UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C. 20549







FORM
10-K







x
            ANNUAL
      REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
      1934




For
the fiscal year ended - MARCH 31, 2009




OR




 ̈
            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 000-50601







SYNUTRA
INTERNATIONAL, INC.





DELAWARE
              
              13-4306188(State
      or Other jurisdiction of
                Incorporation
      or Organization)
              
              I.
      R. S. Employer
                Identification
      No.




2275
RESEARCH BLVD., SUITE 500


ROCKVILLE,
MARYLAND 20850


301-840-3888




(Address,
including zip code, and telephone number, including area code, of Registrant’s
principal executive offices)




2275
RESEARCH BLVD., SUITE 500


ROCKVILLE,
MARYLAND 20850


301-840-3888




Securities registered pursuant
to Section 12(b) of the Act:




Title
      of Each Class
                  
                  Name
      of Each Exchange on Which RegisteredCommon
      Stock $0.0001 Par Value
                  
                  NASDAQ
      Global Select
Market




Securities
registered pursuant to Section 12(g) of the Act: None









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




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




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 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.    Yes  x    No   ̈




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




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




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




Large
accelerated filer   ̈    Accelerated
filer  x    Non-accelerated
filer   ̈    Smaller
reporting company   ̈




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




Yes   ̈    No  x




The
aggregate market value of the voting and non-voting common equity held by
non-affiliates of the registrant based on the closing sales price of the
registrant’s common stock on September 30, 2008 (the last business day of
the registrant’s most recently completed second fiscal quarter), as reported on
the Nasdaq Global Select Market, was $362.3 million. For purposes of this
disclosure, shares of Common Stock held by persons who hold more than 10% of the
outstanding shares of Common Stock and shares held by officers and directors of
the registrant have been excluded in that such persons may be deemed to be
affiliates. This determination is not necessarily conclusive for other
purposes.




As of
June 12, 2009, there were 54,000,713 shares of the registrant’s Common Stock
outstanding.





TABLE OF
CONTENTS




PAGEPART
      IITEM 1.
                  BUSINESS
                  4ITEM 1A.
                  RISK
      FACTORS
                  16ITEM 1B.
                  UNRESOLVED
      STAFF COMMENTS
                  38ITEM 2.
                  PROPERTIES
                  39ITEM 3.
                  LEGAL
      PROCEEDINGS
                  40ITEM 4.
                  SUBMISSION
      OF MATTERS TO A VOTE OF SECURITY HOLDERS
                  41PART
      IIITEM 5.
                  MARKET
      FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDERS MATTERS AND ISSUER
      PURCHASES OF EQUITY SECURITIES
                  42ITEM 6.
                  SELECTED
      FINANCIAL DATA
                  44ITEM 7.
                  MANAGEMENT’S
      DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
      OPERATIONS
                  46ITEM 7A.
                  QUANTITATIVE
      AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
                  68ITEM 8.
                  FINANCIAL
      STATEMENTS AND SUPPLEMENTARY DATA
                  70ITEM 9.
                  CHANGES
      IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
      DISCLOSURE
                  106ITEM 9A.
                  CONTROLS
      AND PROCEDURES
                  107ITEM 9B.
                  OTHER
      INFORMATION
                  109PART
      IIIITEM 10.
                  DIRECTORS,
      EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
                  110ITEM 11.
                  EXECUTIVE
      COMPENSATION
                  114ITEM 12.
                  SECURITY
      OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
      STOCKHOLDER MATTERS
                  119ITEM 13.
                  CERTAIN
      RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
      INDEPENDENCE
                  122ITEM 14.
                  PRINCIPAL
      ACCOUNTING FEES AND SERVICES
                  124PART
      IVITEM 15.
                  EXHIBITS,
      FINANCIAL STATEMENT SCHEDULES
                  125SIGNATURES




2


CONVENTIONS
THAT APPLY TO THIS ANNUAL REPORT ON FORM 10-K





Except
where the context otherwise requires and for purposes of this Annual Report on
Form 10-K only:





•
            “we,”
      “us,” “our company,” “our,” and “Synutra” refer to Synutra International,
      Inc., and its consolidated
subsidiaries;





•
            “China”
      or “PRC” refers to the People’s Republic of China, excluding Taiwan and
      the Special Administrative Regions of Hong Kong and
  Macau;





•
            all
      references to “ton” or “tons” are to “tonne” or “metric
    ton;”





•
            all
      references to “Renminbi” or “RMB” are to the legal currency of China;
      and





•
            all
      references to “U.S. dollars,” “dollars,” or “$” are to the legal currency
      of the United States.





