims of health benefits of food
      products.





In
      addition, China's Agricultural Ministry authorizes regulatory activity necessary
      to prevent the introduction, transmission or spread of communicable diseases.
      These regulations require, for example, pasteurization of milk and milk
      products. American Dairy and its products are also subject to province and
      county regulations through such measures as the licensing of dairy manufacturing
      facilities, enforcement of standards for its products, inspection of its
      facilities and regulation of its trade practices in connection with the sale
      of
      dairy products.





**Employees**





As
      of
      September 1, 2006, we have approximately 10,000 employees on our payroll. Of
      these, eight are group administrators, approximately 8,250 are in marketing,
      approximately 24 provide marketing support, approximately 82 work in our
      Nutrition Department as consultants and managers, approximately 18 perform
      administrative functions, including financing, auditing and human resources
      and
      approximately 750 are in production, storage and distribution.




**Borrowing
      Policies**




American
      Dairy may borrow at competitive rates of interest. Borrowed funds will not
      be
      used for dividends to the shareholders.




The
      precise amount, if any, borrowed by American Dairy will depend in part upon
      the
      availability of financing, and prevailing interest rates and other loan costs.
      Such financing, if any, may be unavailable to American Dairy in the amounts
      desired or on terms considered reasonable by the Board of
      Directors.




10


Loan
      agreements may require that American Dairy maintain certain reserves or
      compensating balances and may impose other obligations on American Dairy.
      Moreover, since a significant proportion of American Dairy's revenues may be
      reserved for repayment of debt, the use of financing may reduce the cash that
      might otherwise be available for dividends until the debt has been repaid and
      may reduce total cash flow for a significant period.




During
      April 2005, American Dairy issued a Series A Convertible Note for $3,000,000
      that bears interest at 6 1/2 % per annum which is convertible into the common
      stock of American Dairy at $8.00 per share, and has a term of one year. From
      June to August 2005, American Dairy issued two Series B Convertible Notes for
      the total amount of $5,000,000 that bear interest at the rate of 7.5% per annum
      which are convertible into the common stock of American Dairy at $10.00 per
      share, and have a term of two years. The proceeds of the notes were applied
      primarily to acquisitions, including the acquisition of the milk powder plant
      and inventory from Nutricia Nutritionals Co., Ltd. of Heilongjiang
      Province.




American
      Dairy may, under appropriate circumstances, attempt to cause American Dairy
      to
      borrow funds at fixed interest rates. However, American Dairy may borrow funds
      at rates that vary with a "prime" or "base" rate, particularly on an interim
      basis or when interest rates are believed to be trending downward. A rise in
      the
      indexed rate may increase borrowing costs and reduce the amount of its income
      and cash available for distribution. In past years, the prime rates charged
      by
      major banks have fluctuated significantly; as a result, the precise amount
      of
      interest that American Dairy might be charged cannot be predicted with any
      certainty.




**Item
      1A. Risk Factors.**





**General**





**We
      expect to incur costs related to our planned expansion and growth 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 our proposed expansion of our milk processing plants may include
      the construction of new or additional facilities. American Dairy's cost
      estimates and projected completion dates for construction of new production
      facilities may change significantly as the projects progress. In addition,
      American Dairy's projects will 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 will delay American Dairy's
      receipt of increased sales revenues, 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 American Dairy's milk processing facilities
      will
      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 American Dairy enters into a particular
      agreement, or at all. In addition, American Dairy may develop projects as joint
      ventures in an effort to reduce its financial commitment to individual projects.
      The significant expenditures required to expand our milk processing plants
      may
      not ultimately result in increased profits.





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





**Our
      products may not achieve market acceptance.**





We
      are
      currently selling our products principally in northern China. Achieving market
      acceptance for American Dairy's 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. Market acceptance of our current and proposed products will
      depend, in large part, upon our ability to inform potential customer 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.





11


**Changing
      consumer preferences make demand for our products
      unpredictable.** As is
      the case with other companies marketing dairy products, American Dairy is
      subject to changing consumer preferences and nutritional and health-related
      concerns. Our business could be affected by certain consumer concerns about
      dairy products, such as the fat, cholesterol, calorie, sodium, lactose content
      or contamination of such products. A significant percentage of customers in
      China are lactose intolerant, and may therefore prefer other beverages. American
      Dairy could become subject to increased competition from companies whose
      products or marketing strategies address these consumer concerns more
      effectively.





Adverse
      medical research relating to milk and demand for milk could decrease the demand
      for our products. Periodically, medical and other studies are released and
      announcements by medical and other groups are made which raise concerns over
      the
      healthfulness of cow's milk in the human diet. To date, we do not believe that
      any such studies have had a material effect on milk consumption rates in China.
      However, a study may be published or an announcement made concerning the
      healthfulness of cow's milk which may result in a decrease in demand for dairy
      products in China.




**Our
      planned growth may require more raw milk than is available and could diminish
      the quality of our dairy products.** The
      supply of raw milk may be insufficient to meet demand which would limit our
      growth. Moreover, as we attempt to implement our growth strategy, it may become
      difficult to maintain current levels of quality control. Thus, concerns over
      quality control could also limit our growth. The raw milk used in our products
      is supplied to American Dairy 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 American Dairy, if at
      all. An inadequate supply of raw milk, coupled with concern over quality
      control, could limit our ability to grow, cause our earnings to decline and
      make
      our business less profitable.





**Possible
      volatility of raw milk costs makes our operating results difficult to predict,
      and a steep cost of increase could cause our profits to diminish
      significantly.** The
      current policy of China since the mid-1990s has focused on moving the industry
      in a more market-oriented direction. These reforms have resulted in the
      potential for greater price volatility relative to past periods, as prices
      are
      more responsive to the fundamental supply and demand aspects of the market.
      These changes in China's dairy policy could increase the risk of price
      volatility in the dairy industry, making our net income difficult to predict.
      Also, if prices are allowed to escalate sharply, our costs will rise which
      will
      lead to a decrease in profits.





**The
      loss of any of our key executives could cause an interruption of our business
      and an increase in our expenses if we are forced to recruit are placement;
      we
      have no key-man life insurance covering these executives.** American
      Dairy is highly dependent on the services of Leng You-Bin and Liu Hua, and
      the
      loss of their services would have a material adverse impact on our operations.
      These individuals have been primarily responsible for the development of
      American Dairy and the development and marketing of our products. American
      Dairy
      has not applied for key-man life insurance on the lives of these executives
      but
      may do so in the future.





**The
      milk business is highly competitive and, therefore, we face substantial
      competition in connection with the marketing and sale of our
      products.** In
      general, milk products are price sensitive and affected by many factors beyond
      our control, including changes in consumer tastes, fluctuating commodity prices
      and changes in supply due to weather, production, feed costs and natural
      disasters. Our products compete with other premium quality dairy brands as
      well
      as less expensive, non-premium brands. American Dairy's milk faces competition
      from non-premium milk producers distributing milk in our marketing area and
      other milk producers packaging their milk in glass bottles, and other special
      packaging, which serve portions of our marketing area. Most of our competitors
      are well established, have greater financial, marketing, personnel and other
      resources, have been in business for longer periods of time than American Dairy,
      and have products that have gained wide customer acceptance in the marketplace.
      The largest competitors of American Dairy are state-owned dairies owned by
      the
      government of China. Large foreign milk companies have also entered the milk
      industry in 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 claims by American Dairy. The milk industry is also characterized
      by
      the frequent introduction of new products, accompanied by substantial
      promotional campaigns. We may be unable to compete successfully or our
      competitors may develop products which have superior qualities or gain wider
      market acceptance than ours.





12


**Lack
      of property and general liability insurance expose American Dairy to the risk
      of
      loss of our property as well as liability risks in the event of litigation
      against our company.** American
      Dairy and its subsidiaries do not carry any property insurance, general
      liability insurance, or any other insurance that covers the risks of our
      business operations. As a result, any material loss or damage to our properties
      or other assets could lead to an increase in costs to replace or repair lost
      or
      damaged property and, possibly, a decline in revenues from lost use of the
      lost
      or damaged property. Also, personal injuries arising from our business
      operations, could significantly increase our costs for attorneys' fees as well
      as the payment of any damages arising out of the litigation. Any of the above
      would cause lost profits.




**As
      we increase the scale of our operations, we may be unable to maintain the level
      of quality we currently attain by producing our products in small
      batches.** Our
      products are manufactured in small batches with milk from the farms of local
      farmers. We may be unable to maintain the quality of our dairy products at
      increased levels of production. Increased production levels may cause American
      Dairy to modify its current manufacturing methods and will necessitate the
      use
      of milk from other additional sources. A decline in the quality of our products
      could damage American Dairy's business, operations and finances.





**We
      face the potential risk of product liability associated with food
      products.** American
      Dairy faces the risk of liability in connection with the sale and consumption
      of
      milk products and soybean 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. American Dairy currently maintains
      no
      product liability insurance. Any insurance which 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. A partially or completely
      uninsured successful claim against American Dairy would drive up our costs
      to
      defend such claim or pay damages and could cause reputational damage which
      would
      hurt our revenues. Either of these results would in turn reduce our
      profitability.





**Doing
      business in China involves various risks including internal and international
      political risks, evolving national economic policies as well as financial
      accounting standards, expropriation and the potential for a reversal in economic
      conditions.** Since
      the late 1970s, the government of the PRC has been reforming the Chinese
      economic system. These reforms have resulted in significant economic growth
      and
      social progress. These policies and measures may from time to time be modified
      or revised. Adverse changes in economic policies of the Chinese government
      or in
      the laws and regulations, if any, could have a material adverse effect on the
      overall economic growth of China, and could adversely affect our business
      operations.





**Extensive
      regulation of the food processing and distribution industry in China could
      increase our expenses resulting in reduced profits.** American
      Dairy is subject to extensive regulation by China's Agricultural Ministry,
      and
      by other county and local authorities in jurisdictions in which its products
      are
      processed or sold, regarding the processing, packaging, storage, distribution
      and labeling of our products. 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, county 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, American Dairy will be required
      to
      conform its activities in order to comply with such regulations. Our failure
      to
      comply with applicable laws and regulations could subject American Dairy 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.





**The
      Chinese currency, "Renminbi", is not a freely convertible currency, which could
      limit our ability to obtain sufficient foreign currency to support our business
      operations in the future.** We rely
      on the Chinese 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 which are required for "current account"
      transactions can be bought freely at authorized Chinese banks, the proper
      procedural requirements prescribed by Chinese law must be met. At the same
      time,
      Chinese companies are also required to sell their foreign exchange earnings
      to
      authorized Chinese banks and the purchase of foreign currencies for capital
      account transactions still requires prior approval of the Chinese government.
      This type of heavy regulation by the Chinese government of foreign currency
      exchange restricts certain of our business operations and a change in any of
      these government policies, or any other, could further negatively impact our
      operations which could result in a loss of profits.




13


**Fluctuations
      in the exchange rate between the Chinese currency and the United States dollar
      could adversely affect our operating results.** The
      functional currency of our operations in China is "Renminbi". However, results
      of our operations are translated at average exchange rates into United States
      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. Although we may use hedging
      techniques in the future (which we currently do not use), we may not be able
      to
      eliminate the effects of currency fluctuations. Thus, exchange rate fluctuations
      could cause our profits, and therefore our stock prices, to
      decline.





In
      order
      for our China subsidiaries to pay dividends to American Dairy, a conversion
      of
      Renminbi into us dollars is required which, if we were not allowed by the
      Chinese government, would cause an interruption in our operating cash flow.
      Under current Chinese law, the conversion of Renminbi into foreign currency
      generally requires government consent. Government authorities may impose
      restrictions that could have a negative impact in the future on the conversion
      process and upon the ability of American Dairy to meet its cash needs, and
      to
      pay dividends to its shareholders. Although, our subsidiaries' classification
      as
      wholly - owned foreign enterprises ("WOFEs") under Chinese law permits them
      to
      declare dividends and repatriate their funds to American Dairy 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 American Dairy would in turn prevent payments of dividends to our
      shareholders.





**Dividends
        paid to American Dairy, as the U.S. parent company, would be subject to U.S.
        corporate income tax.** American
        Dairy has not accrued any tax liability associated with the possible payment
        of
        dividends to the U.S. parent company. Such a tax liability would be an added
        expense which would reduce our net income.





**Lack
        of bank deposit insurance puts our funds at risk of loss from bank foreclosures
        or insolvencies.** American
        Dairy maintains certain bank accounts in China that are not insured and are
        not
        protected by FDIC insurance or other insurance. As of December 31, 2005,
        American Dairy held $206,000 of cash balances in the United States of which
        $106,000 was in excess of five insurance limits. If a Chinese 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.





**Limited
      and uncertain trademark protection in China makes the ownership and use of
      our
      trademark uncertain.** American
      Dairy has obtained trademark registrations for the use of our tradename "Feihe",
      which has been registered with the 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 Chinese 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
      trademarks 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 formulae and thus gain a competitive advantage.** American
      Dairy has no patents covering our products or production processes, and we
      expect to rely principally on know-how and the confidentiality of our formulae
      and production processes for our products and our flavoring formulae in
      producing competitive product line. Any breach of confidentiality by our
      executives or employees having access to our formulae could result in our
      competitors gaining access to such formulae. The ensuing competitive
      disadvantage could reduce our revenues and our profits.





**We
      have not held a meeting of our shareholders for several years which could
      subject American Dairy to a suit to compel such a meeting.** Section
      16-10a-701 of the Utah Revised Business Corporations Act calls for a corporation
      to hold an annual meeting of its shareholders. Our failure to hold an annual
      meeting is inconsistent with this provision. The most likely remedy for such
      failure is to compel American Dairy to hold an annual meeting.




14


**Item
          2. Properties**
 
 The
          principal executives of American Dairy are located at C-16 Shin Chen
          International Building, No. 10, Jui-shen Road. Zho Yan Chu, Beijing, The
          People's Republic of China. The building was acquired during 2003 at a
          purchase
          price of $1,200,861.
 
 American
          Dairy presently operates milk powder processing plants and also rice, soy
          beans
          and walnut processing facilities, and various warehouses in northern China,
          known as Feihe Dairy, Sanhao Dairy and BaiQuan Dairy.
 
 American
          Dairy has been in the process of constructing a new milk powder production
          facility in Kedong County, Heilongjiang Province in The People's Republic
          of
          China which was completed in December 2005. As of December 31, 2005, American
          Dairy has expended approximately $14,000,000 in construction and equipment
          costs
          plant.
 
 American
          Dairy has been in the process of completing the construction of a new plant
          in
          Shenyang in northeast China to product walnut powder, a new product of
          American
          Dairy. As of December 31, 2005, American Dairy has expended approximately
          $3,374,000 in construction costs. This facility was completed in December
          2005.
 
 During
          2005, American Dairy entered into an Asset Purchase Agreement with Nutricia
          Nutritionals Co., Ltd. of Hei Long Jiang ("Nutritionals") in The People's
          Republic of China ("PRC"). Nutritionals is a wholly-owned subsidiary of
          Royal
          Numico N.V., a public limited liability company organized in the Netherlands.
          The Agreement provided that American Dairy would acquire substantially
          all of
          the assets of Nutritionals for $7,300,000 and its inventory for $130,000.
          The
          assets are comprised primarily of the land use rights and buildings of
          Nutritionals' milk powder plant in Heilongjiang Province in the PRC and
          all
          of its milk powder processing equipment at its plant. American Dairy also
          acquired approximately 19 milk collection stations for the collection of
          raw
          milk to supply the processing plant.
 
 In
          January 2006, American Dairy entered into an Agreement with the government
          of
          Gannan County in Heilongjiang Province, PRC, to build a new milk processing
          plant. Under the terms of the Agreement, American Dairy will receive the
          rights
          to approximately 3,000,000 square feet of land, tax incentives, and subsidiaries
          for the construction of the new building. In addition, American Dairy will
          receive exclusive processing and distribution rights to the locally subsidized
          milk production. The government will also subsidize local farmers for the
          initial costs of acquiring up to 200,000 milk cows to increase the local production
          of milk.
 
 There
          is
          no private ownership of land in the PRC; all land ownership is held by
          the
          government of the PRC, its agencies and collectives. Land use rights are
          obtained from 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 the PRC (State Land Administration Bureau)
          upon payment of the required land transfer fee.
 
 **Item
          3. Legal Proceedings**
 
 During
          the quarter ended December 31, 2005, American Dairy was not a party to
          any
          material litigation, and there were no material outstanding claims against
          American Dairy or its assets.
 
 **Item
          4. Submission of Matters to a Vote of Security
          Holders**
 
 None




15




**PART
      II**




**Item
          5. Market for the Company’s Common Stock and Related Securityholder
          Matters**
 
 **General**
 
 American
          Dairy is authorized to issue 50,000,000 shares of Common Stock, $.001 par
          value
          per share. At December 31, 2005, there were 14,132,824 shares of Common
          Stock
          issued and outstanding that were held by 461 stockholders of
          record.
 
 **Common
          Stock**
 
 Holders
          of Common Stock are entitled to one vote for each share held on all matters
          voted upon by stockholders, including the election of directors. The holders
          of
          Common Stock have no preemptive rights to purchase or subscribe for any
          stock of
          American Dairy now or hereafter authorized or for securities convertible
          into
          such stock. All of the outstanding shares of Common Stock are fully paid
          and
          nonassessable. Upon any liquidation of American Dairy, the holders of Common
          Stock are entitled to share ratably in assets available for distribution
          to suck
          stockholders. Holders of Common Stock are entitled to receive dividends
          out of
          assets legally available therefore at such times and in such amounts as
          the
          Board of Directors may from time to time determine.
 
