UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549








FORM
10-Q








x
            Quarterly
      Report Pursuant to Section 13 Or 15(d) of the Securities Exchange Act of
      1934
              for
      the Quarterly Period Ended September 30,
2009





o
            Transition
      Report Pursuant to Section 13 or 15(d) of The Securities Exchange Act of
      1934
              for
      the Transition Period from _______ to
_______





Commission
File Number: 000-50155










NF
Energy Saving Corporation


(Exact
name of registrant as specified in its charter)







Delaware
            02-0563302(State
      or Other Jurisdiction of
              incorporation
      or organization)
            (I.R.S.
      Employer
              Identification
      No.)





21-Jia
Bei Si Dong Road, Tie Xi Qu


Shenyang, P. R. China
110021


(Address
of Principal Executive Offices)




(8624)
2560-9750


(Registrant’s
Telephone Number, including area code)







Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 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. xYes oNo





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). oYes
oNo





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company.


Large
      accelerated filer
              o
              Accelerated
      filer
              oNon-accelerated
      filer
              o
              Smaller
      reporting company
              x





Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act) oYes
xNo





As of October 31, 2009, the registrant had
13,291,387 shares of common stock, $0.001 par value, issued and
outstanding.











CAUTIONARY
STATEMENT REGARDING FORWARD LOOKING INFORMATION




The
discussion contained in this 10-Q under the Securities Exchange Act of 1934, as
amended, contains forward-looking statements that involve risks and
uncertainties. The issuer's actual results could differ significantly from those
discussed herein. These include statements about our expectations, beliefs,
intentions or strategies for the future, which we indicate by words or phrases
such as "anticipate," "expect," "intend," "plan," "will," "we believe," "the
Company believes," "management believes" and similar language, including those
set forth in the discussions under "Notes to Financial Statements" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations " as well as those discussed elsewhere in this Form 10-Q. We base our
forward-looking statements on information currently available to us, and we
assume no obligation to update them. Statements contained in this Form 10-Q that
are not historical facts are forward-looking statements that are subject to the
"safe harbor" created by the Private Securities Litigation Reform Act of
1995.





3




TABLE
OF CONTENTS





PART
I – FINANCIAL INFORMATION


Item
      1. Financial Statements
                
                5Item
      2. Management’s Discussion and Analysis of Financial Condition and Results
      of Operations
                
                23Item
      3. Quantitative and Qualitative Disclosures About Market
    Risk
                
                35Item
      4T. Controls and Procedures
                
                35PART
      II – OTHER INFOMRATIONItem
      1. Legal Proceedings
                
                36Item
      2. Unregistered Sales of Equity Securities and Use of
    Proceeds
                
                36Item
      3. Defaults Upon Senior Securities
                
                36Item
      4. Submission of Matters to a Vote of Security Holders
                
                36Item
      5. Other Information
                
                36Item
      6. Exhibits
                
                36Signatures
                
                37
 4


PART
I – FINANCIAL INFORMATION





Item 1.  Financial
Statements.




NF
ENERGY SAVING CORPORATION


(Formerly
NF Energy Saving Corporation of America)




INDEX
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





(UNAUDITED)




PageCondensed
      Consolidated Balance Sheets as of September 30, 2009 and December 31,
      2008
              
              F-2Condensed
      Consolidated Statements of Operations And Comprehensive Income for the
      Three and Nine Months ended September 30, 2009 and 2008
              
              F-3Condensed
      Consolidated Statements of Cash Flows for the Nine Months ended September
      30, 2009 and 2008
              
              F-4Condensed
      Consolidated Statement of Stockholders’ Equity for the Nine Months ended
      September 30, 2009
              
              F-5Notes
      to Condensed Consolidated Financial Statements
              
              F-6
      to F-22





F-1




NF
ENERGY SAVING CORPORATION


(Formerly
NF Energy Saving Corporation of America)


CONDENSED
CONSOLIDATED BALANCE SHEETS


AS
OF SEPTEMBER 30, 2009 AND DECEMBER 31, 2008


(Currency
expressed in United States Dollars (“US$”), except for number of
shares)





September
      30,
              2009
            
            
            December
      31,
              2008(Unaudited)
            
            
            (Audited)ASSETSCurrent
      assets:Cash
      and cash equivalents
            
            $
            465,769
            
            
            $
            2,252,771Accounts
      receivable, trade
            
            
            12,106,358
            
            
            
            8,371,447Retention
      receivable
            
            
            974,378
            
            
            
            536,050Inventories
            
            
            807,270
            
            
            
            1,516,777Prepayments
      and other receivables
            
            
            819,748
            
            
            
            652,842Total
      current assets
            
            
            15,173,523
            
            
            
            13,329,887Plant
      and equipment, net
            
            
            4,396,794
            
            
            
            2,393,287Construction
      in progress
            
            
            5,654,002
            
            
            
            2,328,839TOTAL
      ASSETS
            
            $
            25,224,319
            
            
            $
            18,052,013LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilities:Accounts
      payable, trade
            
            $
            3,701,891
            
            
            $
            2,043,944Customer
      deposits
            
            
            115,839
            
            
            
            120,836Value
      added tax payable
            
            
            156,570
            
            
            
            5,886Income
      tax payable
            
            
            317,287
            
            
            
            -Current
      portion of obligation under finance lease
            
            
            425,149
            
            
            
            -Other
      payables and accrued liabilities
            
            
            285,885
            
            
            
            333,838Total
      current liabilities
            
            
            5,002,621
            
            
            
            2,504,504Long-term
      liabilities:Obligation
      under finance lease
            
            
            831,038
            
            
            
            -TOTAL
      LIABILITIES
            
            
            5,833,659
            
            
            
            2,504,504Commitments
      and contingenciesStockholders’
      equity:Common
      stock, $0.001 par value; 50,000,000 shares authorized; 13,291,387 and
      13,291,387 shares issued and outstanding as of September 30, 2009 and
      December 31, 2008
            
            
            13,291
            
            
            
            13,291Additional
      paid-in capital
            
            
            8,082,168
            
            
            
            7,733,168Statutory
      reserve
            
            
            917,165
            
            
            
            917,165Accumulated
      other comprehensive income
            
            
            1,355,395
            
            
            
            1,288,573Retained
      earnings
            
            
            9,022,641
            
            
            
            5,595,312Total
      stockholders’ equity
            
            
            19,390,660
            
            
            
            15,547,509TOTAL
      LIABILITIES AND STOCKHOLDERS’ EQUITY
            
            $
            25,224,319
            
            
            $
            18,052,013




See
accompanying notes to condensed consolidated financial statements.




F-2




NF
ENERGY SAVING CORPORATION


(Formerly
NF Energy Saving Corporation of America)


CONDENSED
CONSOLIDATED STATEMENTS OF


OPERATIONS
AND COMPREHENSIVE INCOME


FOR
THE THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 2009 AND 2008


(Currency
expressed in United States Dollars (“US$”), except for number of
shares)


(Unaudited)





Three
      months ended
              September
      30,
            
            
            Nine
      months ended
              September
      30,2009
            
            
            2008
            
            
            2009
            
            
            2008REVENUE,
      NETProduct
            
            $
            6,697,102
            
            
            $
            3,557,112
            
            
            $
            13,426,663
            
            
            $
            8,836,478Services
            
            
            869,319
            
            
            
            939,406
            
            
            
            1,778,294
            
            
            
            2,108,342Projects
            
            
            -
            
            
            
            105,308
            
            
            
            -
            
            
            
            818,490Total
      operation revenues, net
            
            
            7,566,421
            
            
            
            4,601,826
            
            
            
            15,204,957
            
            
            
            11,763,310COST
      OF REVENUES:Cost
      of products
            
            
            4,200,439
            
            
            
            2,639,688
            
            
            
            9,016,453
            
            
            
            6,391,906Cost
      of services
            
            
            647,932
            
            
            
            711,781
            
            
            
            1,266,213
            
            
            
            1,517,172Cost
      of projects
            
            
            -
            
            
            
            14,115
            
            
            
            -
            
            
            
            609,811Total
      cost of revenues
            
            
            4,848,371
            
            
            
            3,365,584
            
            
            
            10,282,666
            
            
            
            8,518,889GROSS
      PROFIT
            
            
            2,718,050
            
            
            
            1,236,242
            
            
            
            4,922,291
            
            
            
            3,244,421OPERATING
      EXPENSES:Sales
      and marketing
            
            
            32,040
            
            
            
            16,318
            
            
            
            106,493
            
            
            
            78,598Research
      and development
            
            
            -
            
            
            
            10,377
            
            
            
            -
            
            
            
            95,963General
      and administrative
            
            
            193,955
            
            
            
            153,262
            
            
            
            533,201
            
            
            
            411,091Stock
      based compensation
            
            
            -
            
            
            
            -
            
            
            
            349,000
            
            
            
            -Total
      operating expenses
            
            
            225,995
            
            
            
            179,957
            
            
            
            988,694
            
            
            
            585,652INCOME
      FROM OPERATIONS
            
            
            2,492,055
            
            
            
            1,056,285
            
            
            
            3,933,597
            
            
            
            2,658,769Other
      income:Interest
      income
            
            
            1,493
            
            
            
            8,902
            
            
            
            10,498
            
            
            
            17,716Other
      income
            
            
            4
            
            
            
            76
            
            
            
            10,165
            
            
            
            194Subsidy
      income
            
            
            -
            
            
            
            -
            
            
            
            33,613
            
            
            
            -Total
      other income
            
            
            1,497
            
            
            
            8,978
            
            
            
            54,276
            
            
            
            17,910INCOME
      BEFORE INCOME TAXES
            
            
            2,493,552
            
            
            
            1,065,263
            
            
            
            3,987,873
            
            
            
            2,676,679Income
      tax expense
            
            
            (317,084
            )
            
            
            (167
            )
            
            
            (560,544
            )
            
            
            (472
            )NET
      INCOME
            
            $
            2,176,468
            
            
            $
            1,065,096
            
            
            $
            3,427,329
            
            
            $
            2,676,207Other
      comprehensive income:-
      Foreign currency translation gain
            
            
            26,493
            
            
            
            77,186
            
            
            
            66,822
            
            
            
            765,632COMPREHENSIVE
      INCOME
            
            $
            2,202,961
            
            
            $
            1,142,282
            
            
            $
            3,494,151
            
            
            $
            3,411,839Net
      income per share–
      Basic
            
            $
            0.16
            
            
            $
            0.08
            
            
            $
            0.26
            
            
            $
            0.20–
      Diluted
            
            $
            0.16
            
            
            $
            0.08
            
            
            $
            0.25
            
            
            $
            0.20Weighted
      average shares outstanding–
      Basic
            
            
            13,291,387
            
            
            
            13,291,387
            
            
            
            13,291,387
            
            
            
            13,291,387–
      Diluted
            
            
            13,741,387
            
            
            
            13,291,387
            
            
            
            13,472,821
            
            
            
            13,291,387





See
accompanying notes to condensed consolidated financial statements.




F-3




NF
ENERGY SAVING CORPORATION


(Formerly
NF Energy Saving Corporation of America)


CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS


FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009 AND 2008


(Currency
expressed in United States Dollars (“US$”))


(Unaudited)




Nine
      months ended
              September
      30,2009
            
            
            2008Cash
      flows from operating activities:Net
      income
            
            $
            3,427,329
            
            
            $
            2,676,207Adjustments
      to reconcile net income to net cash provided by operating
      activitiesDepreciation
            
            
            233,085
            
            
            
            238,702Loss
      on disposal of plant and equipment
            
            
            4,844
            
            
            
            -Stock
      based compensation
            
            
            349,000
            
            
            
            -Change
      in operating assets and liabilities:Accounts
      receivable
            
            
            (3,713,394
            )
            
            
            (3,804,182
            )Retention
      receivable
            
            
            (435,252
            )
            
            
            -Inventories
            
            
            712,676
            
            
            
            (609,412
            )Prepayments
      and other receivables
            
            
            (165,247
            )
            
            
            (306,187
            )Accounts
      payable
            
            
            1,651,801
            
            
            
            849,318Customer
      deposits
            
            
            (5,286
            )
            
            
            343,490Value
      added tax payables
            
            
            418,602
            
            
            
            8,618Income
      tax payable
            
            
            317,003
            
            
            
            167Other
      payables and accrued liabilities
            
            
            (48,087
            )
            
            
            (156,442
            )Net
      cash provided by (used in) operating activities
            
            
            2,747,074
            
            
            
            (759,721
            )Cash
      flows from investing activities:Purchase
      of plant and equipment
            
            
            (179,089
            )
            
            
            (738,043
            )Payments
      to construction in progress
            
            
            (3,317,133
            )
            
            
            -Proceeds
      from disposal of plant and equipment
            
            
            7,869
            
            
            
            -Net
      cash used in investing activities
            
            
            (3,488,353
            )
            
            
            (738,043
            )Cash
      flows from financing activities:Payments
      on finance lease
            
            
            (1,075,731
            )
            
            
            -Proceeds
      from private placement
            
            
            -
            
            
            
            2,000,000Net
      cash provided by (used in) financing activities
            
            
            (1,075,731
            )
            
            
            2,000,000Effect
      on exchange rate change on cash and cash equivalents
            
            
            30,008
            
            
            
            161,472NET
      CHANGE IN CASH AND CASH EQUIVALENTS
            
            
            (1,787,002
            )
            
            
            663,708BEGINNING
      OF PERIOD
            
            
            2,252,771
            
            
            
            2,240,901END
      OF PERIOD
            
            $
            465,769
            
            
            $
            2,904,609SUPPLEMENTAL
      DISCLOSURE OF CASH FLOW INFORMATION:Cash
      paid for income taxes
            
            $
            243,100
            
            
            $
            305Cash
      paid for interest
            
            $
            -
            
            
            $
            -NON-CASH
      INVESTING AND FINANCING ACTIVITIES:Equipment
      purchased under finance leases
            
            $
            2,331,019
            
            
            $
            -




See
accompanying notes to condensed consolidated financial statements.