Amounts
may not always add to the totals due to rounding.





Unless
otherwise noted, all translations from Renminbi to U.S. dollars were made at the
middle rate published by the People’s Bank of China, or the middle rate, as of
March 31, 2009, which was RMB6.8359 to $1.00. We make no representation
that the Renminbi amounts referred to in this Annual Report on Form 10-K could
have been or could be converted into U.S. dollars at any particular rate or at
all. On June 12, 2009, the middle rate was RMB6.8325 to $1.00.





PART
I





This
Annual Report on Form 10-K, or Form 10-K, contains “forward-looking
statements” within the meaning of the Private Securities Litigation Reform Act
of 1995, that are based on our current expectations, assumptions, estimates and
projections about us and our industry. All statements other than statements of
historical fact in this Form 10-K are forward-looking statements. In some cases,
these forward-looking statements can be identified by words or phrases such as
“anticipate,” “believe,” “continue,” “estimate,” “expect,” “intend,” “is/are
likely to,” “may,” “plan,” “should,” “will,” “aim,” “potential,” “continue,” or
other similar expressions. The forward-looking statements included in this Form
10-K relate to, among others:





•
            our
      goals and strategies;





•
            our
      future business development, financial condition and results of
      operations;





•
            the
      expected growth of the nutritional products and infant formula markets in
      China;





•
            market
      acceptance of our products;





•
            our
      expectations regarding demand for our
products;





•
            our
      ability to stay abreast of market trends and technological
      advances;





•
            competition
      in the infant formula industry in
China;





•
            PRC
      governmental policies and regulations relating to the nutritional products
      and infant formula industries; and





•
            general
      economic and business conditions in
China.





These
forward-looking statements involve various risks and uncertainties. Although we
believe that our expectations expressed in these forward-looking statements are
reasonable, our expectations may turn out to be incorrect. Our actual results
could be materially different from our expectations. Important risks and factors
that could cause our actual results to be materially different from our
expectations are generally set forth in the “Item 1 . Business,” “Item 1A. Risk
Factors,” “Item 7. Management’s Discussion and Analysis of Financial Condition
and Results of Operations,” and other sections in this Form 10-K.





The
forward-looking statements are made as of the date of this Form 10-K. We
undertake no obligation to update any forward-looking statements to reflect
events or circumstances after the date on which the statements are made or to
reflect the occurrence of unanticipated events.


3





ITEM 1.
BUSINESS





GENERAL
DEVELOPMENT AND NARRATIVE DESCRIPTION OF BUSINESS





We are a
leading infant formula company in China. We principally produce, market, and
sell our products under the “Shengyuan,” or “Synutra,” name, together with other
complementary brands. We focus on selling premium infant formula products, which
are supplemented by more affordable infant formulas targeting the mass market as
well as other nutritional products and ingredients. We sell our products through
an extensive nationwide sales and distribution network covering 29 provinces and
provincial-level municipalities in China. As of March 31, 2009, this
network comprised over 480 distributors and over 800 sub-distributors who sell
our products in over 65,000 retail outlets.





We
entered into the prepared baby food business in October 2008 by acquiring the
business from Beijing Huilian Food Co., Ltd. We also began our nutritional
ingredients and supplements business, which include the production of
Chondroitin sulfate, and processing of microencapsulated Docosahexanoic Acid
(“DHA”) and Arachidonic Acid (“ARA”), at Meitek Technology Co., Ltd., one of our
PRC subsidiaries.