 Shareholders
          are not entitled to cumulative voting rights, and accordingly, the holders
          of a
          majority of the voting power of the shares voting for the election of directors
          can elect the entire class of directors to be elected each year if they
          choose
          to do so and, in that event, the holders of the remaining shares will not
          be
          able to elect any person as a director of such class.
 
 **Dividends**
 
 American
          Dairy has not declared or paid any dividends on its Common Stock and presently
          does not presently expect to declare or pay any such dividends in the
          foreseeable future. America Dairy has not yet formulated a future dividend
          policy in the event restrictions on its ability to pay dividends are created.
          Payment of dividends to our shareholders would require payment of dividends
          by
          our China subsidiaries to American Dairy. This, in turn, would require
          a
          conversion of Renminbi into US dollars and repatriation of funds to the
          US.
          Under current Chinese law, the conversion of Renminbi into foreign currency
          generally requires government consent. Government authorities may impose
          restrictions that could have a negative impact in the future on the conversion
          process and upon the ability of American Dairy to meet its cash needs,
          and to
          pay dividends to its shareholders. Although, our subsidiaries' classification
          as
          wholly - owned foreign enterprises ("WOFEs") under Chinese law permits
          them to
          declare dividends and repatriate their funds to American Dairy 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 American Dairy would in turn prevent payments of dividends to our
          shareholders.
 
 **Transfer
          Agent and Registrar**
 
 The
          transfer agent and registrar for American Dairy is Progressive Transfer
          Company,
          1981 E. Murray Road, Suite 100, Salt Lake City, Utah 84117-5148; telephone
          (801)
          272-9294.
 
 **Market
          for Common Stock**
 
 The
          following table sets forth the range of high and low closing bid prices
          per
          share of the Common Stock (former trading symbol ADIY) of American Dairy
          until
          April 18, 2005 (reflecting inter-dealer prices without retail mark-up,
          mark-down
          or commission and may not represent actual transactions), and closing sale
          prices of the Common Stock of American Dairy on the NYSE Archipelago Exchange
          (ArcaEx) (present trading symbol ADY) from April 18, 2005 through December
          31, 2005.
 
 High
                    Closing
                  Bid
                    Prices
                
                Low
                    Closing
                  Bid
                    PricesYear
                    Ended December 31, 2003:1st
                    Quarter
                
                $
                0.11
                
                $
                0.052nd
                    Quarter (1)
                
                $
                2.00
                
                $
                0.013rd
                    Quarter
                
                $
                1.30
                
                $
                0.104th
                    Quarter
                
                $
                3.00
                
                $
                1.30Year
                    Ended December 31, 2004:1st
                    Quarter
                
                $
                2.00
                
                $
                2.002nd
                    Quarter
                
                $
                3.00
                
                $
                2.003rd
                    Quarter
                
                $
                3.90
                
                $
                2.504th
                    Quarter
                
                $
                5.02
                
                $
                3.30Year
                    Ended December 31, 2005:1st
                    Quarter
                
                $
                5.00
                
                $
                4.352nd
                    Quarter (2)
                
                $
                6.90
                
                $
                5.353rd
                    Quarter
                
                $
                8.35
                
                $
                6.304th
                    Quarter
                
                $
                8.00
                
                $
                5.25
  (1)
          On
          May 7, 2003, the Company had a one-for-nineteen (1-for-19) reverse stock
          split
          of its outstanding Common Stock.
 
 (2)
          On
          April 18, 2005, the Common Stock of American Dairy ceased trading on the
          NASD
          Electronic Bulletin Board over-the-counter market (OTC-BB), and trading
          of its
          Common Stock commenced on the NYSE Archipelago Exchange (ArcaEx).
 
 16
 The
          closing sales price of the Common Stock of American Dairy on the NYSE
          Archipelago Exchange (ArcaEx) on March 29, 2006 was $12.00 per share.
          Compensation Plan. American Dairy has a 2003 Incentive Plan that authorizes
          the
          issuance of up to 3,000,000 shares of its Common Stock for stock options, SAR's
          and stock bonuses to its directors, officers, employees and consultants.
          As of
          December 31, 2005, no stock option or warrant awards were made under the
          Plan.
 
 **Sale
          of Unregistered Securities**
 
 During
          the three months ended December 31, 2005, American Dairy sold shares of
          its
          restricted Common Stock that were not registered under the Securities Act
          of
          1933, as described below:
 
 During
          the three months ended December 31, 2005, warrants to purchase 114,285
          shares of
          restricted common stock of American Dairy were exercised for $200,000,
          in
          reliance upon Section 4(2) under the Securities Act of 1933.
  **Item
          6. Selected Financial Data**




The
      following table sets forth selected consolidated financial data of the Company
      for the years ended December 31, 2005, 2004, and 2003. The data are derived
      from
      our audited consolidated financial statements revised to reflect the
      reclassification of certain items. The table should be read in conjunction
      with
      "Management's Discussion and Analysis of Financial Condition and Results of
      Operations" and our consolidated financial statements, including the notes,
      appearing in elsewhere in this report.





Year
                  Ended
              
              Year
                  Ended
              
              Year
                  EndedDecember
                  31,
              
              December
                  31,
              
              December
                  31,2005
              
              2004
              
              2003Revenues
              
              $
              68,024,000
              
              $
              37,416,000
              
              $
              26,636,000Cost
                  of goods sold
              
              $
              38,716,000
              
              $
              18,007,000
              
              $
              15,733,000Distribution
                  expenses
              
              $
              16,743,000
              
              $
              13,486,000
              
              $
              7,899,000General
                  and administrative
              
              $
              2,483,000
              
              $
              1,313,000
              
              $
              1,670,000Depreciation
              
              $
              161,000
              
              $
              55,000
              
              $
              131,000Other
                  income
              
              $
              2,221,000
              
              $
              1,489,000
              
              $
              1,197,000Gain
                  on disposal of assets
              
              $
              9,000
              
              $
              1,000
              
              $
              --Interest
                  expense
              
              $
              523,000
              
              $
              49,000
              
              $
              25,000Net
                  income
              
              $
              11,630,000
              
              $
              6,258,000
              
              $
              2,037,000Other
                  comprehensive income
              
              $
              605,000
              
              $
              --
              
              $
              --Total
                  comprehensive income
              
              $
              12,235,000
              
              $
              6,258,000
              
              $
              2,037,000Basic
                  net income per share
              
              $
              .83
              
              $
              .52
              
              $
              .19Weighted
                  average basic sharesoutstanding
              
              
              13,931,000
              
              
              12,077,000
              
              
              10,536,000Diluted
                  net income per common share
              
              $
              .74
              
              $
              .47
              
              $
              .19Weighted
                  average diluted sharesoutstanding
              
              
              16,057,000
              
              
              13,456,000
              
              
              10,536,000


Quarterly
      Financial Data for 2005 and 2004


Quarters
              EndedDecember
                31, 2005
            
            September
                30, 2005
            
            June
                30, 2005
            *
            March
                31, 2005Total
                Revenues
            
            $
            25,599,747
            
            $
            14,273,618
            
            $
            14,589,807
            
            $
            13,560,828Gross
                Profit
            
            
            9,304,064
            
            
            6,744,356
            
            
            6,996,110
            
            
            6,263,470Net
                Income
            
            
            3,994,723
            
            
            2,178,699
            
            
            2,823,250
            
            
            2,633,328Net
                Earnings per common share:Basic
            
            $
            0.27
            
            $
            0.16
            
            $
            0.21
            
            $
            0.19Diluted
            
            $
            0.25
            
            $
            0.14
            
            $
            0.18
            
            $
            0.17




Quarters
                EndedDecember
                  31, 2004
              *
              September
                  30, 2004
              *
              June
                  30, 2004
              *
              March
                  31, 2004
              *Total
                  Revenues
              
              $
              11,912,681
              
              $
              8,662,297
              
              $
              9,124,669
              
              $
              7,716,353Gross
                  Profit
              
              
              7,281,853
              
              
              3,862,047
              
              
              4,614,090
              
              
              3,651,010Net
                  Income
              
              
              2,378,178
              
              
              1,244,586
              
              
              1,445,281
              
              
              1,189,955Net
                  Earnings per common share:Basic
              
              $
              0.20
              
              $
              0.10
              
              $
              0.12
              
              $
              0.10Diluted
              
              $
              0.16
              
              $
              0.09
              
              $
              0.12
              
              $
              0.10




*Effective
      July 1, 2005 slotting fees paid by American Dairy previously reported as
      expenses have been reclassified as a reduction of revenues. The above schedule reflects
      a
      reclassifying entry for prior periods to conform to this presentation.




17




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





Caution
      Regarding Forward-Looking Information When used in this report, the words "may,"
      "expect," "anticipate," "continue," "estimate," "project," "intend," and similar
      expressions are intended to identify forward-looking statements within the
      meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
      Securities Exchange Act of 1934 regarding events, conditions, and financial
      trends that may affect the Company's future plans of operations, business
      strategy, operating results, and financial position. Persons reviewing this
      report are cautioned that any forward-looking statements are not guarantees
      of
      future performance and are subject to risks and uncertainties and that actual
      results may differ materially from those included within the forward-looking
      statements as a result of various factors. These risks and uncertainties, many
      of which are beyond our control, include (i) the sufficiency of existing capital
      resources and the Company's ability to raise additional capital to fund cash
      requirements for future operations; (ii) volatility of the stock market; and
      (iii) general economic conditions. Although the Company believes the
      expectations reflected in these forward-looking statements are reasonable,
      such
      expectations may prove to be incorrect.





**Overview**





Effective
      May 7, 2003, American Dairy completed the acquisition of 100% of the issued
      and
      outstanding capital stock of American Flying Crane Corporation (formerly called
      American Dairy Holdings, Inc.), a Delaware corporation. As a result, AFC become
      a wholly-owned subsidiary of American Dairy. For financial reporting purposes,
      this transaction was treated as a recapitalization of American Flying Crane
      and
      the historical figures prior to May 7, 2003 represent the activities of American
      Flying Crane.





The
      operations of the Company are conducted primarily through its wholly-owned
      subsidiary, Feihe Dairy, and Feihe Dairy's subsidiaries, Beijing Feihe and
      Baiquan Feihe, all of which are enterprises organized and operating in The
      People's Republic of China ("PRC"). Feihe Dairy engages in the production and
      distribution of milk powder, soybean milk powder and other dairy products in
      the
      PRC.





The
      principal activities of Beijing Feihe are marketing and distribution of the
      Feihe Dairy Group's dairy and soybean products to principal agents in 25
      provinces. Baiquan Feihe principal activities are the production and supply
      of
      processed milk together with Feihe Dairy for sale entirely to Beijing Feihe
      for
      distribution to third party customers and distributors. The products are sold
      primarily under the registered trademark "Feihe".





The
      discussion and analysis of our financial condition and results of operations
      is
      based upon our consolidated financial statements which have been prepared in
      accordance with accounting principles generally accepted in the United States.
      The preparation of these financial statements requires us to make estimates
      and
      judgments that affect the reported amounts of assets, liabilities, revenue
      and
      expenses, and related disclosure of contingent assets and liabilities. On an
      on-going basis, we evaluate our estimates including the allowance for doubtful
      accounts, the salability and recoverability of inventory, income taxes and
      contingencies. We base our estimates on historical experience and on various
      other assumptions that we believe to be reasonable under the circumstances,
      the
      results of which form our basis for making judgments about the carrying values
      of assets and liabilities that are not readily apparent from other sources.
      Actual results may differ from these estimates under different assumptions
      or
      conditions.





We
      must
      make estimates of the collectibility of accounts receivable. We analyze
      historical write-offs, changes in our internal credit policies and customer
      concentrations when evaluating the adequacy of our allowance for doubtful
      accounts. Differences may result in the amount and timing of expenses for any
      period if we make different judgments or use difference estimates. As part
      of
      the process of preparing our consolidated financial statements, we are required
      to estimate our income taxes. This process involves estimating our current
      tax
      exposure together with assessing temporary differences resulting from differing
      treatment of items for tax and accounting purposes. These differences result
      in
      deferred tax assets and liabilities. We must then assess the likelihood that
      our
      deferred tax assets will be recovered from future taxable income, and, to the
      extent we believe that recovery is not likely, we must establish a valuation
      allowance. To the extent that we establish a valuation allowance or increase
      this allowance in a period, we must include a tax provision or reduce our tax
      benefit in the statements of operations. We use our judgment to determine our
      provision or benefit for income taxes, deferred tax assets and liabilities
      and
      any valuation allowance recorded against our net deferred tax assets. We
      believe, based on a number of factors including historical operating losses,
      that we will not realize the future benefits of a significant portion of our
      net
      deferred tax assets and we have accordingly provided a full valuation allowance
      against our deferred tax assets. However, various factors may cause those
      assumptions to change in the near term.




18




We
      cannot
      predict what future laws and regulations might be passed that could have a
      material effect on our results of operations. We assess the impact of
      significant changes in laws and regulations on a regular basis and update the
      assumptions and estimates used to prepare our financial statements when we
      deem
      it necessary.





**Plan
      of Operation**





We
      perceive that the dairy industry in China is experiencing rapid growth with
      demand outpacing supply. We further believe that this growth presents a window
      of opportunity for American Dairy to capture as much of this growing market
      as
      possible while it is in this growth phase. We must increase output of our milk
      products to meet this demand and capture market share. We must act quickly
      to
      secure our supply of raw milk by acquiring additional milking rights and
      collection stations and expand our production and distribution capacity to
      handle the additional volume. This involves the acquisition or construction
      of
      additional processing and distribution facilities and further increases in
      our
      marketing efforts. It is important for American Dairy's future that we
      concentrate our current efforts on this expansion.





Our
      expansion strategy will require the continued retention and investment of our
      earnings from operations as well as additional funding from private debt and
      equity financing. We currently have sufficient cash to fund our operations
      for
      the next twelve months with bank credit facilities available to cover any
      unforeseen shortfall. However, in order to effect our planned expansion, we
      will
      require additional funding in the approximate amount of $76,000,000. Of this
      amount, we plan to use approximately $16 million for the Lang Fang Distribution
      Plant and $60 million for the Gannon Processing Plant. On October 3, 2006,
      we
      closed on offering of $18.2 of 7.75% Convertible Notes the terms of which are
      discussed in greater detain under “Liquidity and Capital Resources.” To date, we
      have used approximately $10,000,000 of our existing cash to fund the Gannon
      Processing Plant. We have not yet determined exactly how much of our existing
      cash we will utilize for our expansion strategy going forward, but we will
      require a significant amount of additional external funding. Of the additional
      funding, we anticipate that the majority of it will come from private investors
      and that we will continue to renew our bank credit facilities for short-term
      needs. On (See "Liquidity and Capital Resources.")





We
      have
      considered various options for obtaining the necessary financing to fund our
      expansion strategy and, at present, we are considering possible sources of
      private debt and equity placements. We intend to use the proceeds of any such
      placement for the construction of a distribution center and a processing plant.
      We cannot, however, be certain that our fundraising efforts will be successful
      or how much we will actually raise if any. Moreover, the proceeds raised in
      any
      private offering may be inadequate to cover any unforeseen costs associated
      with
      the construction of these facilities. In addition to construction of new
      facilities, we believe that acquisition of existing facilities is a necessary
      part of our strategy as well.





**Results
      of Operations**





The
      following table sets forth certain operating information regarding American
      Dairy, including its subsidiaries.




**2005**
                
                **2004**
                
                **2003**Revenues
                
                $
                68,024,000
                
                $
                37,416,000
                
                $
                26,636,000Cost
                    of good sold
                
                $
                38,716,000
                
                $
                18,007,000
                
                $
                15,733,000Distribution
                    expense
                
                $
                16,743,000
                
                $
                13,486,000
                
                $
                7,899,000General
                    and administrative expense
                
                $
                2,483,000
                
                $
                1,313,000
                
                $
                1,670,000Depreciation
                
                $
                161,000
                
                $
                55,000
                
                $
                131,000Other
                    income
                
                $
                2,221,000
                
                $
                1,489,000
                
                $
                1,197,000Gain
                    on disposal of assets
                
                $
                9,000
                
                $
                1,000
                
                $
                --Interest
                    expense
                
                $
                (523,000
                )
                $
                (49,000
                )
                $
                (25,000
                )Net
                    Income
                
                $
                11,630,000
                
                $
                6,258,000
                
                $
                2,036,000





**Comparison
      of Years Ended December 31, 2005 and 2004**





Net
      income increased by 86% from $6,258,000 in 2004 to $11,630,000 for 2005. This
      increase in net income is attributable primarily to the following factors:
      (1)
      an 82% increase in sales; (2) a 49% increase in other income, offset in part
      by
      (i) a 17% decrease in gross profit margins from 52% in 2004 to 43% in 2005;
      (ii)
      a 24% increase in distribution expenses, (iii) an 89% increase in general and
      administrative expenses, and (iv) a 959% increase in interest
      expense.