F-4




NF
ENERGY SAVING CORPORATION


(Formerly
NF Energy Saving Corporation of America)


CONDENSED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY


FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009


(Currency
expressed in United States Dollars (“US$”), except for number of
shares)


(Unaudited)





Common
      stock
              
              
              Additional
              
              
              
              
              
              Accumulated
                other
              
              
              
              
              
              TotalNo.
      of
                shares
              
              
              Amount
              
              
              paid-incapital
              
              
              Statutoryreserve
              
              
              comprehensiveincome
              
              
              Retainedearnings
              
              
              stockholders’equityBalance
      as of January 1, 2009 (as adjusted)
              
              
              13,291,387
              
              
              $
              13,291
              
              
              $
              7,733,168
              
              
              $
              917,165
              
              
              $
              1,288,573
              
              
              $
              5,595,312
              
              
              $
              15,547,509Foreign
      currency translation adjustment
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              66,822
              
              
              
              -
              
              
              
              66,822Warrants
      issued for services
              
              
              -
              
              
              
              -
              
              
              
              349,000
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              349,000Net
      income for the period
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              3,427,329
              
              
              
              3,427,329Balance
      as of September 30, 2009
              
              
              13,291,387
              
              
              $
              13,291
              
              
              $
              8,082,168
              
              
              $
              917,165
              
              
              $
              1,355,395
              
              
              $
              9,022,641
              
              
              $
              19,390,660




See
accompanying notes to condensed consolidated financial statements.




F-5




NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)




NOTE
1 BASIS
OF PRESENTATION





The
accompanying unaudited condensed consolidated financial statements have been
prepared by management in accordance with both accounting principles generally
accepted in the United States (“GAAP”), and the instructions to Form 10-Q and
Rule 10-01 of Regulation S-X. Certain information and note disclosures normally
included in audited financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to those
rules and regulations, although the Company believes that the disclosures made
are adequate to make the information not misleading.





In the
opinion of management, the consolidated balance sheet as of December 31, 2008
which has been derived from audited financial statements and these unaudited
condensed consolidated financial statements reflect all normal and recurring
adjustments considered necessary to state fairly the results for the periods
presented. The results for the period ended September 30, 2009 are not
necessarily indicative of the results to be expected for the entire fiscal year
ending December 31, 2009 or for any future period.





These
unaudited condensed consolidated financial statements and notes thereto should
be read in conjunction with the Management’s Discussion and the audited
financial statements and notes thereto included in the Annual Report on Form
10-K for the year ended December 31, 2008.




NOTE
2 ORGANIZATION
AND BUSINESS BACKGROUND





NF Energy
Saving Corporation (formerly NF Energy Saving Corporation of America) (the
“Company” or “NFEC”) was incorporated in the State of Delaware in the name of
Galli Process, Inc. on October 31, 2000. On February 7, 2002, the Company
changed its name to “Global Broadcast Group, Inc.” On November 12, 2004, the
Company changed its name to “Diagnostic Corporation of America.” On March 15,
2007, the Company changed its name to “NF Energy Saving Corporation of America.”
On August 24, 2009, the Company further changed its name to “NF Energy Saving
Corporation.”





The
Company, through its subsidiaries, mainly engages in the production of heavy
industrial components and products such as valves and the provision of technical
service and re-engineering projects in the energy saving related industry in the
People’s Republic of China (the “PRC”).





Liaoning
Nengfa Weiye Energy Technology Co. Ltd. (“Nengfa Energy”) (formerly Neng Fa
Weiye Pipe Network Construction and Operation Co., Ltd.) is a wholly-owned
subsidiary of the Company. Nengfa Energy is a heavy manufacturer and involves in
the production of a variety of industrial valve components which are widely used
in water supply and sewage system, coal and gas fields, power generation
stations, petroleum and chemical industries. All the customers are located in
PRC.





Liaoning
Nengfa Weiye Tie Fa Sales Co., Ltd. (“Sales Company”) is a wholly-owned
subsidiary of Nengfa Energy in PRC. Sales Company was incorporated as a limited
liability company under the laws of PRC with a registered capital of $683,612
(equivalent to RMB 5,000,000) on September 5, 2007. It is mainly engaged in the
sales and marketing of valves components and products in PRC.





NFEC,
Nengfa Energy and Sales Company are hereinafter referred to as (the
“Company”).




F-6


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


NOTE
3 SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES





·
            Use
      of estimates





In
preparing these condensed consolidated financial statements, management makes
estimates and assumptions that affect the reported amounts of assets and
liabilities in the balance sheet and revenues and expenses during the periods
reported. Actual results may differ from these estimates.





·
            Basis
      of consolidation





The
condensed consolidated financial statements include the financial statements of
NFEC and its subsidiaries, Nengfa Energy and Sales Company. All significant
inter-company balances and transactions within the Company have been eliminated
upon consolidation.





·
            Cash
      and cash equivalents





Cash and
cash equivalents are carried at cost and represent cash on hand, demand deposits
placed with banks or other financial institutions and all highly liquid
investments with an original maturity of three months or less as of the purchase
date of such investments.





·
            Accounts
      receivable





Accounts
receivable are recorded at the invoiced amount and do not bear interest, which
are due within contractual payment terms, generally 30 to 90 days from shipment.
Credit is extended based on evaluation of a customer's financial condition, the
customer credit-worthiness and their payment history. Accounts receivable
outstanding longer than the contractual payment terms are considered past due.
Past due balances over 90 days and over a specified amount are reviewed
individually for collectibility. At the end of each period, the Company
specifically evaluates individual customer’s financial condition, credit
history, and the current economic conditions to monitor the progress of the
collection of accounts receivables. The Company will consider the allowance for
doubtful accounts for any estimated losses resulting from the inability of its
customers to make required payments. For the receivables that are past due or
not being paid according to payment terms, the appropriate actions are taken to
exhaust all means of collection, including seeking legal resolution in a court
of law. Account balances are charged off against the allowance after all means
of collection have been exhausted and the potential for recovery is considered
remote. The Company does not have any off-balance-sheet credit exposure related
to its customers.





·
            Retention
      receivable





Retention
receivable is the amount withheld by a customer based upon 5-10% of the contract
value, until a product warranty is expired.





·
            Inventories





Inventories
are stated at the lower of cost or market (net realizable value), cost being
determined on a weighted average method. Costs include material, labor and
manufacturing overhead costs. The Company quarterly reviews historical sales
activity to determine excess, slow moving items and potentially obsolete items
and also evaluates the impact of any anticipated changes in future demand. The
Company provides inventory allowances based on excess and obsolete inventories
determined principally by customer demand. As of September 30, 2009, the Company
did not record an allowance for obsolete inventories, nor have there been any
write-offs.




F-7


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


·
            Plant
      and equipment, net





Plant and
equipment are stated at cost less accumulated depreciation and accumulated
impairment losses, if any. Depreciation is calculated on the straight-line basis
over the following expected useful lives from the date on which they become
fully operational and after taking into account their estimated residual
values:





Depreciable
      life
            
            Residual
      valuePlant
      and machinery
            
            3 –
      20 years
            
            
            5
            %Furniture,
      fixture and equipment
            
            5 –
      8 years
            
            
            5
            %





Expenditure
for repairs and maintenance is expensed as incurred. When assets have retired or
sold, the cost and related accumulated depreciation are removed from the
accounts and any resulting gain or loss is recognized in the results of
operations.





·
            Construction
      in progress





Construction
in progress is stated at cost, which includes the cost of construction,
acquisition of plant and equipment and other direct costs attributable to the
construction. Construction in progress is not depreciated until such time as the
assets are completed and put into operational use. No capitalized interest is
incurred during the period of construction.





·
            Finance
      leases





Leases
that transfer substantially all the rewards and risks of ownership to the
lessee, other than legal title, are accounted for as finance leases.
Substantially all of the risks or benefits of ownership are deemed to have been
transferred if any one of the four criteria is met: (i) transfer of ownership to
the lessee at the end of the lease term, (ii) the lease containing a bargain
purchase option, (iii) the lease term exceeding 75% of the estimated economic
life of the leased asset, (iv) the present value of the minimum lease payments
exceeding 90% of the fair value. At the inception of a finance lease, the
Company as the lessee records an asset and an obligation at an amount equal to
the present value of the minimum lease payments. The leased asset is amortized
over the shorter of the lease term or its estimated useful life if title does
not transfer to the Company, while the leased asset is depreciated in accordance
with the Company’s normal depreciation policy if the title is to eventually
transfer to the Company. The periodic rent payments made during the lease term
are allocated between a reduction in the obligation and interest element using
the effective interest method in accordance with the provisions of Accounting
Standards Codification ("ASC") Topic 835-30, “Imputation of
Interest”.





·
            Impairment
      of long-lived assets





In
accordance with the provisions of ASC Topic 360-10-5, “Impairment or Disposal of Long-Lived
Assets”, all long-lived assets such as plant and equipment held and used
by the Company and construction in progress are reviewed for impairment whenever
events or changes in circumstances indicate that the carrying amount of an asset
may not be recoverable. Recoverability of assets to be held and used is
evaluated by a comparison of the carrying amount of assets to estimated
discounted net cash flows expected to be generated by the assets. If such assets
are considered to be impaired, the impairment to be recognized is measured by
the amount by which the carrying amounts of the assets exceed the fair value of
the assets. There has been no impairment as of September 30, 2009.




F-8


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


·
            Revenue
      recognition





The
Company offers a number of products and service to its customers, which
are:




1.
            Sales
      of energy saving flow control equipment2.
            Provision
      of energy project management and sub-contracting
service3.
            Provision
      of energy-saving reconstruction
projects





In
accordance with the ASC Topic 605, “Revenue Recognition”, the
Company recognizes revenue when persuasive evidence of an arrangement exists,
transfer of title has occurred or services have been rendered, the selling price
is fixed or determinable and collectibility is reasonably assured.





(a)
            Sale
      of products





The
Company derives a majority of revenues from the sale of energy saving flow
control equipment. Generally, these energy saving flow control equipment are
manufactured and configured to customer requirements. The Company typically
produces and builds the energy saving flow control equipment for customers in a
period from 1 to 6 months. When the Company completes the production in
accordance with the customer’s specification, the customer is required to
inspect the finished products for the quality and product conditions with the
full satisfaction at the Company’s plant. Once the product is accepted by the
customer, the Company usually makes delivery to the customer, usually within a
month.





The
Company recognizes revenue from the sale of such finished products upon delivery
to the customers, whereas the title and risk of loss are fully transferred to
the customers. The Company records its revenues, net of value added taxes
(“VAT”). The Company is subject to VAT which is levied on the majority of the
products at the rate of 17% on the invoiced value of sales. The Company
experienced no product returns and has recorded no reserve for sales returns for
the nine months ended September 30, 2009 and 2008.





(b)
            Service
      revenue





Service
revenue is primarily derived from energy-saving technical services or project
management or sub-contracting services that are not an element of an arrangement
for the sale of products. These services are generally billed on a time-cost
plus basis, for a period of service time from 2 to 3 months. Revenue is
recognized, net of business taxes when service is rendered and accepted by the
customers.





(c)
            Project
      revenue





For the
energy-saving reconstruction projects, the Company follows the
percentage-of-completion method under ASC Topic 605-35, “Construction-Type and
Production-Type Contracts”, to recognize
revenues for energy-saving reconstruction projects that require significant
modification or customization or installation subject to the customers for a
term of service period exceeding 12 months. Advance payments from customers and
amounts billed to clients in excess of revenue recognized are recorded as
receipt in advance. For the nine months ended September 30, 2009, the Company
did not recognize any project revenue.





(d)
            Interest
      income





Interest
income is recognized on a time apportionment basis, taking into account the
principal amounts outstanding and the interest rates applicable.