In
September 2008, our business was severely interrupted by the melamine
contamination incident in which the products of 22 Chinese formula producers,
including ours, were found to be contaminated by melamine, a substance not
approved for use in food and linked to approximately 300,000 kidney illnesses
among infants and children in China. We believe that the melamine contamination
was resulted from tainted milk supplies provided by third-party suppliers in the
Hebei and Inner Mongolia regions of China. We did not add the melamine to the
affected products and our normal testing procedures, which are carried out in
accordance with Chinese government health regulations and requirements and
internationally-accepted quality control procedures, were not equipped to and
did not detect the melamine contamination. On September 16, 2008, we announced a
compulsory recall on certain lots of U-Smart products and a voluntary recall of
other products that were contaminated or suspected to be contaminated by
melamine. The melamine contamination incident severely damaged our reputation
and our business suffered significant losses from product recall, inventory
write down/write-off and subsequent loss of sales, see “Item 7. Management’s
Discussion and Analysis of Financial Condition and Results of Operations.” In
addition, there can be no assurance that additional issues will not be
identified in the future and this may have an adverse effect on our results of
operations.  See Part I - Item 1A. Risk Factors- We are highly dependent upon
consumers’ perception of the safety and quality of our products. Any ill
effects, product liability claims, recalls, adverse publicity or negative public
perception regarding particular ingredients or products or our industry in
general, could harm our reputation and damage our brand, and adversely affect
our results of operations.





Due to
the significant reduction of sales caused by the melamine contamination incident
and replacement of recalled products, our net sales for the fiscal year ended
March 31, 2009 decreased by 13.7% to $312.5 million from $362.1 million for the
prior fiscal year. Our gross profit for the fiscal year ended March 31, 2009
decreased by 71.4% to $53.4 million from $186.5 million for the prior fiscal
year. Our net loss for the fiscal year ended March 31, 2009 was $100.5 million,
as compared to net income of $45.7 million for the prior fiscal year. The net
loss for the fiscal year ended March 31, 2009 compared to the prior fiscal year
was attributable primarily to the significant cost of product recall and
decreased sales from the second half of September 2008 to March
2009.


4


CORPORATE
STRUCTURE AND HISTORY





We are a
Delaware holding company and conduct substantially all of our business through
our operating subsidiaries in China. We own all or majority of the equity
interests in our operating subsidiaries, directly or indirectly, through
Synutra, Inc., or Synutra Illinois, an intermediate holding company. Synutra
Illinois was incorporated in Illinois in 2000 and has no other significant
assets and operations of its own. Our corporate structure reflects common
practice for companies with operations in the PRC where separate legal entities
are often required or advisable for tax or administrative reasons.





We began
our business operations in China in 1998. In a series of related transactions
between 2003 and 2005, Synutra Illinois acquired all the interest in our
operating subsidiaries in China.





On
July 15, 2005, Synutra Illinois completed a reverse acquisition transaction
with Vorsatech Ventures, Inc., or Vorsatech. Upon the consummation of this share
exchange transaction, Vorsatech’s total issued and outstanding common stock
equaled 50,000,713 shares, including 48,879,500 shares issued pursuant to the
reverse acquisition transaction and 1,121,213 shares owned by Vorsatech’s
existing stockholders. Thereafter, Synutra Illinois became Vorsatech’s wholly
owned subsidiary and Vorsatech became the reporting entity for our business. We
subsequently changed the name of the reporting entity to Synutra International,
Inc.





In July
2005, we changed our fiscal year end from December 31 to March 31
beginning with the fiscal year ended March 31, 2005. This change was
intended to simplify communication with stockholders and enables the reporting
of our financial results in a timeframe consistent with Vorsatech.





On
May 24, 2007, we entered into a Common Stock Purchase Agreement with
Warburg Pincus Private Equity IX, L.P., or Warburg, pursuant to which we sold to
Warburg 4,000,000 shares of common stock for an aggregate purchase price of $66
million. The closing of the transaction took place on June 15,
2007.





The
following is a brief description of our major operating subsidiaries in
China.




•
            Shengyuan
      Nutritional Food Co., Ltd., or Shengyuan Nutrition, formerly known as
      Qingdao St. George Dairy Co., Ltd., located in Qingdao, Shandong, China,
      was established by Synutra Illinois in September 2001 and is engaged in
      the dry-blending, packaging, shipping and distribution of all of our
      powdered formula products.





•
            Heilongjiang
      Mingshan Dairy Co., Ltd., or Mingshan, formerly known as Luobei Shengyuan
      Dairy Co., Ltd., located in Luobei, Heilongjiang, China, was established
      in April 2001 and is engaged in raw milk processing and the production of
      powdered formula. Synutra Illinois acquired 67% and 33% of the ownership
      interest in Mingshan from Sheng Zhi Da and Xiuqing Meng, the wife of Liang
      Zhang, our chairman and chief executive officer, respectively, in January
      2005.