19




Revenues.
      Revenues increased by $30,608,000 or 82% from $37,416,000 in 2004 to $68,024,000
      in 2005. This increase was due primarily to expanding market areas and adding
      new value added products. Increase in sales is due to the following
      factors:





One
      component of the increase is due to increased sales volumes. The table below
      reflects the sales volumes in kilograms by product for 2005 as compared to
      2004
      and 2004:





**2005**
              
              **2004****Product
                  name**
              
              **Quantity**
                **(Kg)**
              
              **Amount**
              
              **%
                  of**
                **sales**
              
              **Quantity**
                **(Kg)**
              
              **Amount**
              
              **%
                  of**
                **sales**
              
              **Year-on-year**
                **Qty.
                  variance**Ca+Zn
                  series
              
              
              4,722,624
              
              $
              13,004,000
              
              
              19
              %
              
              4,719,669
              
              $
              12,751,000
              
              
              34
              %
              
              0
              %CPP
                  series
              
              
              4,503,308
              
              $
              24,064,000
              
              
              35
              %
              
              2,398,579
              
              $
              12,678,000
              
              
              34
              %
              
              88
              %Soybean
                  series
              
              
              1,781,052
              
              $
              2,987,000
              
              
              16
              %
              
              2,199,445
              
              $
              5,601,000
              
              
              15
              %
              
              (19
              %)Nucleotides
                  series
              
              
              1,094,676
              
              $
              10,733,000
              
              
              10
              %
              
              219,153
              
              $
              2,434,000
              
              
              6
              %
              
              400
              %Rice
                  cereal series
              
              
              2,664,230
              
              $
              7,131,000
              
              
              4
              %
              
              -
              
              $
              -
              
              
              -
              
              
              -Low
                  fat high Calcium
              
              
              -
              
              $
              -
              
              
              -
              
              
              368,968
              
              $
              979,000
              
              
              3
              %
              
              -Light
                  powder
              
              
              -
              
              $
              -
              
              
              -
              
              
              382,475
              
              $
              688,000
              
              
              2
              %
              
              -Total
              
              
              14,765,890
              
              $
              57,919,000
              
              
              85
              %
              
              10,288,289
              
              $
              35,131,000
              
              
              94
              %
              
              44
              %Others
              
              
              2,444,862
              
              $
              10,105,000
              
              
              15
              %
              
              3,190,356
              
              $
              2,285,000
              
              
              6
              %
              
              (23
              %)17,210,752
              
              $
              68,024,000
              
              
              100
              %
              
              13,478,645
              
              $
              37,416,000
              
              
              100
              %
              
              28
              %





The
      second component is an increase in the average sales price per kilogram as
      demonstrated below:





**2005**
            
            **2004**Sales
                revenues
            
            $
            68,024,000
            
            $
            37,416,000Total
                sales volume (kilograms)
            
            
            17,210,752
            
            
            13,478,645Average
                selling prices/kilogram
            
            $
            3.95
            
            $
            2.78





This
      increase in average sales price per kilogram is due primarily to the shift
      in
      product mix to higher end products rather than an increase in the sales price
      of
      individual products.





The
      following table reflects the average sales price by kilogram by product for
      2005
      and 2004 and the percentage change in the sales price per kilogram.





**Average
                Price Per Kilogram**
            
            **Percentage****Product**
            
            **2005**
            
            **2004**
            
            **Change**Ca+Zn
                series
            
            $
            2.75
            
            $
            2.70
            
            
            2
            %CPP
                series
            
            $
            5.34
            
            $
            5.29
            
            
            1
            %Soybean
                series
            
            $
            1.68
            
            $
            2.24
            
            
            (25
            )%Nucleotides
                series
            
            $
            9.80
            
            $
            11.10
            
            
            (12
            )%Other
                series
            
            $
            3.37
            
            $
            1.08
            
            
            212
            %








The
      growth came primarily from increased sales in the Heilong Jiang Provence which
      had sales of $21,400,000 in 2005 on 5,794,840 kilograms of product vs. sales
      of
      $3,513,985 on 1,754,068 kilograms of product during 2004.





The
      above
      sales and price increases are attributable to the following
      factors:





Increased
      popularity of "Feihe" brand of mainland China following the successful
      advertising campaigns in the previous year and extensive networks of Agencies
      in
      25 provinces;




20




Demand
        boosted by improved and high quality ingredients for several products such
        as
        Ca+Zn, CPP series, and nucleotides series and families or markets mostly
        accepted these products;





The
      dairy
      milk industry scandal in China in 2003 and the resulting strict control over
      dairy producers (quality and ingredient contains) drove many unscrupulous Dairy
      producers and their tainted dairy products out of the market. Consumers
      concentrated on dairy products produced by such reputable dairy producers as
      Feihe Dairy.





Increase
      in sales quantities of several higher priced major products as can be seen
      from
      the table above.





Cost
      of
      Goods Sold. Cost of goods sold increased 115% or $20,709,000 from $18,007,000
      in
      2004 to $38,716,000 in 2005. This increase is due to the following factors
      (1) a
      28% increase in sales volumes (2) a 49% increase in direct materials cost per
      kilogram from $1.35 in 2004 to $2.00 in 2005 (3) a 25% increase per kilogram
      in
      direct labor cost from $.04 in 2004 to $.05 in 2005, and (4) a 120% increase
      in
      manufacturing overhead from $.05 per kilogram in 2004 to $.11 per kilogram
      in
      2005. The increase in direct materials cost is due primarily to the increased
      use of nutritional supplements used primarily in higher end products. The
      increase in labor and overhead cost is attributable to the new production
      facilities coming on line which were not yet operating at full
      capacity.





Distribution
      Expenses. Distribution expenses for the year ended December 31, 2005 were
      $16,743,000, an increase of $3,257,000 or 24% from the prior year's distribution
      expenses of $13,486,000. The principal reasons for the increase were substantial
      increases in advertising expense, promotional expenses, distribution salaries,
      and transportation expense which were incurred to expand market
      areas.





General
      and Administrative Expenses. General and administrative expenses for the year
      ended December 31, 2005 were $2,483,000, an increase of $1,170,000 or 89% from
      the prior year's general and administrative expenses of $1,313,000. The
      principal reason for the increase was mainly due to increases in depreciation
      expenses, education expenses, entertainment, office expenses, union expenses,
      transportation expenses, bad debts, and staff salaries, as well as an increase
      in expense for consulting services incurred at the parent company
      level.





Depreciation
      Expense. Depreciation expense for the year ended December 31, 2005 was $161,000
      and $839,000, for general and administrative and cost of goods sold
      depreciation, respectively, resulting in increases of $106,000 and $632,000,
      respectively, compared to the year ended December 31, 2004, which reflected
      general and administrative and cost of goods sold depreciation of $55,000 and
      $207,000, respectively. This increase is due primarily to substantial additions
      of buildings, plant and machinery in Feihe Dairy and Shanxi Feihe during
      2005.





Interest
      Expense. Interest expense for the year ended December 31, 2005 was $523,000
      as
      compared to $49,000 for the prior year. This increase was due primarily to
      interest accrued on convertible notes issued in 2005, as well as interest
      expense arising from new short-term loans.





Income
      Taxes. Income tax benefit decreased by $262,000 from $262,000 of benefit in
      2004
      to $0 in 2005. This was due primarily to reversal of a 2003 tax accrual for
      BiaQuan Dairy which was waived by the taxing authorities in 2004.





**Comparison
      of Years Ended December 31, 2004 and 2003**





Net
      income increased by 207% from $2,036,000 in 2003 to $6,258,000 for 2004. This
      increase in net income is attributable primarily to the following factors:
      (1) a
      40% increase in sales; (2) a 27% increase in gross profit margins from 41%
      in
      2003 to 52% in 2004; and (3) a 70% increase in distribution expenses, offset
      in
      part by: (i) a 21% decrease in general and administrative expenses, and (ii)
      a
      $601,000 decrease in enterprise income tax expense.




21




Revenues.
      Revenues increased by $10,780,000 or 40% from $26,636,000 in 2003 to $37,416,000
      in 2004. This increase was due primarily to 28% increase in kilograms sold
      combined with a 17% average increase is sales price per kilogram. The following
      tables compare sales volumes and prices by year




**2004**
            
            **2003****Product
                name**
            
            **Quantity**
              **(Kg)**
            
            **Amount**
            
            **%
                of sales**
            
            **Quantity**
              **(Kg)**
            
            **Amount**
            
            **%
                of**
              **sales**Ca+Zn
                series
            
            
            4,719,669
            
            $
            12,751,000
            
            
            34
            %
            
            3,718,421
            
            $
            9,824,000
            
            
            37
            %CPP
                series
            
            
            2,398,579
            
            $
            12,678,000
            
            
            34
            %
            
            785,483
            
            $
            3,863,000
            
            
            14
            %Soybean
                series
            
            
            2,199,445
            
            $
            5,601,000
            
            
            15
            %
            
            2,176,299
            
            $
            3,069,000
            
            
            12
            %Nucleotides
                series
            
            
            219,153
            
            $
            2,434,000
            
            
            6
            %
            
            -
            
            $
            -
            
            
            -Low
                fat high Calcium
            
            
            368,968
            
            $
            979,000
            
            
            3
            %
            
            667,227
            
            $
            1,545,000
            
            
            6
            %Other
            
            
            3,572,831
            
            $
            2,973,000
            
            
            8
            %
            
            3,155,352
            
            $
            8,335,000
            
            
            31
            %Total
            
            
            13,478,645
            
            $
            37,416,000
            
            
            100
            %
            
            10,502,782
            
            $
            26,636,000
            
            
            100
            %






**2004**
            
            **2003**
            
            **Variance**Sales
                revenues
            
            $
            37,416,000
            
            $
            26,636,000
            
            
            40
            %Total
                sales volume (kilograms)
            
            
            13,478,645
            
            
            10,502,782
            
            
            28
            %Average
                selling prices/kilogram
            
            $
            2.97
            
            
            2.54
            
            
            17
            %





**Average
                Price Per Kilogram**
            
            **Percentage****Product**
            
            **2004**
            
            **2003**
            
            **Change**Ca+Zn
                series
            
            $
            2.70
            
            $
            2.64
            
            
            2
            %CPP
                series
            
            $
            5.29
            
            $
            4.92
            
            
            8
            %Soybean
                series
            
            $
            2.24
            
            $
            1.41
            
            
            59
            %Nucleotides
                series
            
            $
            11.10
            
            $
            -
            
            
            N/AOther
                series
            
            $
            1.08
            
            $
            2.64
            
            
            (59
            )%





Increases
      in sales volumes are attributable to the following factors:





*
      Increased popularity of "Feihe" brand of mainland China following the successful
      advertising campaigns in the previous year and extensive networks of Agencies
      in
      25 provinces;





*
      Demands
      boosted by improved and high quality ingredients for several products such
      as
      Ca+Zn CPP series and nucleotides series and families or markets mostly accepted
      these products;





*
      The
      dairy milk industry scandal in China in 2003 and the resulting strict control
      over dairy producers (quality and ingredient contains) drove many unscrupulous
      Dairy producers and their tainted dairy products out of the market. Consumers
      concentrated on dairy products produced by such reputable dairy producers as
      Feihe Dairy





Cost
      of
      Goods Sold. Cost of goods sold increased 14% or $2,274,000 from $15,733,000
      in
      2003 to $18,007,000 in 2004. This increase is due primarily to a 28% increase
      in
      sales volume offset in part by a 38% improvement in unit gross profit margins
      from $1.04 kilogram in 2003 to $1.44 per kilogram in 2004. The improved gross
      profit margins were due to increases in sales of high gross profit product
      and
      improved manufacturing efficiencies which were obtained as new processing
      facilities came on line during the year, offset in part by an overall 10%
      increase in the cost of raw materials.





Distribution
      Expenses. Distribution expenses for the year ended December 31, 2004 were
      $13,486,000, an increase of $5,587,000 or 71% from the prior year's distribution
      expenses of $7,899,000. The principal reasons for the increase were substantial
      increases in advertising expense, distribution salaries, and transportation
      expense which were incurred to expand market areas.





General
      and Administrative Expenses. General and administrative expenses for the year
      ended December 31, 2004 were $1,313,000, a decrease of $357,000 or 21% from
      the
      prior year's general and administrative expenses of $1,670,000. Contributing
      to
      the decrease was that in 2003 the Company took a provision for bad debts of
      $426,000 resulting in an allowance for bad debts of $445,000 on receivables
      totaling $2,178,762. During 2004, the Company had no provision for bad debts,
      had reduced the outstanding receivables balance to $671,000 and had in fact
      recovered $434,000 on accounts which had been previously reserved. This
      improvement was due to the Company’s collection efforts and tightened credit
      policies. Another contributing factor was a reduction in consulting fees
      incurred at the parent company level from 2003 to 2004.




22




Depreciation
      Expense. Depreciation expense for the year ended December 31, 2004 was $55,000
      and $207,000, respectively, for the year ended December 31, 2004, an increase
      of
      $131,000 from the prior year’s depreciation expense of $131,000 which was
      included in operating and administrative expenses. This increase is due
      primarily to substantial additions of buildings, plant and machinery in Feihe
      Dairy and BaiQuan Feihe during 2004.





Interest
      Expense. Interest expense for the year ended December 31, 2004 was $49,000
      as
      compared to only $25,000 for the prior year. This increase was due primarily
      to
      increases in exchange loss and interest expenses arising from short-term loans
      repaid in 2004 and a bank loan to finance the acquisition of the Beijing
      office.





Other
      Income. Other income which consist primarily of VAT tax rebates provided by
      the
      provinces as an economic incentive, increased by $292,000 or 24% from $1,197,000
      in 2003 to $1,489,000 in 2004 due primarily to increased sales
      volumes.




Income
      Taxes. Income tax expense decreased by $601,000 from $339,000 of expense in
      2003
      to $262,000 of income tax benefit in 2004. This was due primarily to reversal
      of
      prior year's tax actual on BiaQuan Dairy which was waived by the taxing
      authorities in 2004.








**Liquidity
      and Capital Resources**





2005





Operating
      Activities. Net cash flows provided by operating activities for the year ended
      December 31, 2005 was $7,927,000 compared with net cash flows provided by
      operating activities of $16,539,000 for the year ended December 31, 2004. This
      decrease in cash flows from operating activities was attributable primarily
      to
      an increase in accounts receivable of $5,176,000, and an increase in inventory
      of $4,580,000.





Sale
      of
      Stock - During the fiscal year ended December 31, 2005, American Dairy realized
      $750,000 from the purchase of its Common Stock by warrant holders pursuant
      to
      the exercise of such warrants.





Working
      Capital - At December 31, 2005, the Company had a negative working capital
      of
      $(1,926,000).




**Contractual
      Obligations**





As
      of
      December 31, 2005, the Company had the following contractual
      obligations:





Payments
                  due by periodLess
                  than
              
              1-3
              
              3-5
              
              More
                  thanContractual
                  obligations
              
              Total
              
              1
                  year
              
              years
              
              years
              
              5
                  yearsLong-term
                  debt obligations
              
              $
              5,646,000
              
              $
              102,000
              
              $
              5,184,000
              
              $
              184,000$
              
              
              176,000Purchase
                  obligation for
              
              
              604,000
              
              
              604,000
              
              
              --
              
              
              --
              
              
              --building
                  acquisitionPurchase
                  obligations for
              
              
              273,000
              
              
              6,000
              
              
              12,000
              
              
              12,000
              
              
              243,000land
                  use rightsPurchase
                  obligations for
              
              
              3,429,000
              
              
              3,429,000
              
              
              --
              
              
              --
              
              
              --advertising
                  contractsTotal
              
              $
              9,952,000
              
              $
              4,141,000
              
              $
              5,196,000
              
              $
              196,000
              
              $
              419,000
  23


Based
      upon our short term liabilities, we believe our cash and cash equivalents are
      adequate to satisfy our working capital needs and sustain our ongoing operations
      in the near term. In the event of an unanticipated shortfall, we have access
      to
      a line of credit with the Construction Bank of China to fund our
      operations.





Our
      expansion strategy outlined above under "Plan of Operation" will necessitate
      additional funding most likely through debt or equity financing. In general,
      the
      commitment of funds to the acquisition of plant and equipment tends to impair
      liquidity. However, we believe that because of the upward trend in our revenues
      in recent years, even if this upward trend levels off, our income from
      operations coupled with such additional financing should provide sufficient
      liquidity to meet our needs.





CRITICAL
      ACCOUNTING POLICIES





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 and our disclosure
      of contingent assets and liabilities at the date of our financial statements.
      We
      routinely evaluate these estimates, utilizing historical experience,
      consultation with experts and 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.





In
      preparing our consolidated financial statements and related disclosures, we
      must
      use estimates in determining the economic useful lives of our assets, the fair
      values used to determine possible asset impairment charges, provisions for
      uncollectible accounts receivable, exposures under contractual indemnifications
      and various other recorded or disclosed amounts. However, we believe that
      certain accounting policies are of more significance in our consolidated
      financial statement preparation process than others, which policies are
      discussed following. See also Note 3 to the consolidated financial statements
      for a summary of our significant accounting policies.





Estimates
      of Allowances for Bad Debts - The Company must periodically review its trade
      and
      other receivables to determine if all are collectible or whether an allowance
      is
      required for possible uncollectible balances.





Estimate
      of the useful lives of property and equipment - The Company must estimate the
      useful lives and proper salvage values of property and equipment. The Company
      must also review it property and equipment for possible impairment or
      obsolescence.





Inventory
      - The Company must determine whether it has any obsolete or impaired
      inventory.





Please
      refer to the Notes to the financial statements included elsewhere in this filing
      for a more complete listing of all of the Company's critical accounting
      policies.