F-9


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


·
            Income
      taxes




The
Company adopts the ASC Topic 740, “Income Taxes” regarding
accounting for uncertainty in income taxes prescribes the recognition threshold
and measurement attributes for financial statement recognition and measurement
of tax positions taken or expected to be taken on a tax return. In addition, the
guidance requires the determination of whether the benefits of tax positions
will be more likely than not sustained upon audit based upon the technical
merits of the tax position. For tax positions that are determined to be more
likely than not sustained upon audit, a company recognizes the largest amount of
benefit that is greater than 50% likely of being realized upon ultimate
settlement in the financial statements. For tax positions that are not
determined to be more likely than not sustained upon audit, a company does not
recognize any portion of the benefit in the financial statements. The guidance
provides for de-recognition, classification, penalties and interest, accounting
in interim periods and disclosure.





For the
nine months ended September 30, 2009 and 2008, the Company did not have any
interest and penalties associated with tax positions. As of September 30, 2009,
the Company did not have any significant unrecognized uncertain tax
positions.





The
Company conducts major businesses in PRC and is subject to tax in this
jurisdiction. As a result of its business activities, the Company files tax
returns that are subject to examination by the foreign tax authority. For the
nine months ended September 30, 2009, the Company filed and cleared 2008 PRC tax
return by the tax authority.





·
            Product
      warranty





Under the
terms of the contracts, the Company offers the customers free 12-months’ product
warranty on a case-by-case basis, depending upon the type of customers, nature
and size of the infrastructure projects. Under such arrangements, a portion of
the project contract balance (usually 5-10% of contract value) is withheld by a
customer for 12 months, until the product warranty is expired. The Company has
not experienced any material returns where it was under obligation to honor this
standard warranty provision. As such, no reserve for product warranty has been
provided in the result of operations for the nine months ended September 30,
2009.





·
            Stock-based
      compensation





The
Company adopts ASC Topic 718, "Stock Compensation", ("ASC
718") using the fair value method. Under ASC 718, the stock-based compensation
is measured using the Black-Scholes Option-Pricing model on the date of
grant.





For
non-employee stock-based compensation, the Company adopts ASC Topic 505-50,
“Equity-Based Payments to
Non-Employees”. Stock-based compensation related to non-employees is
accounted for based on the fair value of the related stock or options or the
fair value of the services on the grant date, which ever is more readily
determinable in accordance with ASC 718.





·
            Foreign
      currencies translation





Transactions
denominated in currencies other than the functional currency are translated into
the functional currency at the exchange rates prevailing at the dates of the
transaction. Monetary assets and liabilities denominated in currencies other
than the functional currency are translated into the functional currency using
the applicable exchange rates at the balance sheet dates. The resulting exchange
differences are recorded in the condensed consolidated statement of
operations.




F-10


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


The
reporting currency of the Company is the United States dollar ("US$"). The
Company's subsidiaries in PRC, Nengfa Energy and Sales Company maintain their
books and records in its local currency, Renminbi ("RMB"), which is functional
currency as being the primary currency of the economic environment in which
these entities operate.





In
general, for consolidation purposes, assets and liabilities of its subsidiaries
whose functional currency is not the US$ are translated into US$, in accordance
with ASC Subtopic 830-30, “Translation of Financial Statement”,using the exchange rate on the balance sheet date. Revenues and expenses
are translated at average rates prevailing during the period. The gains and
losses resulting from translation of financial statements of foreign
subsidiaries are recorded as a separate component of accumulated other
comprehensive income within the statement of stockholders’ equity.





Translation
of amounts from RMB into US$1 has been made at the following exchange rates for
the respective period:




September
      30,
              2009
            
            
            September
      30,
              2008Period-end
      RMB:US$1 exchange rate
            
            
            6.8376
            
            
            
            7.0726Average
      monthly RMB:US$1 exchange rate
            
            
            6.8425
            
            
            
            6.8718





·
            Fair
      value measurement





ASC Topic
820-10 “Fair Value
Measurements and Disclosures” ("ASC 820-10"), establishes a new framework
for measuring fair value and expands related disclosures. Broadly, ASC 820-10
framework requires fair value to be determined based on the exchange price that
would be received for an asset or paid to transfer a liability (an exit price)
in the principal or most advantageous market for the asset or liability in an
orderly transaction between market participants. ASC 820-10 establishes a
three-level valuation hierarchy based upon observable and non-observable inputs.
These tiers include: Level 1, defined as observable inputs such as quoted prices
in active markets; Level 2, defined as inputs other than quoted prices in active
markets that are either directly or indirectly observable; and Level 3, defined
as unobservable inputs in which little or no market data exists, therefore
requiring an entity to develop its own assumptions.





For
financial assets and liabilities, fair value is the price the Company would
receive to sell an asset or pay to transfer a liability in an orderly
transaction with a market participant at the measurement date. In the absence of
active markets for the identical assets or liabilities, such measurements
involve developing assumptions based on market observable data and, in the
absence of such data, internal information that is consistent with what market
participants would use in a hypothetical transaction that occurs at the
measurement date.





·
            Financial
      instruments





Cash and
cash equivalents, accounts and retention receivable and accounts payable are
carried at cost which approximates fair value. The estimated fair value of
obligation under finance lease was $1.3 million as of September 30, 2009, based
on current market prices or interest rates. Any changes in fair value of assets
or liabilities carried at fair value are recognized in other comprehensive
income for each period.




F-11


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


·
            Recent
      accounting pronouncements





The
Company has reviewed all recently issued, but not yet effective, accounting
pronouncements and does not believe the future adoption of any such
pronouncements may be expected to cause a material impact on its financial
condition or the results of its operations.





In
September 2009, Accounting Standards Codification (“ASC”) became the source of
authoritative U.S. GAAP recognized by the Financial Accounting Standards Board
(“FASB”) for nongovernmental entities, except for certain FASB Statements not
yet incorporated into ASC. Rules and interpretive releases of the SEC under
federal securities laws are also sources of authoritative U.S. GAAP for
registrants. The discussion below includes the applicable ASC
reference.





The
Company adopted ASC Topic 810-10, “Consolidation” (formerly SFAS
No. 160, “Noncontrolling
Interests in Consolidated Financial Statements – an amendment of ARB No.
51”) effective January 2, 2009. Topic 810-10 changes the manner of
presentation and related disclosures for the noncontrolling interest in a
subsidiary (formerly referred to as a minority interest) and for the
deconsolidation of a subsidiary. The adoption of these sections did not have a
material impact on the Company’s condensed consolidated financial
statements.





ASC Topic
815-10, “Derivatives and
Hedging” (formerly SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities”) was adopted by the Company effective
January 2, 2009. The guidance under ASC Topic 815-10 changes the manner of
presentation and related disclosures of the fair values of derivative
instruments and their gains and losses.





In April
2009, the FASB issued an update to ASC Topic 820-10, “Fair Value Measurements and
Disclosures” (“ASC 820-10) (formerly FASB Staff Position No. SFAS 157-4,
“Determining Fair Value When
the Volume and Level of Activity for the Asset or Liability Have Significantly
Decreased and Identifying Transactions That Are Not Orderly”). The
standard provides additional guidance on estimating fair value in accordance
with ASC 820-10 when the volume and level of transaction activity for an asset
or liability have significantly decreased in relation to normal market activity
for the asset or liability have significantly decreased and includes guidance on
identifying circumstances that indicate if a transaction is not orderly. The
Company adopted this pronouncement effective April 1, 2009 with no impact on its
condensed consolidated financial statements.





In April
2009, the FASB issued FSP SFAS No. 107-1, “Disclosures about Fair Value of
Financial Instruments” (“ASC 825-10”). ASC 825-10 requires fair value of
financialinstrumentsdisclosure
for interim reporting periods of publicly traded companies as well as in annual
financial statements. ASC 825-10 is effective for interim periods ending after
June 15, 2009 and was adopted by the Company in the second quarter of 2009.
There was no material impact to the Company’s condensed consolidated financial
statements as a result of the adoption of ASC 825-10.





In April
2009, the FASB issued FSP APB No. 28-1, “Interim Financial Reporting”
(“ASC 825-10”). ASC 825-10 requires the fair value of financialinstrumentsdisclosure in summarized financial
information at interim reporting periods. ASC 825-10 is effective for interim
periods ending after June 15, 2009 and was adopted by the Company in the second
quarter of 2009. There was no material impact to the Company’s condensed
consolidated financial statements as a result of the adoption of ASC
825-10.





The
Company adopted, ASC Topic 855-10, “Subsequent Events” (formerly
SFAS 165, “Subsequent
Events”) effective April 1, 2009. This pronouncement changes the general
standards of accounting for and disclosure of events that occur after the
balance sheet date but before financial statements are issued or are available
to be issued.




F-12


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


In June
2009, the FASB finalized SFAS No. 167, “Amending FASB interpretation No.
46(R)”, which was included in ASC Topic 810-10-05 “Variable Interest Entities”.
The provisions of ASC Topic 810-10-05 amend the definition of the primary
beneficiary of a variable interest entity and will require the Company to make
an assessment each reporting period of its variable interests. The provisions of
this pronouncement are effective January 1, 2010. The Company is evaluating the
impact of the statement on its consolidated financial statements.





In July
2009, the FASB issued SFAS No. 168, “The Hierarchy of Generally Accepted
Accounting Principles”. SFAS 168 codified all previously issued
accounting pronouncements, eliminating the prior hierarchy of accounting
literature, in a single source for authoritative U.S. GAAP recognized by the
FASB to be applied by nongovernmental entities. SFAS 168, now ASC Topic 105-10
“Generally Accepted Accounting
Principles”, is effective for financial statements issued for interim and
annual periods ending after September 15, 2009. The adoption of this
pronouncement did not have an effect on the Company’s condensed consolidated
financial statements.





In August
2009, the FASB issued an update of ASC Topic 820, “Measuring Liabilities at Fair Value”. The new guidance provides clarification that in circumstances in which
a quoted price in an active market for the identical liability is not available,
a reporting entity is required to measure fair value using prescribed
techniques. The Company adopted the new guidance in the third quarter of 2009
and it did not materially affect the Company’s financial position and results of
operations.





In
October 2009, the FASB issued Accounting Standards Update (“ASU”) No. 2009-13,
“Revenue Recognition (Topic
605): Multiple-Deliverable Revenue Arrangements (a consensus of the FASB
Emerging Issues Task Force)” which amends ASC 605-25, “Revenue Recognition:
Multiple-Element Arrangements.” ASU No. 2009-13 addresses how to
determine whether an arrangement involving multiple deliverables contains more
than one unit of accounting and how to allocate consideration to each unit of
accounting in the arrangement. This ASU replaces all references to fair value as
the measurement criteria with the term selling price and establishes a hierarchy
for determining the selling price of a deliverable. ASU No. 2009-13 also
eliminates the use of the residual value method for determining the allocation
of arrangement consideration. Additionally, ASU No. 2009-13 requires expanded
disclosures. This ASU will become effective for us for revenue arrangements
entered into or materially modified on or after April 1, 2011. Earlier
application is permitted with required transition disclosures based on the
period of adoption. The Company is currently evaluating the application date and
the impact of this standard on its condensed consolidated financial
statements.




NOTE
4 INVENTORIES





Inventories
consisted of the following:





September
      30,
              2009
            
            
            December
      31,
              2008(Unaudited)
            
            
            (Audited)Raw
      materials
            
            $
            610,638
            
            
            $
            720,460Work-in-process
            
            
            189,077
            
            
            
            569,450Finished
      goods
            
            
            7,555
            
            
            
            226,867$
            807,270
            
            
            $
            1,516,777





For the
three and nine months ended September 30, 2009 and 2008, no allowance for
obsolete inventories was recorded by the Company.




F-13


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


NOTE
5 PREPAYMENTS
AND OTHER RECEIVABLES





Prepayments
and other receivables consisted of the following:





September
      30,
              2009
            
            
            December
      31,
              2008(Unaudited)
            
            
            (Audited)Prepayment
      to vendors for raw materials
            
            $
            522,521
            
            
            $
            473,064Prepayment
      to equipment vendors
            
            
            -
            
            
            
            126,930Prepaid
      operating expenses
            
            
            -
            
            
            
            26,354Other
      receivables
            
            
            4,727
            
            
            
            26,494Tendering
      deposit
            
            
            292,500
            
            
            
            -$
            819,748
            
            
            $
            652,842








NOTE
6 PLANT
AND EQUIPMENT, NET





Plant and
equipment, net, consisted of the following:





September
      30,
              2009
            
            
            December
      31,
              2008(Unaudited)
            
            
            (Audited)Plant
      and machinery
            
            $
            5,387,817
            
            
            $
            2,967,425Furniture,
      fixture and equipment
            
            
            47,723
            
            
            
            58,170Foreign
      translation difference
            
            
            9,358
            
            
            
            181,8145,444,898
            
            
            
            3,207,409Less:
      accumulated depreciation
            
            
            (1,045,963
            )
            
            
            (778,988
            )Less:
      foreign translation difference
            
            
            (2,141
            )
            
            
            (35,134
            )Plant
      and equipment, net
            
            $
            4,396,794
            
            
            $
            2,393,287





Depreciation
expenses for the three months ended September 30, 2009 and 2008 were $84,122 and
$68,287 respectively.