•
            Zhangjiakou
      Shengyuan Dairy Co., Ltd., or Zhangjiakou, located in Zhangjiakou, Hebei,
      China, was established in March 2004 with Synutra Illinois and Sheng Zhi
      Da holding 40% and 60%, respectively, of its equity interests and is
      engaged in raw milk processing and the production of powdered formula.
      Synutra Illinois acquired the remaining 60% ownership interest in
      Zhangjiakou from Sheng Zhi Da in April
2005.





•
            Inner
      Mongolia Shengyuan Food Co., Ltd., or Inner Mongolia Shengyuan, located in
      Zhenglanqi, Inner Mongolia, China, was established in September 2006 and
      has been constructing its production facilities since its establishment.
      Inner Mongolia Shengyuan is expected to commence production of nutritional
      food products in late 2009.





•
            Inner
      Mongolia Mengyuan Food Co., Ltd., or Mengyuan, located in Fengzhen, Inner
      Mongolia, China, commenced operations in July 2007 and is engaged in raw
      milk processing. Mengyuan was acquired by Zhangjiakou from its then
      shareholders in November 2006.


5


•
            Meitek
      Technology (Qingdao) Co., Ltd., or Meitek, formerly known as Mei Tai
      Technology (Qingdao) Co, Ltd. located in Qingdao, Shandong, China, was
      established in November 2006 to produce certain nutritional supplements
      and ingredients. Meitek began operations in October
  2008.





•
            Heilongjiang
      Baoquanling Shengyuan Dairy Co., Ltd., or Baoquanling, located in
      Junchuan, Heilongjiang, China, is engaged in raw milk processing and the
      production of powdered formula. Liang Zhang previously owned an 80%
      interest in Baoquanling. We acquired Zhang Liang’s equity interest in
      Baoquanling for $1.4 million in May 2007. Immediately after the
      acquisition of this equity interest, we made an aggregate capital
      injection of $29.7 million into Baoquanling and, as a result, our
      ownership interest in Baoquanling increased to
  99%.





•
            Beijing
      Shengyuan Huiliduo Food Technology Co., Ltd., or Huiliduo, located in
      Beijing, China, was established in July 2008 to produce prepared baby
      food.





•
            Beijing
      Shengyuan Huimin Technology Service Co., Ltd., or Huimin, a variable
      interest entity which was incorporated on July 10, 2008 and is engaged in
      diagnostic services for pregnant women. As of March 31, 2009, Huimin had
      not commenced its operations.





The
following chart which includes major subsidiaries reflects our organizational
structure as of the date of this Form 10-K.







6


OUR
BRANDS





We
primarily market our products under the Synutra, or Shengyuan, name which has
been associated with infant formula products in China for more than 10 years. In
addition to the Synutra, or Shengyuan name, our products are marketed in China
under brands that we have developed through our national sales and marketing
efforts.





Synutra
Family of Brands





The
Synutra family of brands includes several of China’s leading infant formula and
children’s nutrition brands, including Super and U-Smart. We have positioned the
Synutra family of brands as high quality brands, which provide unique,
clinically supported health and developmental benefits. The Synutra family of
brands features products that include DHA and ARA, which support brain, visual
and nervous system development for infants. Building upon the strength of our
brand equity, we have extended the Synutra family of brands into the fast
growing children’s nutrition market, such as prepared baby foods.





Complementary
Brands





In
addition to the Synutra family of brands, we market several other brands
targeted at various consumer segments and designed to meet the nutritional needs
of broad consumer populations in China. These brands include the Mingshan
(powdered formula), Helanruniu or Holsteina (adult formula), Meitek (nutritional
supplements), and Huiliduo (prepared baby foods).





OUR
PRODUCTS





Our
nutritional products are grouped by category of production process and usage as
well as internal resources allocation: (1) powdered formula, (2) baby foods and
(3) nutritional ingredients and supplements. Sales of powdered formula, baby
foods and nutritional ingredients and supplements comprised approximately 91.1%,
0.1% and 8.8% of our net sales for the fiscal year ended March 31,
2009.