New
      Accounting Pronouncements





In
      April
      2003, the FASB issued SFAS No. 149, "Amendment of Statement 133 on Derivative
      Instruments and Hedging Activities (SFAS 149)". SFAS 149 amends and clarifies
      certain derivative instruments embedded in other contracts, and for hedging
      activities under SFAS 133. SFAS 149 is effective for certain contracts entered
      into or modified by the Company after June 30, 2003. The adoption of SFAS 149
      had no impact on the Company's financial position, results of operations, or
      cash flows.




24




In
      May
      2003, the FASB issued SFAS No. 150, "Accounting for Instruments with
      Characteristics of Both Debt and Equity" (SFAS 150). Statement 150 requires
      liability classification for three types of instruments: 1) Mandatory redeemable
      shares that obligate the company to deliver cash or other assets to shareholders
      on fixed or determinable dates; 2) Freestanding written put options and forward
      purchase contracts on a company's own shares that obligate the company to
      deliver cash or other assets, and 3) Contracts that obligate a company to issue
      its own shares in amounts that are unrelated to, or inversely related to, the
      value of the shares. The adoption of SFAS 150 had no impact on the Company's
      financial position, results of operations, or cash flows.





In
      November 2004, the FASB issued SFAS No. 151 "Inventory Costs - an amendment
      of
      ARB No. 43, Chapter 4". Statement No. 151 requires that certain abnormal costs
      associated with the manufacturing, freight, and handling costs associated with
      inventory be charged to current operations in the period in which they are
      incurred. The adoption of SFAS 151 had no impact on the Company's financial
      position, results of operations, or cash flows.





In
      December 2004, the FASB issued a revision of SFAS No. 123 "Share-Based Payment".
      The statement establishes standards for the accounting for transactions in
      which
      an entity exchanges its equity investments for goods and services. It also
      addresses transactions in which an entity incurs liabilities in exchange for
      goods or services that are based on the fair value of the entity's equity
      instruments or that may be settled by the issuance of those equity instruments.
      The statement does not change the accounting guidance for share-based payments
      with parties other than employees.





The
      statement requires a public entity to measure the cost of employee service
      received in exchange for an award of equity instruments based on the grant-date
      fair value of the award (with limited exception). That cost will be recognized
      over the period during which an employee is required to provide service in
      exchange for the award (usually the vesting period). A public entity will
      initially measure the cost of employee services received in exchange for an
      award of liability instrument based on its current fair value; the fair value
      of
      that award will be remeasured subsequently at each reporting date through the
      settlement date. Changes in fair value during the requisite service period
      will
      be recognized as compensation over that period.





The
      grant-date for fair value of employee share options and similar instruments
      will
      be estimated using option- pricing models adjusted for the unique
      characteristics of these instruments.





The
      statement was effective for the quarter beginning January 1, 2006. The Company
      adopted SFAS 123R on January 1, 2006 using the modified prospective method.
      The
      Company has no outstanding stock options or unvested stock compensation and
      SFAS
      123R had no effect on the consolidated financial statements.





SFAS
      No.
      152 "Accounting for Real Estate Time Sharing Transactions", SFAS No. 153
      "Exchange of Nonmonetary Assets", SFAS No. 154 "Accounting for Changes and
      Error
      Corrections", SFAS No. 155 "Accounting for Certain Hybrid Financing Instruments",
      and SFAS No. 156 "Accounting for Servicing of Final Assets" were recently issued
      but have no current applicability to the Company and have no effect on the
      consolidated financial statements.







***
      Item 7A. Quantitative and Qualitative Disclosures About Market
      Risk**




All
      of
      the operations of American Dairy are conducted in The People's Republic of
      China
      (the "PRC"), and the Renminbi is the national currency in which its operations
      are conducted. American Dairy has not utilized any derivative financial
      instruments or any other financial instruments, nor does it utilize any
      derivative commodity instruments in its operations, nor any similar market
      sensitive instruments.




The
      exchange rate between the Renminbi and the U.S. dollar is subject to the PRC
      foreign currency conversion policies which may change at any time. The exchange
      rate at December 31, 2005, was 8.11 Renminbi to 1 U.S. dollar, and the exchange
      rate is currently permitted to float within a very limited range. See Item
      1A -
      Risks of Doing Business in China.




***
      Item 8. Financial Statements and Supplementary Data**




Please
      see the accompanying Financial Statements attached hereto beginning on page
      F-1.





25





**REPORT
      OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM**




**TO
      THE BOARD OF DIRECTORS**


**AMERICAN
      DAIRY, INC.**




We
      have
      audited the accompanying consolidated balance sheets of American Dairy, Inc.
      and
      subsidiaries (the "Company") as of December 31, 2005 and 2004 and the related
      consolidated statements of operations, stockholders' equity and cash flows
      for
      each of the three years in the period ended December 31, 2005. These
      consolidated financial statements are the responsibility of the Company's
      management. Our responsibility is to express an opinion on these consolidated
      financial statements based on our audits.




We
      conducted our audits in accordance with 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 the financial
      statements are free of material misstatement. The Company is not required,
      nor
      have we been engaged to perform, an audit of its internal control over financial
      reporting. Our audit included consideration of internal control over financial
      reporting as a basis for designing audit procedures that are appropriate in
      the
      circumstances, but not for the purpose of expressing an opinion on the
      effectiveness of the Company's internal control over financial reporting.
      Accordingly, we express no such opinion. 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 American Dairy, Inc. and
      subsidiaries as of December 31, 2005 and 2004 and the results of their
      operations and cash flows for each of the three years in the period ended
      December 31, 2005, in conformity with accounting principles generally accepted
      in the United States of America.




/s/
              Murrell, Hall, McIntosh & Co., PLLPOklahoma City, OklahomaMarch
                12, 2006







F-1





**AMERICAN
      DAIRY INC.**


**CONSOLIDATED
      BALANCE SHEETS**


**AS
      OF DECEMBER 31, 2005 AND 2004**


ASSETS2005
              
              2004Current
                  assets:Cash
              
              $
              12,958,000
              
              $
              6,645,000Accounts
                  receivableTrade-net
                  of
                  allowance for bad debts of $309,461 and $0, respectively
              
              
              4,133,000
              
              
              671,000Employees
              
              
              488,000
              
              
              267,000Other
              
              
              1,517,000
              
              
              333,000Commercial
                  note
                  receivable - secured
              
              
              --
              
              
              218,000Inventories
              
              
              9,622,000
              
              
              5,042,000Prepaid
                  expenses
              
              
              875,000
              
              
              565,000Advances
                  to
                  suppliers
              
              
              1,216,000
              
              
              308,000Other
                  tax refundable
              
              
              501,000
              
              
              37,000Total
                  current assets
              
              
              31,310,000
              
              
              14,086,000Property
                  and equipment:Fixed
                  assets, net of accumulated depreciation
              
              
              34,686,000
              
              
              9,027,000Construction
                  in
                  progress
              
              
              3,374,000
              
              
              14,721,00038,060,000
              
              
              23,748,000Total
                  assets
              
              $
              69,370,000
              
              $
              37,834,000
 See
        accompanying summary of accounting policies and notes to financial
        statements.








F-2


**AMERICAN
      DAIRY INC.**


**CONSOLIDATED
      BALANCE SHEETS**


**AS
      OF DECEMBER 31, 2005 AND 2004**


LIABILITIES
                  AND STOCKHOLDERS' EQUITY2005
              
              2004Current
                  liabilities:Accounts
                  payable and accrued expenses
              
              $
              11,855,000
              
              $
              9,034,000Current
                  portion of long term debt
              
              
              102,000
              
              
              118,000Advances
                  from
                  related parties
              
              
              933,000
              
              
              1,142,000Advances
                  from
                  employees
              
              
              948,000
              
              
              654,000Deferred
                  income
              
              
              12,074,000
              
              
              9,694,000Short-term
                  notes and loans payable
              
              
              7,324,000
              
              
              242,000Total
                  current liabilities
              
              
              33,236,000
              
              
              20,884,000Long
                  term debt, net of current portion shown above
              
              
              5,543,000
              
              
              598,000Minority
                  interest
              
              
              494,000
              
              
              180,000Stockholders'
                  equity:Common
                  stock, $.001 par value; 50,000,000 shares authorized;14,132,824
                  and
                  13,556,356 shares issued andoutstanding
                  at
                  December 31, 2005 and 2004, respectively
              
              
              14,000
              
              
              14,000Additional
                  paid-in capital
              
              
              9,209,000
              
              
              7,519,000Retained
                  earnings
              
              
              20,269,000
              
              
              8,639,000Accumulated
                  other comprehensive income
              
              
              605,000
              
              
              --Total
                  stockholders' equity
              
              
              30,097,000
              
              
              16,172,000Total
                  liabilities and stockholders' equity
              
              $
              69,370,000
              
              $
              37,834,000


See
      accompanying summary of accounting policies and notes to financial
      statements.








F-3


**AMERICAN
      DAIRY INC.**


**CONSOLIDATED
      STATEMENTS OF OPERATIONS**


**FOR
      THE YEARS ENDED DECEMBER 31, 2005, 2004, AND 2003**


2005
              
              2004
              
              2003SALES
              
              $
              68,024,000
              
              $
              37,416,000
              
              $
              26,636,000COST
                  OF GOODS SOLD
              
              
              38,716,000
              
              
              18,007,000
              
              
              15,733,000Gross
                  Profit
              
              
              29,308,000
              
              
              19,409,000
              
              
              10,903,000OPERATING
                  AND ADMINISTRATIVEEXPENSES:Distribution
                  expenses
              
              
              16,743,000
              
              
              13,486,000
              
              
              7,899,000General
                  and administrative expenses
              
              
              2,483,000
              
              
              1,313,000
              
              
              1,670,000Depreciation
              
              
              161,000
              
              
              55,000
              
              
              131,00019,387,000
              
              
              14,854,000
              
              
              9,700,000Income
                  from operations
              
              
              9,921,000
              
              
              4,555,000
              
              
              1,203,000OTHER
                  INCOME (EXPENSE):Other
                  income (expenses)
              
              
              2,221,000
              
              
              1,489,000
              
              
              1,197,000Gain
                  on disposal of assets
              
              
              9,000
              
              
              1,000
              
              
              --Interest
                  and finance costs
              
              
              (523,000
              )
              
              (49,000
              )
              
              (25,000
              )1,707,000
              
              
              1,441,000
              
              
              1,172,000MINORITY
                  INTEREST
              
              
              2,000
              
              
              --
              
              
              --INCOME
                  BEFORE INCOME TAXES
              
              
              11,630,000
              
              
              5,996,000
              
              
              2,375,000(PROVISION
                  FOR) BENEFIT FROMINCOME
                  TAXES
              
              
              --
              
              
              262,000
              
              
              (339,000
              )NET
                  INCOME
              
              
              11,630,000
              
              
              6,258,000
              
              
              2,036,000Other
                  comprehensive income:Foreign
                  currency translation adjustment
              
              
              605,000
              
              
              --
              
              
              --TOTAL
                  COMPREHENSIVE INCOME
              
              $
              12,235,000
              
              $
              6,258,000
              
              $
              2,036,000BASIC
                  NET INCOME PER COMMON SHARE
              
              $
              0.83
              
              $
              0.52
              
              $
              0.19WEIGHTED
                  AVERAGE BASIC SHARES OUTSTANDING
              
              
              13,931,000
              
              
              12,077,000
              
              
              10,536,000DILUTED
                  NET INCOME PER COMMON SHARE
              
              $
              0.74
              
              $
              0.47
              
              $
              0.19WEIGHTED
                  AVERAGE DILUTED SHARES OUTSTANDING
              
              
              16,057,000
              
              
              13,456,000
              
              
              10,536,000




See
      accompanying summary of accounting policies and notes to financial
      statements.






F-4





**AMERICAN
      DAIRY, INC.**


**CONSOLIDATED
      STATEMENTS OF STOCKHOLDERS' EQUITY**


**FOR
      THE YEARS ENDED**  **DECEMBER
      31, 2005, 2004, AND 2003**




Common
                    StockAccumulatedNumber
                
                $
                    0.001
                
                Additional
                
                
                
                Otherof
                
                par
                
                Paid-In
                
                Retained
                
                ComprehensiveShares
                
                Value
                
                Capital
                
                Earnings
                
                Income
                
                TotalsBalance,
                    December 31, 2002
                
                
                9,785,530
                
                $
                10,000
                
                $
                (6,000
                )
                $
                344,000
                
                $
                --
                
                $
                348,000Share
                    issued for consulting andsyndication services
                
                
                240,000
                
                
                --
                
                
                270,000
                
                
                --
                
                
                --
                
                
                270,000Share
                    issued in exchange forconversion of shareholder loans
                
                
                933,155
                
                
                1,000
                
                
                1,865,000
                
                
                --
                
                
                --
                
                
                1,866,000Stock
                    issued for cash
                
                
                792,285
                
                
                1,000
                
                
                1,499,000
                
                
                --
                
                
                --
                
                
                1,500,000Less
                    offering costs
                
                
                --
                
                
                --
                
                
                (401,000
                )
                
                --
                
                
                --
                
                
                (401,000
                )Net
                    income for the year endedDecember 31, 2003
                
                
                --
                
                
                --
                
                
                --
                
                
                2,037,000
                
                
                --
                
                
                2,037,000Balance,
                    December 31, 2003
                
                
                11,750,970
                
                
                12,000
                
                
                3,227,000
                
                
                2,381,000
                
                
                --
                
                
                5,620,000Stock
                    issued for services
                
                
                46,000
                
                
                --
                
                
                97,000
                
                
                --
                
                
                --
                
                
                97,000Stock
                    issued for cash
                
                
                1,759,384
                
                
                2,000
                
                
                4,672,000
                
                
                --
                
                
                --
                
                
                4,674,000Less
                    offering costs
                
                
                --
                
                
                --
                
                
                (477,000
                )
                
                --
                
                
                --
                
                
                (477,000
                )Net
                    income for the year endedDecember 31, 2004
                
                
                --
                
                
                --
                
                
                --
                
                
                6,258,000
                
                
                --
                
                
                6
                    ,258,000Balance,
                    December 31, 2004
                
                
                13,556,354
                
                
                14,000
                
                
                7,519,000
                
                
                8,639,000
                
                
                --
                
                
                16,172,000Stock
                    issued for cash
                
                
                428,570
                
                
                --
                
                
                750,000
                
                
                --
                
                
                --
                
                
                750,000Stock
                    issued for services
                
                
                147,900
                
                
                --
                
                
                940,000
                
                
                --
                
                
                --
                
                
                940,000COMPREHENSIVE
                    INCOME:Foreign
                    currency translationadjustments
                
                
                --
                
                
                --
                
                
                --
                
                
                --
                
                
                605,000
                
                
                605,000Net
                    income for the year endedDecember 31, 2005
                
                
                --
                
                
                --
                
                
                --
                
                
                11,630,000
                
                
                --
                
                
                11,630,000Balance,
                    December 31, 2005
                
                
                14,132,824
                
                $
                14,000
                
                $
                9,209,000
                
                $
                20,269,000
                
                $
                605,000
                
                $
                30,097,000




See
      accompanying summary of accounting policies and notes to financial
      statements.