Depreciation
expenses for the nine months ended September 30, 2009 and 2008 were $233,085 and
$238,702, respectively.




NOTE
7 CONSTRUCTION
IN PROGRESS





Since
2008, the Company was approved by the local government to construct a new
manufacturing facility for energy-saving products and equipments in Yingzhou
District Industrial Park, Tieling City, Liaoning Province, PRC. Such new
manufacturing facility is developed for the production of flow control equipment
and energy-saving equipment. It is expected that the facility will be completed
in 2010. The total estimated construction cost is approximately $5,000,000
(excluding the land use rights).  As of September 30, 2009, the
Company capitalized $5,654,002 as construction in progress.





F-14


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


NOTE
8 OTHER
PAYABLES AND ACCRUED LIABILITIES





Other
payables and accrued liabilities consisted of the following:





September
      30, 2009
            
            
            December
      31, 2008(Unaudited)
            
            
            (Audited)Rent
      payable
            
            $
            34,599
            
            
            $
            40,121Provision
      for contingent liability
            
            
            200,000
            
            
            
            200,000Accrued
      expenses
            
            
            35,749
            
            
            
            42,719Payable
      to equipment vendors
            
            
            -
            
            
            
            38,196Other
      payable
            
            
            15,537
            
            
            
            12,802$
            285,885
            
            
            $
            333,838





NOTE
9 OBLIGATION
UNDER FINANCE LEASE





The
Company purchased certain equipment under a capital lease arrangement with an
effective interest rate of 8.59% per annum, due May 25, 2012 and repayable
principal and interest monthly.





The
obligation under the finance lease is as follows:





September
      30,
              2009Finance
      lease
            
            $
            1,256,187Less:
      current portion
            
            
            (425,149
            )Non-current
      portion
            
            $
            831,038





The
maturities of the finance lease obligation for the next three years are as
follows:





Years
      ending September 30:2010
            
            $
            524,3322011
            
            
            688,0592012
            
            
            195,725Total
      finance leases obligation
            
            
            1,408,116Less:
      interest
            
            
            (151,929
            )Present
      value of net minimum obligation
            
            $
            1,256,187





The
Company’s certain equipments are held under finance lease and the related
depreciation is included in depreciation expense (see Note 6).





F-15


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


NOTE
10 STOCKHOLDERS’ EQUITY





On August
26, 2009, the Company approved the 1 for 3 reverse split of its common stock.
All common stock and per share data for all periods presented in these financial
statements have been restated to give effect to the reverse stock
split.





Immediately
following completion of reverse stock split, the Company had a total of
13,291,387 shares of its common stock issued and outstanding as of September 30,
2009.




NOTE
11 INCOME
TAXES





NFEC is
registered in the State of Delaware and is subject to the tax laws of United
States of America.





As of
September 30, 2009, the operation in the United States of America incurred
$1,414,329 of cumulative net operating losses which can be carried forward to
offset future taxable income. The net operating loss carry forward begin to
expire in 2029, if unutilized. The Company has provided for a full valuation
allowance against the deferred tax assets of $495,015 on the expected future tax
benefits from the net operating loss carry forward as the management believes it
is more likely than not that these assets will not be realized in the
future.





Effective
from January 1, 2008, the Corporate Income Tax Law of the People’s Republic of
China (the “New CIT Law”) is imposed. Under the New CIT Law, Nengfa Energy, as a
foreign investment enterprise continues to enjoy the unexpired tax holiday of
50%-reduction on the unified income tax through 2011, subject to a transitional
policy. Sales Company is a domestic company which is entitled to the unified
statutory income tax rate of 25%.





The
reconciliation of income tax rate to the effective income tax rate for the nine
months ended September 30, 2009 and 2008 is as follows:





Nine
      months ended
              September
      30,2009
            
            
            2008Income
      before income taxes from PRC operation
            
            $
            4,475,335
            
            
            $
            2,756,598Statutory
      income tax rate
            
            
            25
            %
            
            
            25
            %Income
      tax expense at statutory rate
            
            
            1,118,834
            
            
            
            689,150Effect
      from tax holiday
            
            
            (558,290
            )
            
            
            (688,678
            )Income
      tax expense
            
            $
            560,544
            
            
            $
            472




NOTE
12 STOCK
BASED COMPENSATION





In June
2009, the Company entered into various agreements with Investor Relations (IR)
firms, in which the Company agreed to issue warrants to purchase an aggregate of
450,000 shares of its common stock to the IR firms. The warrants have an
exercise price of $0.60 per share and become exercisable at the effective date.
The warrants expire 5 years after becoming exercisable and all of the warrants
have fully vested.




F-16


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


Transactions
involving warrants issued to IR firms during the period ended September 30, 2009
are summarized as follows (warrants were not issued to employees):





Warrants
      outstandingNumber
      of warrants
            
            
            Exercise
      price range per share
            
            
            Weighted
      average exercise price per share
            
            
            Weighted
      average grant-date fair value per shareBalance
      as of December 31, 2008
            
            
            -
            
            
            $
            -
            
            
            $
            -
            
            
            $
            -Warrants
      granted in 2009
            
            
            450,000
            
            
            
            0.60
            
            
            
            0.60
            
            
            
            0.78Warrants
      cancelled
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -Warrants
      exercised
            
            
            -
            
            
            
            -
            
            
            
            -
            
            
            
            -Balance
      as of September 30, 2009
            
            
            450,000
            
            
            $
            0.60
            
            
            $
            0.60
            
            
            $
            0.78




The
Company adopted ASC 718 using the Black-Scholes Option Pricing Model to measure
the fair value of warrants on the grant date, with the following weighted
average assumptions:





Expected
      life (in years)
            
            
            5Volatility
            
            
            456.53
            %Risk
      free interest rate
            
            
            2.52%
      - 2.89
            %Dividend
      yield
            
            
            0
            %Weighted
      average fair value
            
            
            0.78





The
Company recognized $349,000 as stock based compensation at their fair values for
the nine months ended September 30, 2009.




NOTE
      13
            SEGMENT
      INFORMATION





·
            Segment
      reporting





The
Company’s business units have been aggregated into two reportable segments, as
defined by ASC Topic 280:





·
            Heavy
      manufacturing business – production of valves components and the provision
      of valve improvement and engineering
services;





·
            Energy-saving
      related business – production of wind-energy equipment, provision of
      energy-saving related re-engineering and technical services and long-term
      construction project.





The
Company operates these business segments in PRC and all of the identifiable
assets of the Company are located in PRC during the periods
presented.




F-17


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


The
accounting policies of the segments are the same as those described in the
summary of significant accounting policies (see Note 3). The Company had no
inter-segment sales for the nine months ended September 30, 2009 and 2008. The
Company’s reportable segments are strategic business units that offer different
products and services. They are managed separately because each business
requires different technology and marketing strategies. Summarized financial
information concerning the Company’s reportable segments is shown in the
following table for the three and nine months ended September 30, 2009 and
2008:





Three
      months ended September 30, 2009Valves
              manufacturing
      business
            
            
            Energy-saving
      related business
            
            
            TotalOperating
      revenues, net:-
      Products
            
            $
            6,646,008
            
            
            
            51,094
            
            
            
            6,697,102-
      Services
            
            
            869,319
            
            
            
            -
            
            
            
            869,319Total
      operating revenues
            
            
            7,515,327
            
            
            
            51,094
            
            
            
            7,566,421Cost
      of revenues
            
            
            4,810,164
            
            
            
            38,207
            
            
            
            4,848,371Gross
      profit
            
            $
            2,705,163
            
            
            $
            12,887
            
            
            $
            2,718,050





Nine
      months ended September 30, 2009Valves
              manufacturing
      business
            
            
            Energy-saving
      related business
            
            
            TotalOperating
      revenues, net:-
      Products
            
            $
            13,271,984
            
            
            $
            154,679
            
            
            $
            13,426,663-
      Services
            
            
            1,778,294
            
            
            
            -
            
            
            
            1,778,294Total
      operating revenues
            
            
            15,050,278
            
            
            
            154,679
            
            
            
            15,204,957Cost
      of revenues
            
            
            10,165,687
            
            
            
            116,979
            
            
            
            10,282,666Gross
      profit
            
            $
            4,884,591
            
            
            $
            37,700
            
            
            $
            4,922,291





Three
      months ended September 30, 2008Valves
              manufacturing
      business
            
            
            Energy-saving
      related business
            
            
            TotalOperating
      revenues, net:-
      Products
            
            $
            3,557,112
            
            
            $
            -
            
            
            $
            3,557,112-
      Services
            
            
            939,406
            
            
            
            -
            
            
            
            939,406-
      Projects
            
            
            -
            
            
            
            105,308
            
            
            
            105,308Total
      operating revenues
            
            
            4,496,518
            
            
            
            105,308
            
            
            
            4,601,826Cost
      of revenues
            
            
            3,351,469
            
            
            
            14,115
            
            
            
            3,365,584Gross
      profit
            
            $
            1,145,049
            
            
            $
            91,193
            
            
            $
            1,236,242





Nine
      months ended September 30, 2008Valves
              manufacturing
      business
            
            
            Energy-saving
      related business
            
            
            TotalOperating
      revenues, net:-
      Products
            
            $
            8,836,478
            
            
            $
            -
            
            
            $
            8,836,478-
      Services
            
            
            2,108,342
            
            
            
            -
            
            
            
            2,108,342-
      Projects
            
            
            -
            
            
            
            818,490
            
            
            
            818,490Total
      operating revenues
            
            
            10,944,820
            
            
            
            818,490
            
            
            
            11,763,310Cost
      of revenues
            
            
            7,909,078
            
            
            
            609,811
            
            
            
            8,518,889Gross
      profit
            
            $
            3,035,742
            
            
            $
            208,679
            
            
            $
            3,244,421





F-18


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


NOTE
14 CONCENTRATIONS
OF RISK





The
Company is exposed to the following concentrations of risk:





For the
three and nine months ended September 30, 2009, 100% of the Company’s assets
were located in PRC and 100% of the Company’s revenues and purchases were
derived from customers and vendors located in PRC.





(a)         Major
customers





For the
three months ended September 30, 2009 and 2008, customers who account for 10% or
more of the Company’s revenues and their outstanding balances as at period-end
dates, are presented as follows:





Three
      months ended
              September
      30, 2009
            
            
            
            September
      30,
              2009Customers
            
            
            Revenues
            
            Percentage
              of
      revenues
            
            
            
            Accounts
              receivable,
      tradeCustomer
      A
            
            
            $
            3,714,179
            
            49
            %
            
            
            $
            7,414,700Customer
      B
            
            
            
            775,643
            
            10
            %
            
            
            
            778,084Customer
      C
            
            
            
            968,056
            
            13
            %
            
            
            
            1,173,611Total:
            
            $
            5,457,878
            
            72
            %
            Total:
            
            $
            9,366,395





Three
      months ended
              September
      30, 2008
            
            
            
            September
      30,
              2008Customers
            
            
            Revenues
            
            Percentage
              of
      revenues
            
            
            
            Accounts
              receivable,
      tradeCustomer
      A
            
            
            $
            2,212,765
            
            48
            %
            
            
            $
            5,150,727Customer
      B
            
            
            
            624,632
            
            14
            %
            
            
            
            709,051Total:
            
            $
            2,837,397
            
            62
            %
            Total:
            
            $
            5,859,778





For the
nine months ended September 30, 2009 and 2008, customers who account for 10% or
more of the Company’s revenues and their outstanding balances as at period-end
dates, are presented as follows:





For the
nine months ended September 30, 2009, one customer represented more than 10% of
the Company’s revenues. This customer accounts for 58% of revenues amounting to
$8,873,432, with $7,414,700 of accounts receivable.




F-19


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


Nine
      months ended
              September
      30, 2008
            
            
            
            September
      30,
              2008Customers
            
            
            Revenues
            
            Percentage
              of
      revenues
            
            
            
            Accounts
              receivable,
      tradeCustomer
      A
            
            
            $
            6,833,406
            
            58%
            
            
            
            $
            5,150,727Customer
      B
            
            
            
            1,499,557
            
            13%
            
            
            
            
            709,051Total:
            
            $
            8,332,963
            
            71%
            
            Total:
            
            
            5,859,778





(b)         Major
vendors





For the
three months ended September 30, 2009 and 2008, vendors who account for 10% or
more of the Company’s purchases and their outstanding balances as at period-end
dates, are presented as follows:





For the
three months ended September 30, 2009, one vendor represented more than 10% of
the Company’s purchases. This vendor accounts for 27% of the Company’s purchase
amounting to $1,611,878, with $254,944 of accounts payable.





For the
three months ended September 30, 2008, one vendor represented more than 10% of
the Company’s purchases. This vendor accounts for 31% of the Company’s purchase
amounting to $2,165,463, with $246,096 of accounts payable.





For the
nine months ended September 30, 2009 and 2008, vendors who account for 10% or
more of the Company’s purchases and their outstanding balances as at period-end
dates, are presented as follows:





For the
nine months ended September 30, 2009, one vendor represented more than 10% of
the Company’s purchases. This vendor accounts for 25% of the Company’s purchase
amounting to $2,579,891, with $254,944 of accounts payable.





For the
nine months ended September 30, 2008, one vendor represented more than 10% of
the Company’s purchases. This vendor accounts for 32% of the Company’s purchase
amounting to $3,567,924, with $246,096 of accounts payable.





(c)         Credit
risk





Financial
instruments that are potentially subject to credit risk consist principally of
trade receivables. The Company believes the concentration of credit risk in its
trade receivables is substantially mitigated by its ongoing credit evaluation
process and relatively short collection terms. The Company does not generally
require collateral from customers. The Company evaluates the need for an
allowance for doubtful accounts based upon factors surrounding the credit risk
of specific customers, historical trends and other information.





(d)  Interest
rate risk





As the
Company has no significant interest-bearing assets, the Company’s income and
operating cash flows are substantially independent of changes in market interest
rates.




F-20


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


The
Company’s interest-rate risk arises from bank overdraft. Bank overdraft at
variable rates exposes the Company to cash flow interest rate risk. The Company
manages interest rate risk by varying the issuance and maturity dates variable
rate debt, limiting the amount of variable rate debt, and continually monitoring
the effects of market changes in interest rates. As of September 30, 2009,
borrowings under finance lease were at fixed rates. The interest rates are
disclosed in Note 9.





(e)         Exchange
rate risk





The
reporting currency of the Company is US$, to date the majority of the revenues
and costs are denominated in RMB and a significant portion of the assets and
liabilities are denominated in RMB. As a result, the Company is exposed to
foreign exchange risk as its revenues and results of operations may be affected
by fluctuations in the exchange rate between US$ and RMB. If RMB depreciates
against US$, the value of RMB revenues and assets as expressed in US$ financial
statements will decline. The Company does not hold any derivative or other
financial instruments that expose to substantial market risk.





(f)         Economic
and political risks





The
Company's operations are conducted in PRC. Accordingly, the Company's business,
financial condition and results of operations may be influenced by the
political, economic and legal environment in PRC, and by the general state of
the PRC economy.





The
Company's operations in PRC are subject to special considerations and
significant risks not typically associated with companies in North America and
Western Europe. These include risks associated with, among others, the
political, economic and legal environment and foreign currency exchange. The
Company's results may be adversely affected by changes in the political and
social conditions in PRC, and by changes in governmental policies with respect
to laws and regulations, anti-inflationary measures, currency conversion,
remittances abroad, and rates and methods of taxation.




NOTE
      15
            COMMITMENTS
      AND CONTINGENCIES





(a)
            Operating
      lease commitments





The
Company leased an office premise under a non-cancelable operating lease
agreement for a renewal period of one year, due February 9, 2010. The annual
lease payment is $43,844 (RMB300,000).





(b)
            Capital
      commitments





Since
2008, the Company was approved by the local government to construct a new
manufacturing facility for energy-saving products and equipments in Yingzhou
District Industrial Park, Tieling City, Liaoning Province, PRC. Such new
manufacturing facility is developed for the production of flow control equipment
and energy-saving equipment. It is expected that the facility will be completed
in 2010. The total estimated construction cost is approximately $5,000,000
(excluding the land use rights).





As of
September 30, 2009, the Company incurred approximately $7 million and recorded
as construction in progress with no significant contingent payments related to
the third party.




F-21


NF
ENERGY SAVING CORPORATION
 (Formerly
NF Energy Saving Corporation of America)
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE NINE MONTHS ENDED SEPTEMBER 30, 2009
 (Currency
expressed in United States Dollars (“US$”), except for number of
shares)
 (Unaudited)


(c)
            Litigation





On May
21, 2007, a civil complaint Robert Dawley vs NF Energy Saving Corp. of America,
etal. was filed in the United States District Court, Middle District of Florida,
Orlando, Civil No. 6:07-cv-872-Orl-18DAB. The complaint accuses the defendants
of breaching a contract for payment of money that was signed by Sam Winer,
former Chief Executive Officer, before the commencement of the company’s reverse
merger with the current subsidiary. After being initially dismissed by the
Court, the action was authorized to proceed on November 16, 2007. The trial was
held in the United States District Court, Middle District of Florida, Orlando on
October 16, 2008. The District Court issued a Judgment on December 11, 2008
awarding the plaintiff the sum of $400,000 against the company, plus prejudgment
interest in the amount of $132,822, with continuing interest of $132 per day on
the $400,000 obligation until it is paid. The Court further adjudged that the
plaintiff shall surrender his stock upon payment of the $400,000. In the event
the plaintiff fails to surrender his stock after payment, the company may cancel
the stock. Any payments or collection under the Judgment shall be credited first
to interest.





On
January 6, 2009, the Company filed a notice of appeal 09-10140-B in the United
States of Court of Appeals for the 11th Circuit from the District Court’s
judgment. The Company has engaged an attorney to prosecute its appeal of the
above judgment. The Company has also accrued $200,000 for this contingent
liability to the statement of operation in 2008. The parties have completed
briefing the appeal and are waiting for the court’s decision on the appeal. At
this point, the Company does not believe that the judgment would have a material
impact on the Company.




NOTE
      16
            SUBSEQUENT
      EVENTS





In the
third quarter of fiscal year 2009, the Company adopted the provisions of ASC
Topic 855, “Subsequent
Events” and evaluated, for potential recognition and disclosure, events
that occurred prior to the filing of the Company’s Quarterly Report on Form 10-Q
for the nine months period ended September 30, 2009 on November13,
2009.





On
October 13, 2009, the Company entered into a Termination and Modification
Agreement (the “Agreement”) with two IR firms. Pursuant to the Agreement, the
Company and two IR firms mutually agreed to terminate the IR consulting
agreement dated June 1, 2009, and the two IR firms agreed to surrender a portion
of the aggregate 250,000 shares (pre reverse split) subject to warrants which
they received under the Agreements. To adjust for the surrender, on the same
terms, the Company issued warrants to purchase an aggregate of 36,111 shares
(post reverse split) of its common stock to these two firms. These warrants have
an exercise price of $1.80 per share (adjusted for the reverse split). As a
result, the number of shares under all the warrants outstanding was reduced by
47,222 shares, so that now there are an aggregate of warrants to purchase of up
to 102,778 shares (post reverse split) of common stock.


F-22




Item 2. Management’s Discussion and Analysis
of Financial Condition and Results of Operations.





GENERAL
DESCRIPTION OF BUSINESS





As used
herein the terms "we", "us", "our," the “Registrant,” “NFEC” and the "Company"
means, NF Energy Saving Corporation, a Delaware corporation, formerly known as
NF Energy Saving Corporation of America, Diagnostic Corporation of America,
Global Broadcast Group, Inc., and Galli Process, Inc. These terms also refer to
our subsidiary corporation, Liaoning Nengfa Weiye Energy Technology Corporation
Ltd. (“Nengfa Energy”), formerly known as Neng Fa Weiye Pipe Network
Construction and Operation Co. Ltd., a corporation organized and existing under
the laws of the Peoples’ Republic of China (“PRC”) acquired in November
2006.





NF Energy
Saving Corporation was incorporated under the laws of the State of Delaware in
the name of Galli Process, Inc. on October 31, 2000 for the purpose of
seeking and consummating a merger or acquisition with a business entity
organized as a private corporation, partnership, or sole proprietorship. On
December 31, 2001, Galli Process, Inc. became a majority owned subsidiary
of City View TV, Inc., a Florida corporation (“City View”). On February 7, 2002,
Galli Process, Inc. changed its name to Global Broadcast Group, Inc. On
March 1, 2002, City View merged into Global Broadcast Group, Inc., which
was the surviving entity. On November 12, 2004, the Company changed its
name to Diagnostic Corporation of America. On March 15, 2007, we changed our
name to NF Energy Saving Corporation of America, and on August 24, 2009, the
Company further changed its name to “NF Energy Saving Corporation, in both
instances to more accurately reflect our business after a stock exchange
transaction with Neng Fa. Our principal place of business is 21-Jia Bei Si Dong
Road, Tie Xi Qu, Shenyang, P. R. China 110021. Our telephone number is (8624)
2560-9750.





On
November 15, 2006, we executed a Plan of Exchange ("Plan of Exchange"), among
the Company, Neng Fa, the shareholders of Neng Fa (the "Neng Fa Shareholders")
and Gang Li, our Chairman and Chief Executive Officer ("Mr. Li").





Pursuant
to and at the closing of the Plan of Exchange, which occurred on November 30,
2006, we issued to the Neng Fa Shareholders 12,000,000 shares of our common
stock, or 89.4% of our then outstanding common stock, in exchange for all of the
shares of capital stock of Neng Fa owned by the Neng Fa shareholders.
Immediately upon the closing, Neng Fa became our 100% owned subsidiary, and the
Company ceased all of our current remaining operations and adopted and
implemented the business plan of Neng Fa.





On
September 5, 2007, we established a new sales company “Liaoning Nengfa Weiye Tie
Fa Sales Co., Ltd” (“Sales Company”), a limited liability corporation organized
and existing under the laws of the Peoples’ Republic of China. The Sales Company
is a subsidiary, which is 99% owned by Neng Fa.  The Sales Company
engages in the sales and marketing of flow control equipments and products in
PRC.





On
January 31, 2008, to better reflect our energy technology business we changed
the name of our 100% own subsidiary “Liaoning Nengfa Weiye Pipe Network
Construction and Operation Co. Ltd” to “Liaoning Nengfa Weiye Energy Technology
Company Ltd.” (Nengfa Energy). Nengfa Energy’s area of business includes
research and development, processing, manufacturing, marketing and
distribution of energy saving flow control equipment; manufacturing, marketing
and distribution of energy equipment, wind power equipment and fittings;
energy saving technical reconstruction; and energy saving technology consulting
services.





On August
26, 2009, the Company completed a 3 to 1 reverse share split of its common
stock.  As a result, the total number of shares of outstanding common
stock changed from 39,872,704 pre-split to 13,291,387 post-split.




23





Nengfa
Energy specializes in the energy technology business.  We provide
energy saving technology consulting, optimization design services, energy saving
reconstruction of pipeline networks and contractual energy management services
for China’s electric power, petrochemical, coal, metallurgy, construction, and
municipal infrastructure development industries. We also are engaged in the
manufacturing and sales of the energy-saving flow control equipment. Currently,
our flow control equipment business holds a leading position in China. The
Company has the Det Norske Veritas Management System Certificate which certifies
that our products conform to the Management System Standard ISO9001:2000. We
have been a member of the Chicago Climate Exchange since 2006. In 2007, Nengfa
Energy received contracts for three sections of the prominent project “Redirect
the water from the Rivers in the South to the North Middle Section Jingshi
Section Water Supply Engineering Project.” This project was completed and passed
inspection in 2008.  In 2008, the Company received flow control
equipment contracts from seven cities in Liaoning Province for their respective
water supply systems.  In 2009, the Company was awarded several flow
control equipment supply contracts, including one for the Xijiang diversion
project of Guandong Province, and one for Phase 1 of Guangdong Yuedian Huilai
Power Plant.





Our
principal future development includes enhancing our technical consulting and
design capabilities, enhancing and strengthening the energy-saving services
capacity to serve electric power companies, water supply enterprises and the
industrial sector energy conservation, improve our range of energy-saving
products and develop new energy equipment production capacity. We are aiming to
become a main supplier of new energy equipment, energy-saving equipment and
flow control devices; become a major operator of energy-saving technological
transformation projects and comprehensive management of energy-saving emission
reduction projects; and become the general contractor of energy-saving
technological transformation projects.





FORWARD
LOOKING STATEMENTS





Certain
statements in this report, including statements of our expectations, intentions,
plans and beliefs, including those contained in or implied by "Management's
Discussion and Analysis" and the Notes to Consolidated Financial Statements, are
"forward-looking statements", within the meaning of Section 21E of the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), that are
subject to certain events, risks and uncertainties that may be outside our
control. The words “believe”, “expect”, “anticipate”, “optimistic”, “intend”,
“will”, and similar expressions identify forward-looking statements. Readers are
cautioned not to place undue reliance on these forward-looking statements, which
speak only as of the date on which they are made. We undertake no obligation to
update or revise any forward-looking statements. These forward-looking
statements include statements of management's plans and objectives for our
future operations and statements of future economic performance, information
regarding our expansion and possible results from expansion, our expected
growth, our capital budget and future capital requirements, the availability of
funds and our ability to meet future capital needs, the realization of our
deferred tax assets, and the assumptions described in this report underlying
such forward-looking statements. Actual results and developments could differ
materially from those expressed in or implied by such statements due to a number
of factors, including, without limitation, those described in the context of
such forward-looking statements, our expansion and acquisition strategy, our
ability to achieve operating efficiencies, our dependence on network
infrastructure, capacity, telecommunications carriers and other suppliers,
industry pricing and technology trends, evolving industry standards, domestic
and international regulatory matters, general economic and business conditions,
the strength and financial resources of our competitors, our ability to find and
retain skilled personnel, the political and economic climate in which we conduct
operations and the risk factors described from time to time in our other
documents and reports filed with the Securities and Exchange Commission (the
"Commission"). Additional factors that could cause actual results to differ
materially from the forward-looking statements include, but are not limited to:
1) our ability to successfully develop, manufacture and deliver our products on
a timely basis and in compliance with our contract terms, 2) our ability to
compete effectively with other companies in our industry segments, 3) our
ability to raise capital or generate sufficient working capital in order to
effectuate our business plan, 4) our ability to retain our key executives, and
5) our ability to win and perform significant construction and infrastructure
projects.