F-5


**AMERICAN
      DAIRY INC.**


**CONSOLIDATED
      STATEMENTS OF CASH FLOWS**


**FOR
      THE YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003**




2005
              
              2004
              
              2003CASH
                  FLOWS FROM OPERATING ACTIVITIES:Net
                  income
              
              
              11,630,000
              
              
              6,258,000
              
              $
              2,037,000Adjustments
                  to reconcile net income to operating activities -Depreciation
              
              
              1,001,000
              
              
              262,000
              
              
              131,000Provision
                  for
                  doubtful accounts
              
              
              310,000
              
              
              84,000
              
              
              426,000Compensation
                  expense for stock issued
              
              
              940,000
              
              
              97,000
              
              
              180,000Gain
                  on
                  disposal of assets
              
              
              (9,000
              )
              
              (1,000
              )
              
              --Changes
                  in assets and liabilites:(Increase)
                  decrease in -Accounts
                  and
                  notes receivable
              
              
              (5,176,000
              )
              
              538,000
              
              
              1,681,000Inventories
              
              
              (4,580,000
              )
              
              32,000
              
              
              (3,086,000
              )Prepaid
                  expenses
              
              
              (310,000
              )
              
              673,000
              
              
              (11,000
              )Advances
                  to
                  suppliers
              
              
              (909,000
              )
              
              322,000
              
              
              (630,000
              )Other
                  tax refundable
              
              
              (464,000
              )
              
              522,000
              
              
              (458,000
              )Increase
                  (decrease) in -Accounts
                  payable and accrued expenses
              
              
              3,115,000
              
              
              2,533,000
              
              
              3,532,000Deferred
                  income
              
              
              2,379,000
              
              
              4,827,000
              
              
              2,071,000Tax
                  payable
              
              
              --
              
              
              212,000
              
              
              164,000Net
                  cash provided by operating activities
              
              
              7,927,000
              
              
              16,359,000
              
              
              6,037,000CASH
                  FLOWS FROM INVESTING ACTIVITIES:Purchase
                  of
                  fixed assets
              
              
              (15,327,000
              )
              
              (5,241,000
              )
              
              (3,672,000
              )Payments
                  received on note receivable
              
              
              217,000
              
              
              --
              
              
              --Disposal
                  of
                  assets
              
              
              24,000
              
              
              33,000
              
              
              88,000Cash
                  received in merger and recapitalization
              
              
              --
              
              
              --
              
              
              18,000Deposit
                  on land, building and equipment
              
              
              --
              
              
              418,000
              
              
              (418,000
              )Contributions
                  by minority interest
              
              
              313,000
              
              
              180,000
              
              
              --Construction
                  in
                  progress
              
              
              --
              
              
              (12,686,000
              )
              
              (2,035,000
              )Net
                  cash used in investing activities
              
              
              (14,773,000
              )
              
              (17,294,000
              )
              
              (6,019,000
              )CASH
                  FLOWS FROM FINANCING ACTIVITIES:Proceeds
                  from
                  short-term debt
              
              
              8,549,000
              
              
              1,660,000
              
              
              483,000Proceeds
                  from
                  long-term debt
              
              
              5,000,000
              
              
              --
              
              
              --Repayments
                  of
                  short-term debt
              
              
              (1,466,000
              )
              
              (1,186,000
              )
              
              --Repayments
                  of
                  long-term debt
              
              
              (70,000
              )
              
              --
              
              
              --(Repayment
                  of)
                  advance from shareholder
              
              
              (209,000
              )
              
              233,000
              
              
              (53,000
              )Sale
                  of
                  common stock and capital contribution
              
              
              750,000
              
              
              4,673,000
              
              
              1,500,000Payment
                  of offering costs
              
              
              --
              
              
              (477,000
              )
              
              (396,000
              )Purchase
                  obligation (repayment)
              
              
              --
              
              
              (362,000
              )
              
              363,000Net
                  cash provided by financing activities
              
              
              12,554,000
              
              
              4,541,000
              
              
              1,897,000Effect
                  of exchange rate change on cash and cash equivalents
              
              
              605,000
              
              
              --
              
              
              --NET
                  INCREASE IN CASH AND EQUIVALENTS
              
              
              5,708,000
              
              
              3,604,000
              
              
              1,915,000CASH
                  AND CASH EQUIVALENTS, BEGINNING OF PERIOD
              
              
              6,645,000
              
              
              3,041,000
              
              
              1,126,000CASH
                  AND CASH EQUIVALENTS, END OF PERIOD
              
              $
              12,958,000
              
              $
              6,645,000
              
              $
              3,041,000SUPPLEMENTAL
                  DISCLOSURES OF CASH FLOW INFORMATION:Interest
                  paid,
                  net of capitalized amounts
              
              $
              139,000
              
              $
              37,000
              
              $
              20,000Income
                  taxes paid
              
              $
              --
              
              $
              --
              
              $
              339,000




See
      accompanying summary of accounting policies and notes to financial
      statements.








F-6





**SUPPLEMENTAL
      DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:**




During
      the years ended December 31, 2005, 2004, and 2003, the Company issued for
      services rendered 147,900, 46,000, and 240,000 common shares, valued at
      $940,240, $96,600, and $270,000, respectively.




During
      2005, $11,347,000 of construction costs were transferred from construction
      in
      progress to fixed assets.




During
      the year ended December 31, 2004, the Company issued 523,305 warrants to
      underwriters as additional consideration for funds raised in private placements
      during the year. The exercise price on these warrants ranged from $1.50 per
      share to $2.70 per share and all had a three year life. The fair market value
      at
      the date of issuance of these warrants totalled $862,245. The effect of the
      issuance is to increase additional paid in capital by the fair value of the
      warrants issued with an offset to additional paid in capital in the same amount,
      since offering costs are treated as reductions in additional paid in
      capital.




During
      2004, the net assets of Sanhao Dairy were transferred to Feihe Dairy by way
      of
      distribution to members effective July 1, 2004.




See
      accompanying summary of accounting policies and notes to financial
      statements.







F-7


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




1.
      DESCRIPTION OF BUSINESS




**ORGANIZATIONAL
      STRUCTURE**




American
      Dairy, Inc. ("American Dairy" or the "Company") was incorporated in the State
      of
      Utah on December 31, 1985, originally with the 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. During 2003, the Company changed its name
      to
      American Dairy, Inc.




Effective
      May 7, 2003, American Dairy completed the acquisition of 100% of the issued
      and
      outstanding capital stock of American Flying Crane Corporation ("AFC"), a
      Delaware corporation. As a result, AFC became a wholly owned subsidiary of
      American Dairy.




AFC
      was
      incorporated on January 15, 2002 in Delaware, with 50,000,000 authorized shares
      of common stock at a par value of $0.0001 per share and 10,000 of which
      authorized shares are currently issued and outstanding. AFC owns 100% of the
      registered capital of Heilongjiang Feihe Dairy Co., Limited ("Feihe Dairy")
      and
      Feihe Dairy in turn owns 100% of the registered shares of BaiQuan Feihe Dairy
      Co. Limited ("BaiQuan Dairy") and Heilongjiang Sanhao Dairy Co., Limited
      ("Sanhao Dairy") which was liquidated into BaiQuan Dairy during 2004, and 95%
      of
      Beijing Feihe Biotechnology Scientific and Commercial Co., Limited (Beijing
      Feihe) with the other 5% being held in trust for the Company. AFC also owns
      60%
      of the registered capital of Shanxi Feihesantai Biotechnology Scientific and
      Commercial Co., Limited (Shanxi) formed to develop and operating a walnut
      processing plant.




Currently,
      the principal core activity of AFC is investment holdings, while the principal
      core activities of Feihe Dairy, Sanhao Dairy and BiaQuan Dairy are manufacturing
      and distribution of dairy products under the Feihe trademarks. The principal
      core activity of Shanxi is the production and distribution of walnut powder.
      Shanxi commenced operations in October 2005. The subsidiaries' principal country
      of operations is the People's Republic of China ("PRC").




Included
      in the consolidated financial statements are the following
      subsidiaries:




o
      American Flying Crane Corporation


o
      Heilongjiang Feihe Dairy Co., Limited


o
      BaiQuan
      Feihe Dairy Co., Limited


o
      Beijing
      Feihe Biotechnology Scientific and Commercial Co., Limited


o
      Shanxi
      Feihesantai Biotechnology Scientific and Commercial Co., Limited




2.
      BASIS
      OF PREPARATION OF FINANCIAL STATEMENTS





The
      Company's consolidated financial statements include the accounts of American
      Dairy, Inc., its wholly-owned subsidiaries, AFC, Feihe Dairy, Beijing Feihe,
      and
      BaiQuan Feihe and its 60% owned subsidiary, Shanxi Feihe. The consolidated
      financial statements are prepared in accordance with accounting principles
      generally accepted in the United States of America.





On
      May 7,
      2003, American Dairy, Inc. acquired all of the outstanding common stock of
      American Flying Crane Corporation. For accounting purposes, the acquisition
      has
      been treated as a recapitalization of American Flying Crane Corporation with
      American Flying Crane Corporation as the acquirer. The historical financial
      statements presented both before and after May 7, 2003 are those of American
      Flying Crane Corporation.







F-8


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


**** DECEMBER
      31, 2005





On
      December 31, 2002, American Dairy, Inc. (formerly Lazarus Industries
      Inc.("Lazarus")) had 7,485,147 shares issued and outstanding. In preparation
      for
      the acquisition of AFC, Lazarus did a 19 to 1 stock split which reduced the
      shares outstanding by 7,090,994 shares. This was followed by the repurchase
      of
      an additional 258,623 shares by Lazarus for $20,000 leaving 135,530 shares
      outstanding. On May 7, 2003, Lazarus issued 9,650,000 shares of its common
      stock
      for the acquisition of 100% of the outstanding stock of AFC.





In
      accordance with the requirements of SEC Accounting and Disclosure Rules and
      Practices Appendix B, the May 7, 2003 transaction was treated as a
      recapitalization of AFC as it was deemed to be the accounting acquirer.
      Furthermore, in accordance with the requirements of Current Issue and Rulemaking
      Projects ("CIRP") T.VI.G-11-98, the historical financial statements prior to
      the
      acquisition are those of the accounting acquirer, although (in absence of a
      name
      change) they are labeled as those of the issuer. Therefore, for financial
      reporting purposes, the recapitalized financial statements of AFC were rolled
      back. As of December 31, 2002, the common shares outstanding include the
      9,650,000 shares issued to the AFC shareholders plus the 135,530 shares still
      owned by the original Lazarus shareholders for a total of 9,785,530
      shares.




3.
      SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES




The
      following is a summary of significant accounting policies:




CONSOLIDATION
      POLICY - All significant inter-company transactions and balances within the
      Company are eliminated on consolidation.




CASH
      AND
      EQUIVALENTS - The Company considers all highly liquid debt instruments purchased
      with maturity period of three months or less to be cash equivalents. The
      carrying amounts reported in the accompanying consolidated balance sheet for
      cash and cash equivalents approximate their fair value.




ACCOUNTS
      RECEIVABLE - Provision is made against accounts receivable to the extent which
      they are considered to be doubtful. Accounts receivable in the balance sheet
      is
      stated net of such provision.





INVENTORIES
      - Inventories comprise raw materials, consumables and goods held for resale
      and
      are stated at the lower of cost or market value. Cost is calculated using the
      weighted average method and includes any overhead costs incurred in bringing
      the
      inventories to their present location and condition. Overhead costs included
      in
      finished goods inventory include direct labor cost and other costs directly
      applicable to the manufacturing process, including utilities, supplies, repairs
      and maintenances, and depreciation expense.





Market
      value represents the estimated selling price in the ordinary course of business
      less the estimated costs necessary to complete the sale.





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
      the
      interest capitalized during the course of construction for the purpose of
      financing the project. Upon completion and readiness for use of the project,
      the
      cost of construction-in-progress is to be transferred to fixed
      assets.




PROPERTY
      AND EQUIPMENT - 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 less anticipated salvage values of 10% for financial
      statement purposes. Land use rights are being amortized on a straight-line
      basis
      over the term of the use agreement. The estimated useful lives for significant
      property and equipment categories are as follows:







F-9


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


**** DECEMBER
      31, 2005





Buildings
            
            33
                yearsPlant and machinery
            
            20
                yearsMotor vehicles
            
            9
                yearsComputers and equipment
            
            5
                years





The
      Company 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. Based on this assessment there was
      no
      impairment at December 31, 2005 or for the three years then ended.




DEFERRED
      REVENUES - Revenue from the sale of goods or services is recognized when goods
      are delivered or services are rendered. Receipts in advance for goods to be
      delivered or services to be rendered in the subsequent year are carried forward
      as deferred revenue.




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 delivered to customers and the title has passed. During 2005, one
      customer represented 15% of sales. No customer represented over 10% of sales
      in
      2004 and 2003.




Interest
      income is recognized when earned, taking into account the principal amounts
      outstanding and the interest rates applicable.




Other
      income includes compensation received from the State Bureau as incentive to
      relocate from the previous factory premises, value added tax rebates, profit
      from the sales of raw materials to third parties and write back of long
      outstanding trade payables.




FOREIGN
      CURRENCIES - The Company's principal country of operations is in The People's
      Republic of China. The financial position and results of operations of the
      Company are determined using the local currency ("Renminbi" or "Yuan") as the
      functional currency. The results of operations denominated in foreign currency
      are translated at the 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 ruling 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 the reporting currency ("US Dollars") are dealt with as an
      exchange fluctuation reserve in shareholders' equity.







F-10


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




Historically
      the local currency's exchange rate had been tied to the US Dollar at a rate
      of
      approximately 8.28 Yuan per US Dollar. Effective July 21, 2005 the Yuan was
      revalued to an effective exchange rate of approximately 8.11 Yuan per US Dollar.
      Subsequent to the revaluation the Yuan has been allowed to float within a
      specified range. As of December 31, 2005 the exchange rate was 8.11 Yuan per
      US
      Dollar.





TAXATION
      - In accordance with the requirements of Statement of Financial accounting
      Standards No. 109 "Accounting Form Income Taxes", deferred tax assets and
      liabilities are recognized for the future tax consequences attributable to
      differences between the financial statement carrying amounts of existing assets
      and liabilities and their respective tax bases. Deferred tax assets, including
      tax loss and credit carryforwards, and liabilities are measured using enacted
      tax rates expected to apply to taxable income in the years in which those
      temporary differences are expected to be recovered or settled. The effect on
      deferred tax assets and liabilities of a change in tax rates is recognized
      in
      income in the period that includes the enactment date. Deferred income tax
      expense represents the change during the period in the deferred tax assets
      and
      deferred tax liabilities. The components of the deferred tax assets and
      liabilities are individually classified as current and non-current based on
      their characteristics. Deferred tax assets are reduced by a valuation allowance
      when, in the opinion of management, it is more likely that not that some portion
      or all of the deferred tax assets will not be realized. For the years ended December 31, 2005, 2004, and 2003,
      Feihe Dairy enjoyed a 100% tax holiday from enterprise income taxes. Therefore
      the only timing differences giving rise to deferred income taxes during these
      periods was the tax effect of the net operating loss carryforward at the parent
      company level, which was subject to a 100% valuation allowance.





A
      provision has not been made at December 31, 2005 for U.S. or additional foreign
      withholding taxes on approximately $25,224,000 of undistributed earnings of
      foreign subsidiaries because it is the present intention of management to
      reinvest the undistributed earnings indefinitely in foreign operations.
      Generally, such earnings become subject to U.S. tax upon the remittance of
      dividends and under certain other circumstances. It is not practicable to
      estimate the amount of deferred tax liability on such undistributed
      earnings.





Enterprise
      income tax ("EIT") is provided on the basis of the statutory profit for
      financial reporting purposes, adjusted for income and expense items, which
      are
      not assessable or deductible for income tax purposes. Under the Business
      Promotion Policy Concerning Income Tax on Foreign Enterprises promulgated by
      the
      QiQiHaEr City Municipal Government, foreign owned enterprises registered in
      QiQiHaEr City are entitled to a tax holiday of seven years for full EIT
      exemption as though the EIT has been paid during the tax holiday periods. The
      preferential tax treatment commenced in 2003 and will expire in
      2009.





Value
      added tax





Value
      added tax payable in the PRC is charged on an aggregated basis at a rate of
      13%
      or 17% (depending on the type of goods involved) on the full price collected
      for
      the goods sold or, in the case of taxable services provided, at a rate of 17%
      on
      the charges for the taxable services provided, but excluding, in respect of
      both
      goods and services, any amount paid in respect of value added tax included
      in
      the price or charges, and less any deductible value added tax already paid
      by
      the taxpayer on purchases of goods and services in the same financial
      year.







F-11


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




During
      2003, 2004, and 2005, the Kendong County Government had a policy of refunding
      amounts equal to 50% of the value added tax paid as an economic incentive to
      support the local economy through the employment the Company provides at its
      production facilities. These refunds which amounted to $1,502,127, $1,144,060
      and $942,907 for the fiscal years ended December 31, 2005, 2004, and 2003
      respectively are reflected in other income on the financial
      statements.




PRODUCT
      DISPLAY FEES - The Company has entered into a number of agreements with the
      resellers of its products, whereby the Company pays the reseller an agreed
      upon
      amount to display its products. As prescribed by the Emerging Issues Task Force
      Issue 01-09: Accounting for Consideration Given by a Vendor to a Customer,
      the
      Company has reduced sales by the amounts paid under these agreements. For the
      years ended December 31, 2005 and 2004 these totaled $1,800,000 and $1,922,000
      respectively.




ADVERTISING
      COSTS - Advertising costs are charged to operations when incurred. Advertising
      expense totaled $3,394,000, $2,753,000, and $1,633,000 during the years ended
      December 31, 2005, 2004, and 2003, respectively.




SHIPPING
      AND HANDLING COSTS - The Company's shipping and handling costs are included
      in
      cost of sales for all periods presented.




RETIREMENT
      BENEFIT COST - 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 and the employees contribute 4% while the Company
      contributes the balance contribution of 16%. Wholly owned foreign enterprises
      are exempted from contribution to the retirement plan.




FAIR
      VALUE OF FINANCIAL STATEMENTS - The carrying amounts of certain financial
      instruments, including cash, accounts receivable, note receivable, other
      receivables, accounts payable, accrued expenses, advances from staff, notes
      payable and other payables approximate their fair values as of December 31,
      2005
      because of the relatively short-term maturity of these instruments.




USE
      OF
      ESTIMATES - The preparation of financial statements in accordance with generally
      accepted accounting principles require management to make estimates and
      assumptions that affect reported amounts of assets and liabilities and
      disclosure of contingent assets and liabilities at the date of the financial
      statements and reported amounts of revenues and expenses during the reporting
      period. Actual results could differ from those estimates.




RECLASSIFICATIONS
      - Certain reclassifications have been made to the prior years' financial
      statements to conform to the current year presentation. These reclassifications
      had no effect on previously reported results of operations or retained
      earnings.









F-12


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




In
      May
      2003, the FASB issued SFAS No. 150, "Accounting for Instruments with
      Characteristics of Both Debt and Equity" (SFAS 150). Statement 150 requires
      liability classification for three types of instruments: 1) mandatory redeemable
      shares that obligate the company to deliver cash or other assets to shareholders
      on fixed or determinable dates; 2) freestanding written put options and forward
      purchase contracts on a company's own shares that obligate the company to
      deliver cash or other assets, and 3) contracts that obligate a company to issue
      its own shares in amounts that are unrelated to, or inversely related to, the
      value of the shares. The adoption of SFAS 150 had no impact on the Company's
      financial position, results of operations, or cash flows.