24





CRITICAL
ACCOUNTING POLICIES





An
appreciation of our critical accounting policies is necessary to understand our
financial results. These policies may require management to make difficult and
subjective judgments regarding uncertainties, and as a result, such estimates
may significantly impact our financial results. The precision of these estimates
and the likelihood of future changes depend on a number of underlying variables
and a range of possible outcomes. We applied our critical accounting policies
and estimation methods consistently in all periods presented.





Revenue
recognition





In
accordance with the ASC Topic 605, “Revenue Recognition”, the Company recognizes
revenue when persuasive evidence of an arrangement exists, transfer of title has
occurred or services have been rendered, the selling price is fixed or
determinable and collectibility is reasonably assured.





The
Company’s revenue is principally derived from three primary sources: Sales of
energy saving flow control equipment, Provision of energy project management and
sub-contracting service, and Provision of energy-saving reconstruction
projects.





(a) Sale
of products





The
Company derives a majority of its revenues from the sale of energy saving flow
control equipment. Generally, the energy saving flow control equipment is
manufactured and configured to customer requirements. The Company typically
produces the energy saving flow control equipment for customers during a period
from one to six months. When the Company completes production in accordance with
the customer’s specification, the customer is required to inspect the finished
products at the Company’s plant to approve quality and conformity and finally
acceptance. Once the product is accepted by the customer, the Company undertakes
delivery to the customer, usually within a month.





The
Company recognizes revenue from the sale of such finished products upon delivery
to the customers, when the title and risk of loss are fully transferred to the
customers. The Company records its revenues, net of value added taxes (“VAT”).
The Company is subject to VAT which is levied on the majority of the products at
the rate of 17% on the invoiced value of sales. The Company experienced no
product returns and has recorded no reserve for sales returns for the nine
months ended September 30, 2009 and 2008.





(b)
Service revenue





Service
revenue is derived from energy-saving technical services, project management or
sub-contracting services that are not an element of the arrangement for the sale
of products. These services are generally billed on a time-cost plus basis, for
the period of service which is generally from two to three months.





Revenue
is recognized, net of business taxes when the service is rendered and accepted
by the customers.





(c)
Project revenue





For the
energy-saving reconstruction projects, the Company follows the
percentage-of-completion method under ASC Subtopic 605-35, “Construction-Type and
Production-Type Contracts” to recognize revenues for energy-saving
reconstruction projects that require significant modification or customization
or installation subject to the customers for a term of service period exceeding
12 months. Advance payments from customers and amounts billed to clients in
excess of revenue recognized are recorded as receipt in advance. For the nine
months ended September 30, 2009, the Company did not recognize any project
revenue.





(d)
Interest income





Interest
income is recognized on a time apportionment basis, taking into account the
principal amounts outstanding and the interest rates applicable.




25





Accounts
receivable





Accounts
receivable are recorded at the invoiced amount and do not bear interest, and are
due within the contractual payment terms, generally 30 to 90 days from shipment.
Credit is extended based on evaluation of a customer's financial condition, the
customer credit-worthiness and their payment history. Accounts receivable
outstanding longer than the contractual payment terms are considered past due.
Past due balances over 90 days and over a specified amount are reviewed
individually for collectibility. At the end of each period, the Company
specifically evaluates individual customer’s financial condition, credit
history, and the current economic conditions to monitor the progress of the
collection of accounts receivables. The Company will consider an allowance for
doubtful accounts for any estimated losses resulting from the inability of its
customers to make required payments. For the receivables that are past due or
not being paid according to payment terms, the appropriate actions are taken to
exhaust all means of collection, including seeking legal resolution in a court
of law.





Account
balances are charged off against the allowance for doubtful accounts after all
means of collection have been exhausted and the potential for recovery is
considered remote. The Company does not have any off-balance-sheet credit
exposure related to its customers.





Inventories





Inventories
are stated at the lower of cost or market (net realizable value), with the cost
being determined on a weighted average method. Costs include material, labor and
manufacturing overhead costs. Quarterly, the Company reviews historical sales
activity to determine excess, slow moving items and potentially obsolete items
and also evaluates the impact of any anticipated changes in future demand. The
Company provides inventory allowances based on excess and obsolete inventories
determined principally by customer demand. As of September 30, 2009, the Company
did not record an allowance for obsolete inventories, nor have there been any
write-offs.





Plant and
equipment, net





Plant and
equipment are stated at cost less accumulated depreciation and accumulated
impairment losses, if any. Depreciation is calculated on the straight-line basis
over the following expected useful lives from the date on which they become
fully operational and after taking into account their estimated residual
values:





Depreciable
      life
            
            Residual
      valuePlant
      and machinery
            3 –
      20 years
            
            
            5
            %Furniture,
      fixture and equipment
            5 –
      8 years
            
            
            5
            %





Expenditure
for repairs and maintenance is expensed as incurred. When assets have been
retired or sold, the cost and related accumulated depreciation are removed from
the accounts and any resulting gain or loss is recognized in the results of
operations.





Finance
leases





Leases
that transfer substantially all the rewards and risks of ownership to the
lessee, other than legal title, are accounted for as finance leases.
Substantially all of the risks or benefits of ownership are deemed to have been
transferred if any one of the four criteria is met: (i) transfer of ownership to
the lessee at the end of the lease term, (ii) the lease containing a bargain
purchase option, (iii) the lease term exceeding 75% of the estimated economic
life of the leased asset, and (iv) the present value of the minimum lease
payments exceeding 90% of the fair value. At the inception of a finance lease,
the Company as the lessee records an asset and an obligation at an amount equal
to the present value of the minimum lease payments. The leased asset is
amortized over the shorter of the lease term or its estimated useful life if
title does not transfer to the Company, while the leased asset is depreciated in
accordance with the Company’s normal depreciation policy if the title is to
eventually transfer to the Company. The periodic lease payments made during the
lease term are allocated between a reduction in the obligation and interest
element using the effective interest method in accordance with the provisions of
Accounting Standards Codification ("ASC") Subtopic 835-30, “Imputation of
Interest”.




26





Stock-based
compensation





The
Company adopts ASC Topic 718, "Stock Compensation",("ASC
718") using the fair value method. Under SFAS No. 123(R), the stock-based
compensation is measured using the Black-Scholes Option-Pricing model on the
date of grant.





For
non-employee stock-based compensation, the Company adopts ASC Subtopic
505-50,“Equity-Based Payments to Non-Employees”, Stock-based compensation
related to non-employees is accounted for based on the fair value of the related
stock or options or the fair value of the services on the grant date, which ever
is more readily determinable in accordance with ASC 718.





Income
Taxes





The
Company adopts the ASC Topic 740, “Income Taxes” regarding
accounting for uncertainty in income taxes which prescribes the recognition
threshold and measurement attributes for financial statement recognition and
measurement of tax positions taken or expected to be taken on a tax return. In
addition, the guidance requires the determination of whether the benefits of tax
positions will be more likely than not sustained upon an audit based upon the
technical merits of the tax position. For tax positions that are determined to
be more likely sustainable than not upon audit, the Company recognizes the
largest amount of benefit that is greater than 50% likely of being realized upon
ultimate settlement in the financial statements. For tax positions that are not
determined to be more likely sustainable than not upon audit, the Company does
not recognize any portion of the benefit in the financial statements. The
guidance provides for de-recognition, classification, penalties and interest,
accounting in interim periods and disclosure.





For the
nine months ended September 30, 2009 and 2008, the Company did not have any
interest and penalties associated with tax positions. As of September 30, 2009,
the Company did not have any significant unrecognized uncertain tax
positions.





The
Company conducts its majority of business in PRC and, therefore, is subject to
tax in that jurisdiction. As a result of its business activities, the Company
files tax returns that are subject to examination by the PRC tax authorities.
For the period ended September 30, 2009, the Company filed and cleared its 2008
PRC tax return with the tax authority.





Foreign currencies
translation





Transactions
denominated in currencies other than the functional currency are translated into
the functional currency at the exchange rates prevailing at the dates of the
transaction. Monetary assets and liabilities denominated in currencies other
than the functional currency are translated into the functional currency using
the applicable exchange rates at the balance sheet dates. The resulting exchange
differences are recorded in the condensed consolidated statement of
operations.





The
reporting currency of the Company is the United States dollar ("US$"). The
Company's subsidiaries in PRC, Nengfa Energy and Sales Company maintain their
books and records in the local currency of PRC, Renminbi ("RMB"), which is the
primary currency of the economic environment in which these entities
operate.




27





In
general, for consolidation purposes, assets and liabilities of its subsidiaries
whose functional currency is not the US$ are translated into US$, in accordance
with ASC Subtopic 830-30, “Foreign Currency
Translation”, using the exchange rate on the balance sheet date. Revenues
and expenses are translated at average rates prevailing during the period. The
gains and losses resulting from translation of financial statements of foreign
subsidiaries are recorded as a separate component of accumulated other
comprehensive income within the statement of stockholders’ equity.





Translation
of amounts from RMB into US$1 has been made at the following exchange rates for
the respective period:




September30,
              2009
            
            
            September
      30,
              2008Period-end
      RMB:US$1 exchange rate
            
            
            6.8376
            
            
            
            7.0726Average
      monthly RMB:US$1 exchange rate
            
            
            6.8425
            
            
            
            6.8718




RESULTS
OF OPERATIONS


FOR
THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2009 AND 2008




The
following discussion should be read in conjunction with the financial statements
included in this report and is qualified in its entirety by the
foregoing.





REVENUES





Total
revenues were $7,566,421 and $15,204,957 for the three and nine months ended
September 30, 2009, respectively, as compared to $4,601,826 and $11,763,310
for the corresponding periods in 2008. Total revenues increased by $2,964,595
and $3,441,647, a 64% and 29% increase for the three and nine months ended
September 30, 2009, respectively, as compared to total revenues for the three
and nine months ended September 30, 2008.





In the
middle of 2008, the Chinese government announced more flexible monetary policies
and financial policies. The Chinese government then indicated it will invest
close to 4 trillion RMB to stimulate domestic demand and announced ten policies
to promote economic stability and growth. Several of the policies included
promotion of domestic projects for civil engineering, basic infrastructure,
construction for environmental protection and reconstruction. The policies
implemented relating to stimulus spending on basic infrastructure projects and
construction projects for environmental protection, in particular, should
greatly benefit Nengfa Energy’s energy saving business, which fits within the
policies orientated towards energy saving infrastructure projects for
municipalities and industrial companies. We expect, as a result of these
widespread government policies, to experience significant growth in all areas of
our business in the 2009 and 2010 fiscal years.





Product
Revenues





Product
revenues are derived principally from the sale of self-manufactured products
relating to energy-saving flow control equipment and wind-energy equipment.
Product revenues were $6,697,102 and $13,426,663, or 89% and 88% of total
revenues for the three and nine months ended September 30, 2009, as
compared to $3,557,112 and $8,836,478, or 77% and 75% of total revenues for the
corresponding periods in 2008. Product revenues increased by $3,139,990, a 88%
increase, to $6,697,102 for the three months ended September 30, 2009 and
increased by $4,590,185, a 52% increase, to $13,426,663 for the nine months
ended September 30, 2009 as compared to the corresponding three and nine
month periods in 2008. The Company has several very large contracts which
require a longer period of time to produce the flow control equipment needed for
such projects. During the third fiscal quarter of 2009, there
was  significant growth in product revenues due to the Company having
delivered on a relatively large amount of contracts and a significant amount of
revenue from on-going contracts. In this period the Company also entered into
several new contracts.




28





Service
Revenues





Service
revenues are derived principally from energy-saving technical services that are
not an element of an arrangement for the sale of products. These services are
generally billed on a time-cost plus basis. Revenue is recognized, net of
business taxes when service is rendered and accepted by the customers. Service
revenues were $869,319 and $1,778,294, or 11% and 12% of total revenues for the
three and nine months ended September 30, 2009, as compared to $ 939,406
and $2,108,342, or 20 % and 18% of total revenues for both the corresponding
periods in 2008. Service revenues decreased by $70,087, a 7% decrease, to
$869,319 for the three months ended September 30, 2009, and decreased by
$330,048, a 16% decrease, to 1,778,294 for the nine months ended
September 30, 2009, as compared to the corresponding three and nine month
periods in 2008.