In
      November 2004, the FASB issued SFAS No. 151 "Inventory Costs - an amendment
      of
      ARB No. 43, Chapter 4". Statement No. 151 requires that certain abnormal costs
      associated with the manufacturing, freight, and handling costs associated with
      inventory be charged to current operations in the period in which they are
      incurred. The adoption of SFAS 151 had no impact on the Company's financial
      position, results of operations, or cash flows.




In
      December 2004, the FASB issued a revision of SFAS No. 123 "Share-Based Payment".
      The statement establishes standards for the accounting for transactions in
      which
      an entity exchanges its equity investments for goods and services. It also
      addresses transactions in which an entity incurs liabilities in exchange for
      goods or services that are based on the fair value of the entity's equity
      instruments or that may be settled by the issuance of those equity instruments.
      The statement does not change the accounting guidance for share-based payments
      with parties other than employees.




The
      statement requires a public entity to measure the cost of employee service
      received in exchange for an award of equity instruments based on the grant-date
      fair value of the award (with limited exception). That cost will be recognized
      over the period during which an employee is required to provide service in
      exchange for the award (usually the vesting period). A public entity will
      initially measure the cost of employee services received in exchange for an
      award of liability instrument based on its current fair value; the fair value
      of
      that award will be remeasured subsequently at each reporting date through the
      settlement date. Changes in fair value during the requisite service period
      will
      be recognized as compensation over that period.




The
      grant-date for fair value of employee share options and similar instruments
      will
      be estimated using option-pricing models adjusted for the unique characteristics
      of these instruments.




The
      statement is effective for the quarter beginning January 1, 2006.




SFAS
      No.
      152 "Accounting for Real Estate Time Sharing Transactions", SFAS No. 153
      "Exchange of Nonmonetary Assets", SFAS No. 154 "Accounting for Changes and
      Error
      Corrections", SFAS No. 155 "Accounting for Certain Hybrid Financing
      Instruments", and SFAS No. 156 "Accounting for Servicing of Financial Assets"
      were recently issued but have no current applicability to the Company and have
      no effect on the consolidated financial statements.









F-13


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




4.
      CONCENTRATIONS OF BUSINESS AND CREDIT RISK





The
      Company maintains certain bank accounts in the PRC which are not protected by
      FDIC
      insurance or other insurance. As of December 31, 2005 the Company held $206,000
      of cash balances within the United States of which $106,000 was in excess
      of
      FDIC insurance limits.





Geographic
      Concentration; Fluctuations in Regional Economic Conditions. Nearly all
      of
      American Dairy's sales are concentrated in China. Accordingly, American Dairy
      is
      susceptible to fluctuations in its business caused by adverse economic conditions
      in this country. American Dairy's products are priced higher than non-premium
      quality dairy products. Although American Dairy believes that the quality,
      freshness, flavor and absence of artificial ingredients in its products compensate
      for this price differential, there can be no assurance that consumers will
      be
      willing to pay more for such products in unfavorable economic conditions,
      or at all. Difficult economic conditions in other geographic areas into
      which American Dairy may expand may also adversely affect its business, operations
      and finances.





The
      Company provides credit in the normal course of business. Substantially all customers
      are located in The People's Republic of China. The Company 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.





Substantially
      all of the Company's fixed assets and operations are located in the
      Peoples Republic of China.





The
      Company is self-insured for all risks and carries no liability or property insurance
      coverage of any kind.





Substantially
      all of the Company's profits are generated from operations in mainland
      China.





Payments
      of dividends may be subject to some restrictions; therefore in accordance
      with Rule 504/4.08 (e) (3) of Regulation S-X, the following are condensed
      parent company, only financial statements for the three years ended December
      31, 2005.





AMERICAN
      DAIRY, INC. AND AMERICAN FLYING CRANE


CONDENSED
      PARENT COMPANY ONLY BALANCE SHEETS


AS
      OF
      DECEMBER 31, 2005, 2004, AND 2003





2005
              
              2004
              
              2003Current
                  assets:Cash
              
              $
              216,684
              
              $
              209,347
              
              $
              705,091Accounts
                  receivable, other
              
              
              1,567
              
              
              1,567Prepaid
                  expenses
              
              
              22,500
              
              
              —
              
              
              113,989Total
                  current assets
              
              
              240,751
              
              
              210,914
              
              
              819,080Investment
                  in subsidiaries, reported on equity method
              
              
              40,047,899
              
              
              18,118,753
              
              
              5,886,538Total
                  assets
              
              $
              40,288,650
              
              $
              18,329,667
              
              $
              6,705,618


2005
              
              2004
              
              2003Current
                  liabilities:Accounts
                  payable and accrued expenses
              
              $
              362,153
              
              $
              138,153
              
              $
              12,000Advances
                  from directors
              
              
              1,829,527
              
              
              1,091,364
              
              
              858,418Advances
                  from subsidiaries
              
              
              —
              
              
              928,420
              
              
              214,152Short-term
                  notes and loans payable
              
              
              3,000,000
              
              
              —Total
                  current liabilities
              
              
              5,191,680
              
              
              2,157,937
              
              
              1,084,570Long
                  term debt, net of current portion shown above
              
              
              5,000,000
              
              
              —
              
              
              —Stockholders'
                  equity:Common
                  stock, $.001 par value; 50,000,000 shares authorized; 14,134
                and13,558 shares issued and outstanding atDecember 31, 2005
                and
                  2004, respectively
              
              
              14,134
              
              
              13,558
              
              
              11,571Additional
                  paid-in capital
              
              
              9,208,836
              
              
              7,519,172
              
              
              3,228,297Retained
                  earnings
              
              
              20,269,000
              
              
              8,639,000
              
              
              2,381,000Accumulated
                  other comprehensive income
              
              
              605,000
              
              
              —
              
              
              —Total
                  stockholders' equity
              
              
              30,096,970
              
              
              16,171,730
              
              
              5,621,048Total
                  liabilities and stockholders' equity
              
              $
              40,288,650
              
              $
              18,329,667
              
              $
              6,705,618






F-14




AMERICAN
      DAIRY, INC. AND AMERICAN FLYING CRANE


CONDENSED
      PARENT COMPANY ONLY INCOME STATEMENTS


FOR
      THE
      YEARS ENDED DECEMBER 31, 2005, 2004, AND 2003





2005
              
              2004
              
              2003SALES
              
              $
              —
              
              $
              —
              
              $
              —OPERATING
                  AND ADMINISTRATIVE EXPENSES:General
                  and administrative expenses
              
              
              1,448,656
              
              
              515,149
              
              
              706,164Other
              
              
              69,734
              
              
              34,990
              
              
              —1,518,390
              
              
              550,139
              
              
              706,164Income
                  from operations
              
              
              (1,518,390
              )
              
              (550,139
              )
              
              (706,164
              )OTHER
                  INCOME (EXPENSE):Equity
                  in earnings of unconsolidated subsidiaries
              
              
              13,434,145
              
              
              6,877,949
              
              
              3,065,302Other
                  income (expenses)
              
              
              13,516
              
              
              (65,871
              )
              
              21,862Interest
                  and finance costs
              
              
              (299,271
              )
              
              (3,939
              )
              
              —13,148,390
              
              
              6,808,139
              
              
              3,087,164INCOME
                  BEFORE INCOME TAXES
              
              
              11,630,000
              
              
              6,258,000
              
              
              2,381,000(PROVISION
                  FOR) BENEFIT FROM INCOME
                  TAXES—
              
              
              —
              
              
              —NET
                  INCOME
              
              
              11,630,000
              
              
              6,258,000
              
              
              2,381,000






F-15




AMERICAN
      DAIRY, INC. AND AMERICAN FLYING CRANE


CONDENSED
      PARENT COMPANY ONLY STATEMENTS OF CASH FLOWS


FOR
      THE
      YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003




2005
              
              2004
              
              2003CASH
                  FLOWS FROM OPERATING ACTIVITIES:Net
                  income
              
              $
              11,630,000
              
              $
              6,258,000
              
              $
              2,381,000Adjustments
                  to reconcile net income to operating activities -Less
                  : Equity in earnings of unconsolidatedsubsidiaries
              
              
              (13,434,144
              )
              
              (6,877,949
              )
              
              (3,065,302
              )Compensation
                  expense for stock issued
              
              
              940,240
              
              
              96,600
              
              
              270,000Changes
                  in assets and liabilites:(Increase)
                  decrease in -Accounts and notes receivable
              
              
              —
              
              
              (1,567
              )
              
              —Prepaid
                  expenses
              
              
              (22,500
              )
              
              113,989
              
              
              (113,989
              )Increase
                  (decrease) in -Accounts payable and accrued expenses
              
              
              224,000
              
              
              126,153
              
              
              12,000Net
                  cash (used in) operating activities
              
              
              (662,404
              )
              
              (284,774
              )
              
              (516,291
              )CASH
                  FLOWS FROM INVESTING ACTIVITIES:Investment
                  in subsidiary
              
              
              (7,890,000
              )
              
              (5,112,376
              )
              
              (2,821,236
              )Long-term
                  investment
              
              
              —
              
              
              (241,890
              )
              
              —Net
                  cash (used in) investing activities
              
              
              (7,890,000
              )
              
              (5,354,266
              )
              
              (2,821,236
              )CASH
                  FLOWS FROM FINANCING ACTIVITIES:Advances
                  from director
              
              
              738,162
              
              
              232,946
              
              
              858,418Advances
                  from subsidiary
              
              
              (928,422
              )
              
              714,269
              
              
              214,152Loan
                  proceeds
              
              
              8,000,000
              
              
              —
              
              
              —Offering
                  proceeds
              
              
              750,000
              
              
              4,196,082
              
              
              2,970,048Net
                  cash provided by financing activities
              
              
              8,559,740
              
              
              5,143,297
              
              
              4,042,618Effect
                  of exchange rate change on cash and cash equivalents
              
              
              —
              
              
              —
              
              
              —NET
                  INCREASE (DECREASE) IN CASH AND EQUIVALENTS
              
              
              7,336
              
              
              (495,743
              )
              
              705,091CASH
                  AND CASH EQUIVALENTS, BEGINNING OF PERIOD
              
              
              209,348
              
              
              705,091CASH
                  AND CASH EQUIVALENTS, END OF PERIOD
              
              $
              216,684
              
              $
              209,348
              
              $
              705,091SUPPLEMENTAL
                  DISCLOSURES OF CASH FLOW INFORMATION:Interest
                  paid, net of capitalized amounts
              
              $
              299,271
              
              $
              3,939
              
              $
              —Income
                  taxes paid
              
              $
              —
              
              $
              —
              
              $
              —







F-16





American
      Dairy, Inc. and American Flying Crane


Notes
      to
      Condensed Parent Company Only Financial Statements





Note
      1 -
      These condensed parent company only financial statements should be read in
      connection with the American Dairy consolidated financial statements and notes
      thereto.





Note
      2 -
      Convertible Debt





As
        of December 31, 2005 the Company had two series of convertible
        debt outstanding as described below:





Series
      A
      Convertible notes in the amount of $3,000,000, bearing interest at 6.5% per
      annum, due on April 26, 2006. These notes are convertible to common stock at a
      conversion price of $8.00 per share.





Series
      B
      Convertible notes in the amount of $5,000,000, bearing interest at 7.5% per
      annum, $2,500,000 due on June 30, 2007 and $2,500,000 due on August 14, 2007.
      These notes are convertible to common stock at a conversion price of $10 per
      share.




The
      Series A Notes are reflected in current liabilities as of March 31, 2006 and December
      31, 2005.





As
      of
      March 31, 2006 principal payment due by year for the next five years and thereafter
      on the Series B notes is as follows:




Fiscal
                  year ended December 31
              
              Amount2006
              
              $
              3,000,0002007
              
              
              5,000,0002008
              
              
              —2009
              
              
              —2010
              
              
              —Thereafter
              
              
              —$
              8,000,000





5.
      INVENTORIES




Inventories
      consist of the following as of December 31, 2005 and 2004:




2005
            
            2004Raw
              and partially processed materials
            
            $
            3,215,000
            
            $
            4,073,000Finished
              goods
            
            
            6,407,000
            
            
            969,000$
            9,622,000
            
            $
            5,042,000







6.
      TAX
      REFUNDABLE




Tax
      refundable represents valued added tax refundable from the local governments
      in
      The People's Republic of China.




7.
      TRANSACTIONS WITH RELATED PARTIES




As
      of
      December 31, 2005 and 2004 the Company had the following balances due to its
      officers and directors:





Name
              
              2005
              
              2004Leng
                You-bin
              
              $
              858,000
              
              $
              1,134,000Other
                officers and directors
              
              
              75,000
              
              
              8,000$
              933,000
              
              $
              1,142,000





These
      balances are non-interest bearing and due on demand.






F-17





**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




8.
      FIXED
      ASSETS




During
      2005, the Company completed the acquisition of the assets of Nutricia
      Nutritionals Co., Limited for a total consideration of $7,430,000, of which
      $130,000 was allocated to inventory and the balance of $7,300,000 was allocated
      to buildings and equipment. This acquisition consisted of a production plant
      and
      milk collection centers located in Yushutun and Angangxi Districts.




Fixed
      assets consist of the following as of December 31, 2005 and 2004:




2005
            
            2004Buildings
            
            $
            19,352,000
            
            $
            4,858,000Plant
              and machineries
            
            
            15,513,000
            
            
            3,932,000Motor
              vehicles
            
            
            787,000
            
            
            292,000Computers
              and equipment
            
            
            392,000
            
            
            299,00036,044,000
            
            
            9,381,000Less:
              Accumulated depreciation
            
            
            (1,358,000
            )
            
            (354,000
            )$
            34,686,000
            
            $
            9,027,000





Depreciation
      expense totaled $1,001,000, $261,000, and $131,000, respectively, for the years
      ended December 31, 2005, 2004, and 2003 of which $840,000, $206,000, and $0
      were
      included as a component of cost of goods in the respective periods.





9.
      CONSTRUCTION-IN-PROGRESS




The
      Company had two major construction projects under construction at December
      31,
      2005 and 2004 as detailed below:




2005
            
            2004Feihe
              Dairy processing facilities
            
            $
            2,868,000
            
            $
            10,758,000Shanxi
              walnut processing facility
            
            
            506,000
            
            
            3,963,000$
            3,374,000
            
            $
            14,721,000







10.
      ADVANCES FROM EMPLOYEES




Advances
      from employees represented temporary funding by employees to finance a temporary
      working capital shortfall experienced by the Company. The advances were
      unsecured, interest free and repayable within one year.




11.
      DEFERRED INCOME




Receipts
      in advance represent advances from new customers and for which goods have not
      been delivered as of the balance sheet date. Receipts in advance for goods
      to be
      delivered or services to be rendered in the subsequent year are carried forward
      as deferred revenue.





F-18





**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




12.
      NOTES
      PAYABLE




Short
      term notes and loans payable consist of the following as of December 31, 2005
      and 2004:




2005
            
            2004Note
                payable to a bank, bearing interest at 6.696% perannum,
                secured by plant and machinery, payable inmonthly
                installments
            
            $
            3,082,000
            
            $
            —Series
                A convertible note, bearing interest at 6.5% perAnnum,
                due on April 26, 2006, convertible to common stock at a conversion
                price
                of $8.00 per share
            
            
            3,000,000
            
            
            —Unsecured,
                non-interest bearing obligation to an unrelated company, repayable
                upon
                demand
            
            
            995,000
            
            
            —Unsecured,
                non-interest bearing obligation to countyfinance
                department, with no fixed repayment terms
            
            
            247,000
            
            
            242,000$
            7,324,000
            
            $
            242,000




13.
      LONG-TERM DEBT




Long-term
      debt consists of the following as of December 31, 2005 and 2004:


2005
              
              2004Series
                  B convertible notes, bearing interest at 7.5% per annum, payments
                  $2,500,000 due on June 30, 2007 and August 14, 2007, convertible
                  to common
                  stock at a conversion price of $10,000 per share
              
              $
              5,000,000
              
              $
              —Note
                  payable to a bank, bearing interest at 5.76% per annum, secured
                  by plant
                  and machinery, payable in 96 montly installments
              
              
              635,000
              
              
              685,000Note
                  payable to a finance company, secured by a vehicle payable in 60
                  monthly
                  installments
              
              
              10,000
              
              
              31,0005,645,000
              
              
              716,000Less:
                  current portion of long-term debt
              
              
              (102,000
              )
              
              (118,000
              )$
              5,543,000
              
              $
              598,000


Principal
      payments due by year for the next five years and thereafter on these notes
      are
      as follows:




Fiscal
                  year ended December 31,
              
              Amount2006
              
              $
              102,0002007
              
              
              5,092,0002008
              
              
              92,0002009
              
              
              92,0002010
              
              
              92,000Thereafter
              
              
              175,000$
              5,645,000




F-19




**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




14.
      MINORITY INTEREST




Minority
      interest represents the proportionate share (40%) of equity of Shanxi
      Feihesantai Biotechnology Scientific and Commercial Co., Limited Shanxi) owned
      by Licheng Shantai Technology Enterprises Co., Limited. At December 31, 2005
      and
      2004, the Company owned 60% of Shanxi's registered capital stock.




15.
      CAPITAL STOCK




The
      Company has 50,000,000 shares of authorized Common Stock with a par value of
      $.001 per share.




During
      2003, the Company had stock transactions as detailed below:




In
      anticipation of the merger with AFC, the Company affected a 1 for 19 reverse
      stock split, which decreased the number of shares of outstanding common stock
      from 7,485,147 to 394,168. Then certain shareholders contributed 258,638 shares
      of common stock back to the Company further reducing the outstanding shares
      to
      135,530.




The
      Company issued 9,640,000 shares of restricted common stock in exchange for
      all
      of the outstanding capital stock of AFC.




The
      Company also issued 240,000 shares of common stock and paid $60,000 in cash
      plus
      the obligation to pay another $12,000 in cash in connection with a consulting
      agreement entered into with existing shareholders. This stock was valued at
      $270,000 for financial reporting purposes. The consulting agreement is to cover
      a period of one year commencing May 7, 2003. For financial reporting purposes
      $228,000 was charged to consulting fee expense in 2003 with the balance of
      $114,000 being treated as a prepaid expense at December 31, 2003.




A
      shareholder converted advances to the Company in the amount of $1,866,000 into
      933,155 shares of restricted common stock.




Additionally,
      a total of 792,285 shares of common stock were sold for a total cash
      consideration of $1,500,000. Offering and syndication costs totaling $401,000
      were treated as reductions in additional paid-in capital for financial reporting
      purposes.




During
      2004, the Company had stock transactions detailed below:




The
      Company issued 46,000 shares of its restricted common stock valued at $97,000
      for consulting services.




In
      connection with two private placements, the Company issued 1,759,384 shares
      of
      restricted common stock purchased for total cash consideration of $4,673,000.
      Offering and syndication costs totaling $477,000 were treated as reductions
      in
      additional paid-in capital for financial reporting purposes. The Company also
      issued 1,825,546 warrants in connection with the private placements, 1,302,241
      of which went to the purchasers and 523,305 went to the underwriters as
      additional consideration for funds raised in the private placements. The
      exercise price of these warrants ranged from $1.50 to $3.80 and the warrants
      expire in three years. The 523,305 warrants issued to underwriters had a market
      value at the issuance date of $862,000. The effect of the issuance is to
      increase additional paid-in capital by the fair value of the warrants issued
      with an offset to additional paid in capital in the same amount, since offering
      costs are treated as reductions in additional paid-in capital. No warrants
      were
      exercised during the year ended December 31, 2004.







F-20


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




During
      2005, the Company had stock transactions detailed below:




The
      Company issued 98,900 shares of unrestricted common stock valued at $643,000
      to
      Chinese employees of Feihe Dairy for bonuses, issued pursuant to a Form S-8
      registration statement.




The
      Company issued 428,570 shares of its common stock pursuant to the exercise
      of
      warrants at $1.75 each for a total consideration paid of $750,000.




The
      Company issued 47,000 shares of restricted common stock valued at $286,000
      for
      bonuses to directors and to others for consulting services.




The
      Company issued 2,000 share of unrestricted common stock valued at $11,000 for
      consulting services, issued pursuant to a Form S-8 registration
      statement.





16.
      INCOME TAX




A
      reconciliation of tax at the statutory rates to the Company's effective rate
      are
      as follows:




Year
                Ended December 31,2005
            
            2004
            
            2003Computed
              expected tax expense
            
            $
            4,418,000
            
            $
            2,369,000
            
            $
            903,000Increases
              (reductions) in taxes result
              from:Add
              back effect of U.S. losses
            
            
            686,000
            
            
            245,000
            
            
            277,000Foreign
                income subject to foreignincome
                tax but not expected to besubject
                to U.S. tax in foreseeablefuture
                - Adjustment due to changein
                effective tax rates
            
            
            (492,000
            )
            
            (430,000
            )
            
            (155,000
            )BaiQuan
                Dairy 2003 tax liability waived by
                province
            
            
            —
            
            
            (262,000
            )
            
            —Foreign
                income subject to foreigntax
                holiday but not expected to besubject
                to U.S. tax in foreseeablefuture
            
            
            (4,612,000
            )
            
            (2,184,000
            )
            
            (686,000
            )Actual
              income tax expense (benefit)
            
            $
            —
            
            $
            (262,000
            )
            $
            339,000






Under
      the
      Provisional Regulation of the PRC, income tax is payable by enterprises at
      a
      rate of 33% of their taxable income. Feihe Dairy has been granted a tax holiday
      of seven years for full enterprise income paid during that period. This tax
      holiday will expire in April of 2009. The enterprise taxes paid during 2004
      and
      2003 were accrued (waived) by Sanhao Dairy and BaiQuan Dairy as
      follows:





F-21





**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005






Year
                Ended December 31,2005
            
            2004
            
            2003Sanhao
              Dairy
            
            $
            —
            
            
            —
            
            $
            77,000BaiQuan
              Dairy
            
            
            —
            
            
            (262,000
            )
            
            262,000Total
            
            $
            —
            
            $
            (262,000
            )
            $
            339,000




The
      tax
      holiday resulted in tax savings as follows:




Year
                Ended December 31,2005
            
            2004
            
            2003Approximate
              tax savings
            
            $
            4,612,000
            
            $
            2,455,000
            
            $
            685,000Benefit
              per shareBasic
            
            $
            0.33
            
            $
            0.20
            
            $
            0.07Diluted
            
            $
            0.30
            
            $
            0.18
            
            $
            0.07





The
      Company has a U.S net operating loss carryforward of approximately $2,914,000
      which will begin expiring in 2022. For financial reporting purposes the deferred
      tax asset of $1,137,000 associated with this loss carryforward is fully reserved
      as of December 31, 2005.




Although
      it is not anticipated in the foreseeable future, should the parent company
      receive dividends from its foreign subsidiaries, these dividends would be fully
      taxable, subject to an offset for foreign taxes paid on these earnings. The
      Company has not provided any accrual for any tax liabilities that might be
      incurred for the receipt of dividends from its foreign
      subsidiaries.




17.
      EARNINGS PER SHARE




Statement
      of Financial Accounting Standards No. 128, Earnings Per Share, requires
      presentation of basic and diluted earnings per share (EPS), as defined, on
      the
      face of the statements of operations for all entities with complex capital
      structures. SFAS No. 128 requires a reconciliation of the numerator and
      denominator of the basic and diluted earnings per shares (EPS)
      computations:





F-22





**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




Income
              (Numerator)
            
            Shares
              (Denominator)
            
            Per
                Share
              AmountFor
              the year ended December 31, 2005Basic
              EPS income available to Commonshareholders
            
            $
            11,629,000
            
            
            13,931,006
            
            $
            .83Effect
              of dilutive securities:Warrants
              issued
            
            
            —
            
            
            1,643,533
            
            $
            .08Convertible
              notes
            
            
            304,000
            
            
            482,534
            
            $
            .01Diluted
              EPS income available to Common
              shareholders
            
            $
            11,933,000
            
            
            16,057,073
            
            $
            .74For
              the year endedDecember
              31, 2004Basic
              EPS income available to Common
              shareholders
            
            $
            6,258,000
            
            
            12,077,085
            
            $
            .52Effect
              of dilutive securities:Warrants
              issued
            
            
            
            
            
            1,378,615
            
            $
            .05Diluted
              EPS income available to Common
              shareholders
            
            $
            6,258,000
            
            
            13,455,700
            
            $
            .47For
              the year endedDecember
              31, 2003Basic
              EPS income available to Commonshareholders
            
            $
            2,037,000
            
            
            10,535,964
            
            $
            .19Effect
              of dilutive securities:Warrants
              issued
            
            
            
            
            
            —
            
            
            —Diluted
              EPS income available to Common
              shareholders
            
            $
            2,037,000
            
            
            10,535,964
            
            $
            .19







During
        the year ended December 31, 2005, the Company issued Series A and Series
        B
        Convertible Notes (See Notes 12 and 13). These notes allow the holder to
        convert
        each note to common stock of the Company at any time during the term of the
        note.





F-23


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




18.
      STOCK
      OPTIONS AND WARRANTS




Effective
      May 7, 2003, the Company adopted and approved its 2003 Incentive Stock Plan
      (the
      "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 APB 25 and related interpretations in
      accounting for its plan. Compensation for services that a corporation receives
      under APB 25 through stock-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 of $940,000
      and $97,000 was recorded during the years ended December 31, 2005 and 2004,
      respectively, related to the Plan.




As
      of
      December 31, 2005, the Company had 2,539,832 warrants outstanding at an average
      exercise price of $2.23 per warrant for one share each of the Company's common
      stock. The warrants will expire five years from the issuance date, with
      1,042,858 expiring in 2006 and the balance of 1,496,974 expiring in 2009. During
      the year ended December 31, 2005, 428,570 warrants were exercised for $1.75
      per
      share, resulting in proceeds of $750,000 to the Company.




Information
      with respect to outstanding warrants to service providers is as
      follows:




Shares
            
            AverageExercisePriceOutstanding
              warrants at beginning of
              year
            
            
            2,968,402
            
            $
            2.16Warrants
              granted
            
            
            —
            
            
            —Exercised
            
            
            (428,570
            )
            
            1.75Expired
            
            
            —
            
            
            —Outstanding
              warrants at the end of year
            
            
            2,539,832
            
            $
            2.23






Warrants
                Outstanding
            
            
            
            Warrants
                ExercisableShares
              Outstanding
              12/31/05
            
            Average
              Remaining
              Life
                (Years)
            
            Average
              Exercise
              Price
            
            Shares
              Outstanding
              12/31/05
            
            Average
              Exercise
              Price2,539,832
            
            
            2.5
            
            $
            2.23
            
            
            2,539,832
            
            $
            2.23


19. COMMITMENTS




As
      of
      December 31, 2005, the Company has future commitments to acquire a building
      of
      $604,000, to acquire land use rights totaling $273,000, and to pay future
      advertising costs totaling $3,429,000.





F-24


**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




As
      of
      December 31, 2005, there were no minimum future rental payments under
      non-cancelable operating leases having remaining terms in excess of one
      year.




Rent
      expense incurred during the years ended December 31, 2005, 2004, and 2003
      totaled $63,000, $23,000 and $6,000, respectively.




In
      accordance with the terms and conditions of a Sale and Purchase Agreement dated
      February 23, 2005 between Feihe Dairy and a vendor for the sale and purchase
      of
      a land use right in Beijing, in the People's Republic of China, Feihe Dairy
      agreed to acquire the commercial property for consideration of $1,009,000 of
      which three installments totaling $404,000 have been paid as of December 31,
      2005.




In
      accordance with the terms and conditions of a Sale and Purchase Agreement dated
      July 25, 2003, the Company has agreed to acquire land use rights and a factory
      in Kedong County for a total consideration of $401,000. At the Company's option
      the liability could be settled through payment of cash consideration or through
      the issuance of 200,000 shares of its common stock. This option had not expired
      as of December 31, 2005. The Company accrued the liability during the year
      ended
      December 31, 2004. As of December 31, 2005 the Company had not settled the
      commitment.




20.
      SUBSEQUENT EVENTS




In
      January 2006 the Company signed an agreement with the government of Gannan
      County, in Heilongjiang Province in The People's Republic of China to build
      a
      new milk processing plant. Under the terms of the agreement the Company will
      receive land, tax incentives, and subsidies as well as certain exclusive
      distribution and milk processing rights within the local market.




21.
      QUARTERLY FINANCIAL DATA (UNAUDITED)




Summarized
      unaudited quarterly financial data for 2005 and 2004 are as
      follows:




Quarters
                EndedDecember
                31,
              2005
            
            September
                30,
              2005
            
            June
                30,
              2005
            
            March
                31,
              2005Sales
            
            $
            24,486,000
            
            $
            14,274,000
            
            $
            15,143,000
            
            $
            14,121,000Gross
              profit
            
            
            8,190,000
            
            
            6,744,000
            
            
            7,550,000
            
            
            6,824,000Net
              income
            
            
            3,995,000
            
            
            2,179,000
            
            
            2,823,000
            
            
            2,633,000Net
              earnings per common share:Basic
            
            $
            0.27
            
            $
            0.16
            
            $
            0.21
            
            $
            0.19Dilutued
            
            $
            0.25
            
            $
            0.14
            
            $
            0.18
            
            $
            0.17






F-25





**AMERICAN
      DAIRY, INC.**


**NOTES
      TO THE CONSOLIDATED FINANCIAL STATEMENTS**


DECEMBER
      31, 2005




Quarters
                  EndedDecember
                  31,
                2004
              
              September
                  30,
                2004
              
              June
                  30,
                2004
              
              March
                  31,
                2004Total
                revenues
              
              $
              10,986,000
              
              $
              8,662,000
              
              $
              8,148,000
              
              $
              9,620,000Gross
                profit
              
              
              6,354,000
              
              
              3,862,000
              
              
              5,110,000
              
              
              4,083,000Net
                income
              
              
              2,378,000
              
              
              1,245,000
              
              
              1,445,000
              
              
              1,190,000Net
                earnings per common share:Basic
              
              $
              0.20
              
              $
              0.10
              
              $
              0.12
              
              $
              0.10Dilutued
              
              $
              0.16
              
              $
              0.09
              
              $
              0.12
              
              $
              0.10




F-26




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




There
      have been no disagreements regarding accounting and financial disclosure matters
      with the independent certified public accountants of American
      Dairy.





**Item
      9A. Controls and Procedures**




*Evaluation
      of Disclosure Controls and Procedures* .
      The
      Company's Chief Executive Officer and the Company's Principal financial officer,
      after evaluating the effectiveness of the Company's disclosure controls and
      procedures (as defined in the Securities Exchange Act of 1943, Rule 13a-15(e)
      and 15d-15(e)) as of December 31, 2005, have concluded that the Company's
      disclosure controls and procedures are effective to ensure that information
      required to be disclosed by the Company in reports that it files or submits
      under the Securities Exchange Act of 1934, as amended, is recorded, processed
      and summarized and reported on a timely basis and is accumulated and
      communicated to the Company's management, including its principal executive
      officers as appropriate, to allow timely decisions regarding required
      disclosure.




*Changes
      in Internal Controls* .
      In
      connection with their evaluation, the certifying officers identified no changes
      in the Company's internal control over financial reporting during the Company’s
      fiscal quarter ended December 31, 2005 that materially affected or are
      reasonably likely to materially affect, the Company’s internal control over
      financial reporting.





**Item
      9B. Other Information**





**PART
      III**





**Item
      10. Directors and Executive Officers of the Registrant**




The
      following table sets forth certain information regarding the executive officers
      and directors of American Dairy. All officers serve at the pleasure of the
      Board
      of Directors. Directors serve until the election and qualification of their
      successors.




Name
            Age
            PositionLeng You-Bin
            36
            Chairman, Chief Executive Officer and
              PresidentLiu
              Hua
            33
            Chief Financial Officer,Secretary,
              Treasurer,DirectorLiu Sheng-Hui
            35
            DirectorHui-Lan Lee
            56
            DirectorDr. Kevil L. Tseng
            42
            DirectorKirk
              G. Downing
            52
            Director






26


Leng
      You-Bin has been the Chairman, Chief Executive Officer, President, and General
      Manager of American Dairy since May 7, 2003. He is responsible for the overall
      strategic planning, management and business development of Feihe Dairy. Mr.
      Leng
      has been in the dairy industry for more than 13 years. He obtained his Bachelor
      of Science degree in Food Engineering from Northeast Agriculture University,
      China. From 1989 to 1997, Mr. Leng acted as technician, deputy director and
      director of ZhaoGuang Dairy Plants, the predecessor of Feihe Dairy. From 1997
      to
      2000, Mr. Leng was the General Manager of Feihe Dairy. He became the Chairman
      and General Manager in 2000. He has researched and patented the "liver
      protection milk powder" (GanBao Milk Powder).




Liu
      Hua
      has been the Chief Financial Officer, Secretary, Treasurer and a director of
      American Dairy since May 7, 2003, and has been the Financial Officer of Feihe
      Dairy from November 2000 to the present. From June 1998 to November 2000, he
      was
      the Chief Executive Officer of Shenzhen Cima Limited. From September 1993 to
      January 1996, he was the Chief Executive Officer of Zhengzhou Huacheng Limited.
      Mr. Liu received a degree from Xian Traffic University in 1993.




Liu
      Sheng-Hui has been a director of American Dairy since May 7, 2003. He is
      responsible for the overall financial planning and management of Feihe Dairy.
      He
      joined Feihe Dairy in 1992. He has held his current position since 1998. He
      graduated from Northeast Agriculture University with a Bachelor of Economics
      degree in Economic Management in 1992.




Hui-Lan
      Lee (also known as "Tracy Lee") has been a director of American Dairy since
      May
      7, 2003. She has been the Assistant Vice President-Taxation of Countrywide
      Home
      Loan, Inc. from April 2003 to the present. She was the Tax Manager of Watson
      Pharmaceuticals, Inc. from October 26, 1996 to March 2003. From 1979 to 1996,
      Ms. Lee was employed by major fortune 500 companies including The Flying Tiger
      Line Inc. (a Tiger International Company), Quotron Systems, Inc. (a subsidiary
      of the Citigroup, Inc.) and Lear Siegler, Inc. in various management positions.
      Ms. Lee holds a Master of Science degree in Taxation from Golden Gate
      University, and a Master of Business Administration degree from Indiana
      University.