Project
Revenues





Project
revenues are derived principally from energy-saving, re-engineering projects
that require significant modification and customization to customers’
installations. The Company applies the percentage-of-completion method to
recognize project revenues. There was no project revenue for the three and nine
months ended September 30, 2009. Project revenues were $105,308 and $818,490, or
2% and 7% of total revenues for the three and nine months ended September 30,
2008. Project revenues decreased by $105,308, a 100% decrease, to $0 for the
three months ended September 30, 2009 and decreased by $818,490, a 100%
decrease, to $0 for the nine months ended September 30, 2009 as compared to
the corresponding three and nine month periods in 2008.





The
Company continues to negotiate and conduct feasibility studies with respect to
several potential projects; accordingly, we anticipate that the Company will
continue to have project revenues in future periods, provided these or other
contracts are won and concluded.





COSTS
AND EXPENSES





Cost
of Revenues





Cost of
product revenues consists primarily of material costs, direct labor,
depreciation and manufacturing overheads, which are directly attributable to the
manufacture of products and the rendering of services. Total cost of revenues
was $4,848,371 and $10,282,666 for the three and nine months ended
September 30, 2009, respectively, as compared to $3,365,584 and $8,518,889
for the corresponding three and nine month periods in 2008. The total cost of
revenues increased by $1,482,787 (44%) and $1,763,777 (21%) for the three and
nine months ended September 30, 2009, as compared to total cost of revenues for
the corresponding three and nine months periods in 2008. The increase in total
cost of revenues was due to the increase in operating revenues during this
period.





The
overall gross profit for the Company was $2,718,050 (36%) and $4,922,291 (32%)
for the three and nine months ended September 30, 2009, respectively. Profit
margin increased by $1,481,808, a 120% increase, to $2,718,050, for the three
months ended September 30, 2009 and increased by $1,677,870, a 52% increase, to
$4,922,291 for the nine months ended September 30, 2009, as compared to the
corresponding three and nine month periods in 2008.





Cost
of Products





Total
cost of products was $4,200,439 and $9,016,453, or 87% and 88% of total cost of
revenues, for the three and nine months ended September 30, 2009, respectively,
as compared to $2,639,688 and $6,391,906, or 78% and 75% of total product
revenues, for the corresponding three and nine month periods in 2008. The cost
of products increased by $1,560,751 to $4,200,439, an increase of 59% of total
cost of revenues, for the three months ended September 30, 2009, as compared to
the corresponding period in 2008. The cost of products increased by $2,624,547
to $9,016,453, an increase of 41% of total costs of revenues, for the nine
months ended September 30, 2009, as compared to the corresponding period in
2008. The significant increase of cost of products is due to the increase in
product revenue.




29





The gross profit for products was
$2,496,663 and $4,410,210, or 92% and 90% of the total gross profit for the
three and nine months ended September 30, 2009, respectively, as compared to
$917,424 and $2,444,572, or 74% and 75% for the corresponding three and nine
month periods in 2008. Gross profit for products increased by $1,579,239 to
$2,496,663, a increase of 172%, for the three months ended September 30,
2009, as compared to the corresponding period in 2008. Gross profit for products
increased by $1,965,638 to $4,410,210, a increase of 80%, for the nine months
ended September 30, 2009, as compared to the corresponding period in 2008.
The increase in gross profit for products is primarily due to significant
increase in product revenues and relatively lower increase in cost of
products.





Cost
of Services





The cost
of services was $647,932 and $1,266,213, or 13% and 12% of total cost of
revenues, for the three and nine months ended September 30, 2009 respectively as
compared to $711,781 and $1,517,172, or 21 % and 18% of total cost of revenues,
for the corresponding three and nine month periods in 2008. The cost of services
decreased by $63,849 to $647,932, a decrease of 9% of total cost of services,
for the three months ended September 30, 2009, as compared to the
corresponding period in 2008. The cost of services decreased by $250,959 to
$1,266,213, a decrease of 17% of total cost of services, for the nine months
ended September 30, 2009, as compared to the corresponding period in
2008.





The gross
profit for services was $221,387 and $512,081, or 8% and 10% for the three and
nine months ended September 30, 2009, respectively, as compared to $227,625 and
$591,170, or 18% and 18% for the corresponding three and nine month periods in
2008. Gross profit decreased by $6,238 to $221,387, a decrease of 3%, for the
three months ended September 30, 2009, as compared to the corresponding
period in 2008. Gross profit decreased by $79,089 to $512,081, a decrease of
13%, for the nine months ended September 30, 2009, as compared to the
corresponding period in 2008. The decrease in gross profit and gross profit
margin for services is due to the decrease in services revenue not offset by the
decrease in cost of services.





Cost
of Projects





In 2007,
the Company began contracting for energy-saving re-engineering projects that
require significant modification and customization or the customer
installations. The cost of projects was $0 and $0 of total cost of revenues, for
the three and nine months ended September 30, 2009, respectively, as compared to
$14,115 and $609,811, or 1% and 7% of total cost of revenues, for the
corresponding three and nine month periods in 2008. The cost of service
decreased by $14,115 to $0, a decrease of 100% of total cost of projects,
for the three months ended September 30, 2009, as compared to the
corresponding period in 2008. The cost of projects decreased by $609,811 to $0,
a decrease of 100% of total cost of projects, for the nine months ended
September 30, 2009, as compared to the corresponding period in
2008.





The gross
profit for projects was $0and $0 for the three and
nine months ended September 30, 2009, respectively, as compared to $91,193 and
$208,679, or 7% and 6%, for the corresponding three and nine month periods in
2008. Gross profit decreased by $91,193 to $0, a decrease of 100%, for the three
months ended September 30, 2009, as compared to the corresponding period in
2008. Gross profit decreased by $208,679 to $0, a decrease of 100%, for the nine
months ended September 30, 2009, as compared to the corresponding period in
2008.





Operating
Expenses





Total
operating expenses were $225,995 and $988,694, or 3% and 7% of total revenues,
for the three and nine months ended September 30, 2009, respectively, as
compared to $179,957 and $585,652, or 4% and 5% of total revenues, for the
corresponding three and nine month periods in 2008. Total operating expenses
increased by $46,038 to $225,995 for the three months ended September 30,
2009, and increased by $403,042 to $988,694 for the nine months ended
September 30, 2009, as compared to the corresponding three and nine month
periods in 2008. The increase for the nine months ended September 30, 2009,
from the corresponding periods in 2008 primarily consists of a $349,000 increase
in stock based compensation expense incurred at the fair value for the nine
months ended 2009 for a commitment to issue warrants to purchase up to 450,000
shares of common stock to several investors relations firms for their work on
behalf of the Company in the coming years. The number of shares subject to these
warrants was adjusted to 150,000 as the result of a 3to1 reverse stock split
effective on August 26, 2009.  Subsequent to the quarter end, warrants
for the exercise of 47,222 shares of common stock (on a post-share split basis)
were cancelled by mutual agreement with the warrant holders. The Company will
report the adjustment of this operating expense in the financial statements for
the year ending December 31, 2009.




30





Selling
and marketing expenses





Sales and
marketing expenses increased by $15,722 to $32,040 for the three months ended
September 30, 2009, and increased by $27,895 to $106,493 for the nine
months ended September 30, 2009, as compared to the corresponding three and
nine month periods in 2008. The increase for the three and nine months ended
September 30, 2009, from the corresponding period in 2008, are mainly due
to increased sales and marketing activities during this period.





Research
and development expenses





The
Company incurred research and development expenses to study the possibility of
using the Company’s existing manufacturing facilities and flow control equipment
production expertise to produce equipment and fittings for wind power plants.
The R&D effort enabled the Company to create a new line of business to tap
into the developing demand for the equipment needed for new wind power plants
that have been planned in PRC.





The
Company incurred no research and development expenses for the three and nine
months ended September 30, 2009. Research and development expense was $10,377
and $95,963, or 0.23% and 1% of total revenues, for the three and nine months
ended September 30, 2008, respectively. Research and development expenses
decreased by $10,377 to $0 for the three months ended September 30, 2009,
and decreased by $95,963 to $0 for the nine months ended September 30,
2009, as compared to the corresponding three and nine months periods in 2008.
The Company engaged in research and development activities during 2007 and 2008
to study the possibility of using the Company’s existing manufacturing
facilities and flow control equipment production expertise to produce equipment
for wind power plants. The decrease in research and development expenses for the
three and nine months ended September 30, 2009, from the corresponding periods
in 2008 is due to that the Company has completed this phase of the research and
development in 2008.





General
and administrative expenses





General
and administrative expenses were $193,955 and $533,201, or 3% and 4% of total
revenues, for the three and nine months ended September 30, 2009, respectively
as compared to $153,262 and $411,091, or 3% and 3 % of total revenues, for the
corresponding three and nine month periods in 2008. General and administrative
expenses increased by $40,693 to $193,955 for the three months ended
September 30, 2009, and increased by $122,110 to $533,201 for the nine
months ended September 30, 2009, as compared to the corresponding three and
nine month periods in 2008.





INCOME
FROM OPERATIONS





As a
result of the foregoing, for the three and nine months ended September 30,
2009, income from operations was $2,492,055 and $3,933,597, 33% and 26% of total
revenues, as compared to $1,056,285 and $2,658,769, 23% and 23% of total
revenues, for the three and nine months ended September 30, 2008. Our
income from operations increased by $1,435,770 to $2,492,055, for the three
months ended September 30, 2009, and increased by $1,274,828 to $3,933,597,
for the nine months ended September 30, 2009, as compared to the
corresponding three and nine month periods in 2008. The significant growth of
income from operation is due to the large increase in sales revenue and
relatively lower expenses.




31





Income
tax expense





For the
three and nine months ended September 30, 2009, income tax expense was $317,084
and $560,544, as compared to $167 and $472 for the three and nine months ended
September 30, 2008. The Company is enjoying the tax holiday in PRC due to Neng
Fa's foreign company status. During 2007, the Tieling City local government tax
bureau in PRC approved Nengfa Energy as a foreign investment enterprise. Hence,
retroactively effective from January 1, 2007, Nengfa Energy is entitled to a
two-year exemption from corporate income tax and a reduced corporate income tax
rate of 12.5% for the following three years.





As of
September 30, 2009, the operations in the United States of America $1,414,329 of
cumulative net operating losses, which can be carried forward to offset future
taxable income. The net operating loss carry forward will begin to expire in
2029, if not utilized. The Company has provided for a valuation allowance
against the deferred tax assets of $495,015 on the expected future tax benefits
from the net operating loss carry forward as the management believes it is more
likely than not that these assets will not be realized in the
future.





Effective
from January 1, 2008, the Corporate Income Tax Law of the People’s Republic of
China (the “New CIT Law”) became operative. Under the New CIT Law, Nengfa
Energy, as a foreign investment enterprise continues to enjoy the unexpired tax
holiday of 50%-reduction on the unified income tax through 2011, subject to a
transitional policy. The Sales Company is a domestic company, which is subject
to the unified statutory income tax rate of 25%. The Company’s effective income
tax rates for the nine months ended September 30, 2009 and 2008 were 12.5% and
0%.





NET
INCOME





As a
result of the foregoing, we had net income of $2,176,468 and $3,427,329, 29% and
23% of total revenues, for the three and nine months ended September 30, 2008,
as compared to net income of $1,065,096 and $2,676,207, 23% and 23% of total
revenues, for the three and nine months ended September 30, 2008. Our net income
increased by $1,111,372 (104%) to $2,176,468 for the three months ended
September 30, 2009, and increased by $751,122 (28%) to $3,427,329 for the nine
months ended September 30, 2009, as compared to the corresponding three and nine
month periods in 2008.




LIQUIDITY
AND CAPITAL RESOURCES





Operating
activities





For the
nine months ended September 30, 2009, net cash provided by operating activities
was $2,747,074. This was attributable primarily to net income of $3,427,329,
adjusted by non-cash items of depreciation $233,085 and stock based compensation
$349,000, and a $1,267,184 decrease in working capital. The decrease in working
capital in the first nine months of 2009 was due primarily to the decrease in
inventories by $712,676, the increase in accounts payable by $1,651,801, a
decrease in customer deposits by $5,286, an increase in value added tax payable
by $418,602 and income tax payable of $317,003, partially offset by the increase
in accounts receivable of $3,713,394, prepayments and other receivables of
$165,247, and other payables and accrued liabilities of $48,087 in this
period.





The large
increase in accounts receivable of $3,713,394, an increase of 44% over the
accounts receivables balances of $8,371,447 at December 31, 2008, is mainly due
to increased sales and the continuing completion of contracts and a long payment
cycle for some customers.  The latter has increased our accounts
receivable because the large majority of our contracts are with customers that
are large enterprises or stated-owned construction contractors or developers
mainly engaged in the state government-sponsored infrastructure projects, such
as large hydraulic/aqua-engineering projects, power plants and urban sewage
network projects in the PRC. Usually, these infrastructure projects are
undertaken in a number of phrases over an extended period of time. Our flow
control equipment is used in the development phrase of these infrastructure
projects. As is typical in our industry, the practice is that the Company is
paid by the construction contractors and/or developers when they have been paid
by the local government or state-owned enterprises, after full inspection of
each milestone during the construction phrase. Because of the size, complexity
and the high standards required in these infrastructure projects, the
construction and inspection process may take a considerable amount of time.
Therefore, we may not be able to collect the accounts receivable on the original
schedule and sometimes only after a longer period than our originally agreed
upon payment terms.




32





Notwithstanding
the discussion in the preceding paragraph, we have a high level of assurance on
the recoverability of our accounts receivable, which is based on our ongoing
assessment of the customer credit-worthiness and their payment history. As a
rule many of our customers or the ultimate party on which we are relying for
payment are large state-owned corporations with good credit ratings. At the end
of each period, we specifically evaluate the aging and collectibility of our
accounts receivable. For account receivables that are past due or not being paid
according to the payment terms, we take appropriate action to coordinate our
recovery approach and to exhaust all means of collection, including seeking
legal resolution in a court of law. We will consider an adjustment to the
allowance for doubtful accounts for any estimated losses resulting from the
inability of our customers to make required payments.





The
account receivables with aging within 90 days, between 91 and 180 days, and
between 181 and 360 days are $8,279,361, $3,020,303 and $806,694, respectively,
representing 68%, 25% and 7% of the total account receivables, as of September
30, 2009. The Company does not have any off-balance-sheet credit exposure
related to its customers.





When
evaluating our financial condition, particularly our liquidity, the amount of
accounts receivable and the time periods for which they have been outstanding
should be taken into account.  As stated above, we regularly will
evaluate the ability to collect and adjust the characterization of current
accounts receivable and adjust the doubtful accounts reserve according. Despite
our evaluations and actions, there are no absolute assurances which can be given
that we will not have to take extraordinary measures for collection or
significantly adjust our financial statements in the future.  If our
actual collections experience changes, our financial condition may be adversely
impacted.





We offer
customers free 12-months’ product warranty on a case-by-case basis, depending
upon the type of customers, nature and size of the infrastructure projects.
Under such arrangements, a portion of the project contract balance (usually
5-10% of contract value) is withheld by a customer for 12 months, until the
product warranty is expired. By September 30, 2009, the retention receivables
were $974,378.





In
addition, it is the Company practice to build up inventory to be able to fulfill
its contracts during the installation of large infrastructure projects. The
decrease in inventories of $712,676 reflects a lower inventory level which
corresponds to the current sales level and our anticipated needs to fulfill
contracts. The reason for the large increase in the prepayments and other
receivables of $165,247, a 25% increase over the prepayments and other
receivables balance of $652,842 at December 31, 2008, is due to increases in
prepayments to vendors for raw materials, and tendering deposits. There are no
prepayments to equipment vendors and prepaid operating expenses for the first
nine months of 2009. The increase in accounts payable of $1,651,801 corresponds
to the increased purchase of materials required for the production for several
large contracts. The decrease in customer deposits of $5,286 and increase in
value added tax payables of $418,602 is due to the increase in sales this
period. The increase in income tax payable of $317,003 is because the Company
started to pay a income tax, although at a reduced rate, in PRC in 2009, whereas
the Company enjoyed an income tax holiday in 2008. The decrease of $48,087 in
other payables and accrued liabilities is due to the decrease in welfare
payables and other accrued expenses.




33





For the
nine months ended September 30, 2008, net cash used in operating activities was
$759,721. This was primarily attributable to our net income of $2,676,207,
adjusted by non-cash items of depreciation $238,702, and a decrease in working
capital of $3,674,630. The decrease in working capital in the first nine months
of 2008 was due primarily to the increase in accounts receivable by $3,804,182,
inventories by $609,412, prepayments and other receivables by $306,187, and the
decrease in other payables and accrued liabilities by $156,442, partially offset
by an increase in accounts payable by $849,318, customer deposits by $343,490,
income tax payable by $167 and value added tax payables by $8,618 in this
period.





The large
increase in accounts receivable of $3,804,182, more than double the accounts
receivables balances at December 31, 2007, is mainly due to the sales growth
during the period. The increase in inventories of $609,412 reflects a higher
inventory level the company maintains for the current sales level. The reason
for the large increase in the prepayments and other receivables of $306,187, a
57% increase over the prepayments and other receivables balance of $605,989 at
December 31, 2007, is that the Company expects the cost of the raw-material will
increase in the coming year. In order to hedge the increase in raw material
costs, the Company has signed more purchase contracts in advance with the
suppliers and hence increased the amount of prepayments. The increase in
accounts payable of $849,318 corresponds to sales growth during the period. The
increase in customer deposits of $343,490 is also due to the increase in sales.
An increase of $8,618 in value added tax payable is due to increased value added
tax payable in this period. The decrease of $156,422 in other payables and
accrued liabilities are due to the decrease in welfare payables, payables to
equipment vendors and other accrued expenses.





Investing
activities




For the
nine months ended September 30, 2009, net cash used in investing activities was
$3,488,353, and was primarily attributable to the purchase of plant and
equipment for $179,089 and the payments for construction in progress of
$3,317,133. For the nine months ended September 30, 2008, net cash used in
investing activities was $738,043, and was primarily attributable to the
purchase of plant and equipment.





In 2008,
the local government commenced the approval process for the Company to establish
a new manufacturing facility for energy-saving products and equipment in
Yingzhou District Industrial Park, Tieling City, Liaoning Province, PRC. Such
new manufacturing facility is developed for the production of flow control
equipment and energy-saving equipment. It is expected that the facility will be
completed in 2010. The total estimated construction cost is approximately
$5,000,000 (excluding the land use rights).


As
of September 30, 2009, the Company incurred approximately $7 million and
recorded as construction in progress with no significant contingent payments
related to the third party.





Financing
activities





For the
nine months ended September 30, 2009, net cash provided by financing activities
was $1,075,731 attributable to the payments on finance lease. For the nine
months ended September 30, 2008, net cash provided by financing activities was
$2,000,000 attributable to the issuance of common stock to two investors from a
conversion of loans.





On April
28, 2008, the Company entered into a Securities Purchase Agreement with two
investors to consummate a private placement of 6,645,376 shares of restricted
common stock for an aggregate purchase price of $2,000,000 at a 50-trading days
weighted average market quoted price of $0.30 per share. Each of the investors
acquired one half of these shares of common stock, or 3,322,688 shares. As a
result of this transaction, each of the investors owned 8.33% of the issued and
outstanding common stock of the Company at the time. The proceeds were used to
fund working capital. The Company also entered into various covenants with the
investors, including its (i) obtaining a listing on a United States stock
exchange not later than December 31, 2009, (ii) developing a step by step energy
saving and emission reduction business plan as a products and service provider
in consultation with the Investors, (iii) limiting business arrangements with
affiliates, and (iv) establishing good corporate governance and seeking good
financial development.




34





We
anticipate we will need additional working capital in 2009 and in the future to
fund the Company’s new business plans to help it the company to establish a
manufacturing base for new energy equipment, to develop comprehensive energy
saving infrastructure projects for municipalities, and to maintain our lead
position in flow control equipment manufacturing. We may decide to pursue
additional investment through the sale of equity or equity linked securities or
debt financing to obtain the additional cash resources to fund our business and
other future developments.





Inflation





We
believe that the relatively moderate rate of inflation over the past few years
has not had a significant impact on our results of operations.





OFF-BALANCE
SHEET ARRANGEMENTS




We do not
have any material off-balance sheet arrangements.





IMPACT
OF RECENTLY ISSUED NEW ACCOUNTING STANDARDS




We do not
expect adoption of recently issued accounting pronouncements to have a
significant impact on our results of operations, financial position or cash
flow.





Item
3. Quantitative and Qualitative Disclosures About Market Risk





Not
Applicable.





Item
4T. Controls and Procedures.




Evaluation
of Disclosure Controls and Procedures


Our chief
executive officer and chief financial officer evaluated the effectiveness of our
disclosure controls and procedures as of September 30, 2009. The term
“disclosure controls and procedures,” as defined in
Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means
controls and other procedures of a company that are designed to ensure that
information required to be disclosed by a company in the reports that it files
or submits under the Exchange Act is recorded, processed, summarized and
reported, within the time periods specified in the SEC’s rules and forms.
Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed by a
company in the reports that it files or submits under the Exchange Act is
accumulated and communicated to the company’s management, including its
principal executive and principal financial officers, as appropriate to allow
timely decisions regarding required disclosure. Based on the evaluation of our
disclosure controls and procedures as of September 30, 2009, our chief executive
officer and chief financial officer concluded that, as of such date, our
disclosure controls and procedures were effective at a reasonable assurance
level.




Changes in
Internal Controls





Our chief
executive officer and chief financial officer also conducted an evaluation of
our internal controls over financial reporting to determine whether any changes
occurred during the quarter covered by this report that have materially
affected, or are reasonably likely to affect, our internal control over
financial reporting. Based on the evaluation, there have been no such changes
during the quarter covered by this report.




35





PART
II. OTHER INFORMATION





Item
1.      Legal Proceedings.





On May
21, 2007, a civil complaint Robert Dawley vs NF Energy Saving Corp. of America,
etal. was filed in the United States District Court, Middle District of Florida,
Orlando, Civil No. 6:07-cv-872-Orl-18DAB. The complaint accused the defendant of
breaching a contract for payment of money that was signed by Sam Winer, former
Chief Executive Officer of the Company, before the commencement of the Company’s
reverse merger. After being initially dismissed by the court, the action was
authorized to proceed on November 16, 2007. A trial was held in the United
States District Court, Middle District of Florida, Orlando on October 16, 2008.
The District Court issued a judgment on December 11, 2008, awarding the
plaintiff the sum of $400,000 against the Company, plus prejudgment interest in
the amount of $132,821.92, with continuing interest of $131.51 per day on the
$400,000 obligation until it is paid. The Court further adjudged that the
plaintiff shall surrender certain shares of common stock he holds in the Company
upon payment of the $400,000. In the event the plaintiff fails to surrender the
specified shares of stock after payment, the Company may cancel the stock. Any
payments or collection under the judgment shall be credited first to
interest.





On
January 6, 2009, the Company filed a notice of appeal 09-10140-B in the United
States of Court of Appeals for the 11th Circuit from the District Court’s
judgment. The Company has engaged an attorney to prosecute its appeal of the
above judgment. The parties currently are briefing the appeal. The Company has
also accrued $200,000 for this contingent liability to the statement of
operation in 2008. The parties have completed briefing the appeal and are
waiting for the court’s decision on the appeal. At this point, the Company does
not believe that the judgment would have a material impact on the
Company.





Item
2.      Unregistered Sales of Equity Securities and Use
of Proceeds.





The
Company issued warrants to several service providers which provide for the
purchase of up to 150,000 shares of common stock, at $1.80 per share, as
adjusted for a reverse split of the common stock effective on August 26,
2009.  The service providers were either accredited investors or
sophisticated investors, and the warrants were issued under the exemption
afforded by Section 4(2) of the Securities Act of 1933, as
amended.  Subsequently, by negotiation with two of the service
providers, the number of shares under these warrants outstanding was reduced by
47,222 shares, so that now there are warrants to purchase of up to 102,778
shares of common stock.





Item
3.      Defaults Upon Senior Securities.





None.





Item
4.      Submission of Matters to a Vote of Security
Holders.





None.





Item
5.      Other Information.





None.





Item
6.      Exhibits.





The list
of Exhibits , required by Item 601 of Regulation S-K, filed as a part of this
Form 10-Q are set forth on the Exhibit Index immediately preceding
such Exhibits and is incorporated herein by this reference.





36





SIGNATURES





Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned, there
unto duly authorized.




NF
      Energy Saving Corporation
                (Registrant)Date:
      November 11, 2009
              By:
              /S/
      Gang LiGang
      LiChairman,
      Chief Executive Officer and President






Date:
      November 11, 2009
              By:
              /S/
      Li Hua WangLi
      Hua WangChief
      Financial Officer
                (Principal
      Financial and AccountingOfficer)
  37




INDEX
TO EXHIBITS




Exhibit
      No.
              
              Description31.1
              
              Certification of Chief Executive Officer
      pursuant to Rule 13a-14(a) and 15d-14 of the Securities Exchange
      Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley
      Act of 200231.2
              
              Certification of Chief Financial Officer
      pursuant to Rule 13a-14(a) and 15d-14 of the Securities Exchange
      Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley
      Act of 200232.1
              
              Certification
      of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as
      adopted pursuant to section 906 of the Sarbanes-Oxley Act of
      200232.2
              
              Certification
      of the Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as
      adopted pursuant to section 906 of the Sarbanes-Oxley Act of
      2002




38