Dr.
      Tseng
      became a director of American Dairy on February 21, 2005. From May 1997 to
      the
      present, he has been an advanced analyst with Boeing Aerospace engaged in
      technology development. From January 1994 to May 1997, Dr. Tseng was an
      Assistant Professor at Purdue University. From October 1991 to January 1994,
      he
      was a Research Fellow at the University of Michigan. He graduated in 1985 from
      Tamkang University majoring in aerospace technology. Dr. Tseng received his
      M.S.E. degree in 1990 and his Ph.D degree in 1991 from the University of
      Michigan. He received a M.B.A. degree in management in 2002 from the Marshall
      School of Business of the University of Southern California.




Mr.
      Downing became a director of American Dairy on February 21, 2005. From December
      1980 to the present, he has been practicing law in Los Angeles, California.
      From
      January 1989 to June 1997, Mr. Downing also engaged in ranching, farming,
      logging and property development. Mr. Downing received his B.A. degree in
      liberal arts from Portland State University in 1976. He received his Juris
      Doctorate degree in 1980 from Loyola Law School.





27


**Item
      11. Executive Compensation**




The
      officers and directors of American Dairy received compensation during the three
      fiscal years ended December 31, 2005, as follows:




**SUMMARY
      COMPENSATION TABLE**






ANNUAL
                COMPENSATION
            
            LONG
                TERM COMPENSATIONAWARDS
            
            
            
            PAYOUTSNAME AND
              PRINCIPAL
              POSITION
            
            Fiscal
              Year
            
            Salary
            
            Bonus
            
            Other
              Annual
              Compensation
            
            RESTRICTED
              Stock
              Awards
            
            SECURITIES
              Underlyimg
              Options/SARs
            
            FLTIP
              Payouts
            
            All
                Other
              CompensationLeng
              You-Bin
            
            
            2003
            
            $
            6,884
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0Director,
              Chief
            
            
            2003
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0Executive
              Officer and President
            
            
            2003
            
            $
            9,000
            
            $
            0
            
            $
            0
            
            $
            33,300
            
            $
            0
            
            $
            0
            
            $
            0Jack
              M. Gertino
            
            
            2003
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0former
              Chief
            
            
            2003
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0Executive
              Officer and President
            
            
            2003
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0
            
            $
            0





American
      Dairy presently has no employment agreements with its officers or key employees,
      but may enter into such agreements in the future.




**Board
      Compensation**




American
      Dairy plans to provide its non-management directors, if any, a competitive
      directors' compensation package comparable to programs offered by similarly
      situated corporations.




**Benefit
      Plans**




American
      Dairy does not have any profit sharing plan or similar plans for the benefit
      of
      its officers, directors or employees. However, American Dairy reserves the
      right
      to establish any such plans in the future.




**Incentive
      Stock Plan**




Effective
      April 1, 2003, American Dairy adopted and approved its 2003 Incentive Stock
      Plan
      (the "Plan") which reserves 3,000,000 shares of Common Stock for issuance under
      the Plan. The Plan allows us to issue awards of incentive or non-qualified
      stock
      options, stock appreciation rights, and stock bonuses which may be subject
      to
      restrictions. No awards of stock options, stock appreciation rights, or stock
      bonuses have been granted to employees as of December 31, 2004.




Mr.
      Leng
      You-Bin and Mr. Liu Hua are the members of the Committee that administers the
      Plan.




**Compliance
      with Section 16(a) of the Securities Exchange Act**




Section
      16(a) of the Exchange Act requires American Dairy's executive officers and
      directors, and persons who beneficially own more than ten percent (10%) of
      its
      equity securities, to file reports of ownership and changes in ownership with
      the U.S. Securities and Exchange Commission. Officers, directors and greater
      than ten percent shareholders are required by SEC regulation to furnish American
      Dairy with copies of all Section 16(a) forms they file.




Based
      on
      its review of the copies of such forms received by it, American Dairy believes
      that during the year ended December 31, 2005, all such filing requirements
      applicable to its officers, directors and 10% owners of its Common Stock were
      complied with.




28


**Limited
      Liability and Indemnification**




Section
      16-10a-840 of the Utah Revised Business Corporation Act (the "URBC") requires
      directors and officers to perform their duties in good faith and with the care
      that an ordinary person would exercise under similar circumstances in a manner
      reasonably believed to be in the best interest of the corporation. A director
      or
      officer of a corporation is not liable to the corporation, its shareholders
      or
      others for any action taken or any failure to act as an officer or director
      unless he has breached or failed or failed to perform his duties as described
      above and the breach or failure to perform constitutes gross negligence, wilful
      misconduct, or intentional infliction of harm on the corporation or its
      shareholders.




Section
      16-10a-841 of the URBC provides that the articles of incorporation of a Utah
      corporation may eliminate or limit the liability of a director to the
      corporation or its shareholders for monetary damages, except for (I) a financial
      benefit to which is not entitled; (ii) an intentional infliction of harm; (iii)
      unlawful distributions of the corporation constituting a violation of Section
      16-10a-842 of the URBC; or (iv) an intentional violation of criminal
      law.




Section
      16-10a-902 of the URBC permits a Utah corporation to indemnify directors made
      a
      party to a proceeding because he is or was a director if (i) his conduct was
      in,
      or not opposed to, the corporation's best interest; and (ii) he reasonably
      believed his conduct was in, or not opposed to, the corporation's best
      interests; and (iii) in the case of a criminal proceeding, he had no reasonable
      cause to believe his conduct was unlawful. However, a Utah corporation may
      not
      indemnify a director if he was adjudged liable to the corporation, or if he
      was
      adjudged liable on the basis that he derived an improper personal benefit;
      and
      such indemnification in any action brought by the corporation is limited to
      reasonable expenses incurred in connection with the proceedings.




Article
      VI of the Articles of Incorporation and Article VIII of the By-Laws of American
      Dairy provide for the indemnification of directors and officers of American
      Dairy. Indemnification is mandatory regarding reasonable expenses incurred
      in
      connection with proceedings or claims with respect to which he has been
      successful. Officers, employees, fiduciaries and agents of a Utah corporation
      may be entitled to indemnification to a greater extent that directors, if not
      inconsistent with public policy, if provided for in the Articles of
      Incorporation, By-Laws, the general or specific action of its board of directors
      or contract.




**Consultants**




American
      Dairy intends to retain consultants to the extent necessary and appropriate.
      American Dairy will not delegate its authority and responsibility to make
      management decisions to consultants or any other persons, nor shall any
      consultant have any discretionary authority or the authority to bind American
      Dairy in any material respect.





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




The
      following table sets forth certain information concerning the beneficial
      ownership of American Dairy's shares of Common Stock by directors and officers
      of American Dairy, and by each person known to American Dairy to be a beneficial
      owner of five percent (5%) or more of its outstanding Common Stock as of
      December 31, 2005.




Name
              and Address
            
            Number
                of
              Shares
                (1)
            
            Percentage
                of
              Outstanding
              SharesLeng
                You-Bin (4)
              C-16
                Shin Chen International Bldg.
              No.
                10, Jiu-shen Road
              Zho
                Yan Chu
              Beijing
              The
                People's Republic of China
            
            
            8,881,135
            
            
            62.8
            %






29
 
  Liu
                      Hua 19,000 0.14%
                    C-16
                      Shin Chen International Bldg.
                    No.
                      10, Jiu-shen Road
                    Zho
                      Yan Chu
                    Beijing
                    The
                      People's Republic of China
                
                
                19,000
                
                
                0.14
                %Hui-Lan
                    Lee
                  232
                    Alabama Street
                  San
                    Gabriel, California 91775
                
                
                7,000
                
                
                0.05
                %Liu
                    Sheng-Hui
                  C-16
                    Shin Chen International Bldg.
                  No.
                    10, Jiu-shen Road
                  Zho
                    Yan Chu
                  Beijing
                  The
                    People's Republic of China
                
                
                11,500
                
                
                0.08
                %Kirk
                  Downing
                
                
                4,500
                
                
                0.03
                %Pike
                  Capital Partners LP
                  275
                    Madison Avenue
                  Suite
                    418
                  New
                    York, NY 10016
                
                
                821,429
                
                
                6.1
                %All
                  executive officers and directorsas
                  a group (4 persons)
                
                
                9,153,211
                
                
                67.5
                %
 (1)
                They
                    have sole voting and dispositive power with respect to their
                    sharesof
                    Common Stock of American
                    Dairy.
  (2)
                Includes
                    warrants to purchase 571,428 shares of the Common Stock ofAmerican
                    Dairy.




**Item
      13. Certain Relationships and Related Transactions**




Effective
      May 7, 2003, Mr. Leng You-Bin and Mr. Liu Sheng-Hui, directors and officers
      of
      American Dairy, received 8,129,032 shares and 387,476 shares, respectively,
      of
      the Common Stock of American Dairy in exchange for all of their registered
      capital stock of Heilongjiang Feihe Dairy Co., Limited under the terms of a
      Stock Exchange Agreement.




Effective
      May 7, 2003, American Dairy acquired 100% of American Dairy Holdings, Inc.
      ("ADH") in a stock- for-stock exchange. ADH had previously acquired 100% of
      the
      ownership of the registered capital of Heilongjiang Feihe Dairy Co., Limited
      ("Feihe Dairy") in February 2002 for $2,586,311 (U.S.) from the registered
      owners of Feihe Dairy, owned primarily by Mr. Leng You-Bin who is the principal
      stockholder, director, Chief Executive Officer and President of American Dairy.
      As a result of this acquisition of ADH, American owed approximately $1,866,311
      to Mr. Leng You-Bin after approximately $700,000 having been paid to him by
      American Dairy. During June 200, American Dairy and Mr. Leng You-Bin agreed
      to
      cancel the remaining debt of $1,866,311 in exchange for the issuance of 933,156
      shares of the Common Stock of American Dairy.




In
      May
      2003, American Dairy entered into a consulting agreement (the "Consulting
      Agreement") with Danbury Properties, LLC, a Utah limited liability company
      ("Danbury"), of which Jack M. Gertino, the former President and a director
      of
      American Dairy, and James C. Lewis, a former director of American Dairy, are
      members. During the one year period of Danbury's engagement, Danbury has agreed
      to provide to American Dairy consulting services in the areas of financial
      and
      management planning, financing assistance and capital formation. In exchange
      for
      such services, Danbury will receive $60,000 in cash compensation, and 240,000
      shares of post-split Common Stock. In addition, American Dairy has greed to
      pay
      the sum of $12,000 for the cancellation of all outstanding options held by
      Messrs. Gertino and Lewis. This transaction cannot be considered the result
      of
      arms' length negotiations.




30


American
      Dairy also issued 240,000 shares of Common Stock and paid $60,000 in cash plus
      the obligation to pay another $12,000 in cash in May 2003 in connection with
      a
      consulting agreement entered into with existing shareholders, including Jack
      Gertino, then a director and the Chief Executive Officer of American Dairy.
      This
      stock was valued at $270,000 for financial reporting purposes. The consulting
      agreement is to cover a period of one year commencing May 7, 2003. For financial
      reporting purposes $228,011 was charged to consulting fee expense in 2003 with
      the balance of $113,989 being treated as a prepaid expense at December 31,
      2003.




During
      the fiscal years ended December 31, 2003 and 2004, Mr. Leng You-Bin, the
      Chairman of the Board and Chief Executive Officer of American Dairy, made
      advances to American Dairy in the amount of $846,228 and $1,133,822,
      respectively. These advances were unsecured and did not bear
      interest.




As
      of
      December 31, 2005 and 2004 the Company had the following balances due to its
      officers and directors:




Name
                  
                  2005
                  
                  2004Leng
                    You-bin
                  
                  $
                  858,000
                  
                  $
                  1,091,000


These
      balances are non-interest bearing and due on demand.





**Item
      14. Principal Accountant Fees and Services**




Fees
      paid
      to principal accountants are as follows:




Name
            
            Audit
              Fees
            
            Audit
              Related
                Fees
            
            Tax
              Fees
            
            All
              Other
                FeesWeinberg
                & Company, P.Afor
                fiscal year endedDecember
                31, 2003
            
            $
            23,513
            
            $
            11,045
            
            $
            -0-
            
            $
            -0-December
                31, 2004
            
            $
            8,044
            
            $
            -0-
            
            $
            -0-
            
            $
            -0-December
                31, 2005
            
            $
            -0-
            
            $
            -0-
            
            $
            -0-
            
            $
            -0-Murrell,
                Hall, McIntosh &Co.,
                PLLPfor
                fiscal year endedDecember
                31, 2003
            
            $
            3,770
            
            $
            -0-
            
            $
            -0-
            
            $
            -0-December
                31, 2004
            
            $
            19,000
            
            $
            1,250
            
            $
            5,000
            
            $
            -0-December
                31, 2005
            
            $
            42,500
            
            $
            8,900
            
            $
            5,500
            
            $
            -0-





31


The
      Audit
      Committee of the Board of Directors evaluated the scope and cost of the audit
      for its fiscal year ended December 31, 2005 before its auditor rendered its
      audit and non-audit services.





**Item
      13. Exhibits**




(a)
      Reports on Form 8-K None




(b)
      Exhibits




3.1
            Articles of
              Incorporation
            
            Articles of Incorporation of AmericanDairy,
              as amended, are incorporatedherein
              by reference to Exhibit 3.1 toits
              registration statement on Form10-SB,
              as filed with the Securities andExchange
              Commission on September 16,1999.3.2
            Amendment
              to Articles of Incorporation
            
            Amendment to Articles of Incorporationof
              American Dairy dated May 6, 2003 isincorporated
              herein by reference to3.3
              By-Laws Exhibit 3.2 to its Form 10-KSB/A ofAmerican
              Dairy, Inc. for its fiscal yearended
              December 31, 2003 filed on April11,
              2004.3.3
            By-Laws
            
            By-Laws
              of American Dairy areincorporated
              herein by reference toExhibit
              3.2 to its registrationstatement
              on Form 10-SB, as filed withthe
              Securities and Exchange Commissionon
              September 16, 1999.10.
            Material Contracts10.1
            Stock Exchange Exchange
            
            Stock Exchange Agreement dated January15,
              2003, is incorporated herein byreference
              to Exhibit 2.1 to AmericanDairy's
              Form 8-K current report as filedwith
              the Securities and ExchangeCommission
              on January 21, 2003.10.2
            Amendment to Stock Agreement
            
            Agreement Amendment to Stock ExchangeAgreement
              dated March 5, 2003 isincorporated
              herein byreference toExhibit
              2.2 of American Dairy's Form 8-Kcurrent
              report as filed with theSecurities
              and Exchange Commission onMarch
              5, 2003.10.3
            Consulting Agreement
            
            Consulting Agreement by and betweenAmerican
              Dairy, American Dairy Holdings,Inc.
              and Danbury Properties, L.L.C.,dated
              march 28, 2003, is incorporatedherein
              by reference to Exhibit 10.3 tothe
              Form 10-KSB annual report of LazarusIndustries,
              Inc. for its fiscal yearended
              December 31, 2002.10.4
            Stock Incentive Plan
            
            2003 Stock Incentive Plan isincorporated
              herein by reference toExhibit
              10 to American Dairy's Form S-8Registration
              statement filed on April 4,2005
              (File No. 333-123932).10.5
            Shanxi Joint Venture
            
            Joint Venture Agreement to organizeShanxi
              Feihesantai Biology Science andTechnology
              Industry, Ltd. isincorporated
              herein by reference toExhibit
              10.1 to the Form 10-QSB ofAmerican
              Dairy for the three monthperiod
              ended March 31, 2004.10.6
            Asset Purchase Agreement
            
            Asset Purchase Agreement dated May 20,Agreement
              2005, with Nutricia Nutritionals Co.,Ltd.
              of Hei Long Jiang (without allexhibits
              thereto) is incorporated hereinby
              reference to the Form 8-K currentreport
              filed by American Dairy on May26,
              2005.10.7
            Code of Ethics
            
            The Code of Ethics of American Dairy
              isincorporated
              herein by reference toExhibit
              14 to the Form 10-KSB ofAmerican
              Dairy for its fiscal year endedDecember
              31, 2004.21
            Description of subsidiaries
            
            Description of subsidiaries is incorporatedherein
              by reference to Exhibit 21 to theForm
              S-1 registration statement of AmericanDairy
              (File No. 333-128075)23.1
            Consent
              of Murrell, Hall, McIntosh & Co., PLLP
            
            Consent of Murrell, Hall,
              McIntosh
              & Co.,PLLP





32





**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.




AMERICAN
              DAIRY,
              INC.November
              20, 2006
            By:
            /s/Len
                You-BinLen
              You-Bin, Chief ExecutiveOfficer,
              and President


By:
            /s/Liu
                HuaLiu
              Hua, Chief Financial Officer,Principal
                Accounting and Financial Officer
                and Treasurer





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
              
              November
                  20, 2006Leng
                  You-Bin, Director, ChiefExecutive
                  Officer and President/s/
                  Liu Hua
              
              November
                  20, 2006Liu
                  Hua, Director, Chief FinancialOfficer,
                  Principal Accounting andFinancial
                  Officer, Secretary and Treasurer/s/
                  Liu Sheng-Hui
              
              November
                  20, 2006Liu
                  Sheng-Hui, Director/s/
                  Hui-Lan Lee
              
              November
                  20, 2006Hui-Lan
                  Lee, DirectorNovember
                  20, 2006Kevin
                  L. Tseng, Director/s/
                  Kirk Downing
              
              November
                  20, 2006Kirk
                  Downing


33


**INDEX
      OF EXHIBITS ATTACHED**








Exhibit  Description




31.1
            Certification
                of Leng You-Bin





31.2
            Certification
                of Liu Hua





32
            Certification
                of Leng You-Bin and Liu Hua






34