Powdered
Formula Products





Powdered
formula segment covers the sale of powdered infant and adult formula products.
It includes the brands of Super, U-Smart, Mingshan which was launched in October
2008 and Helanruniu, or Holsteina, which was launched in December 2008. Infant
formula is our primary product line in the powdered formula segment, accounting
for 85.9%, 84.8% and 72.3% of our total net sales for the fiscal years ended
March 31, 2009, 2008, and 2007, respectively.





Each of
our Super, U-Smart and Mingshan product lines has multiple formulations designed
to meet nutritional requirements and help promote a baby or child’s healthy
growth at each developmental stage. We endeavor to bring our infant formula
products closer to breast milk. We have devoted resources to extensively adjust
our product portfolio, upgrade our product lines, and add new products or line
extensions to respond to market needs and target a wider group of consumers. To
meet consumer expectations, we also periodically upgrade our product concepts,
packaging, and pricing of our products.





We
supplement our powdered infant formula products with other nutritional products
for both adults and children. Our products are targeted at, and come in
formulations that are developed to address specific types of consumer profiles,
such as middle-aged and elderly consumers with cardiologic health issues,
diabetic conditions, and calcium deficiency. Furthermore, we have developed a
product specially designed for young adults to address their calcium and other
nutrient fortification needs. Our products for women and young adults have also
undergone product extensions and upgrades to further clarify the health and
nutritional message and product image we intend to convey.





We
continue to improve our rice cereal products as supplemental and functional
foods to our powdered infant and children formula products. These improvements
included upgrades to packaging as well as product extensions with new
functionalities, new tastes and flavors, and new protein sources such as fish
and chicken.





Baby
Food Products





Baby food
segment covers the sale of prepared baby food and nutritional snacks for babies
and children. It includes the brand of Huiliduo which was launched in the fiscal
quarter ended March 31, 2009 and the nutritional snacks component which we
expect to launch in fiscal year 2010. These products are designed to be part of
a child’s appropriate diet with enhanced nutrition value at different stages of
development.





Nutritional
Ingredients and Supplements





Nutritional
ingredients and supplements segment covers the production and sale of
nutritional ingredients and supplements such as chondroitin sulfate,
microencapsulated DHA and ARA. In the past, we had sourced and exported
chondroitin sulfate, a nutrient for joint health, to U.S. industrial customers
through our exclusive third-party agent. With the completion of our Meitek
facilities in October 2008, we will be able to produce chondroitin sulfate
ourselves. In addition, our Meitek facilities can produce microencapsulated DHA
and ARA powders and other nutritional ingredients and supplements for our own
use and also for external industrial customers.


7


PRODUCTION





Powdered
Formula Processing





Processing
of our powdered formula begins with the collection and preparation of raw milk
from dairy farmers. Local dairy farmers bring their dairy cattle to collection
stations owned by us or third parties where raw milk is automatically received
using fully enclosed, stainless-steel vacuum milking machines. These collection
stations collect and transport the raw milk to our production facilities which
are located within 100 kilometers of these milk collection stations, except for
our Qingdao facility. Although raw milk can remain fresh for up to 72 hours, we
normally process it within 24 hours.  Once received, the raw milk will
no longer have any contact with air and is immediately processed with
refrigeration equipment that cools the raw milk within four seconds to
approximately four degrees Celsius.  The raw milk is then stored in
air-tight tanks in preparation for advanced processes, which include milk fat
separation, sterilization and spray-drying. Spray-dried milk powder is
transported to our Qingdao facility for further processing or stored locally for
commercial resale.





At the
Qingdao facility, dried milk powder is mixed in large automated mechanical
mixers with whey protein powder and other additives in a method know as
dry-blending. Our dry-blending equipment can automatically adjust the level of
ingredients to achieve the complex formulations required by our premium
products. The resulting milk powder is then checked to ensure proper granule
size before packaging and distribution.





Since the
melamine contamination incident, we have been using imported milk powder from
Europe and New Zealand for our Super, U-Smart and Holsteina brands. Currently,
milk powder produced at our own facilities is mainly used for commercial resale.
Only the Mingshan series of products continues to use locally produced raw milk.
At our Mingshan facilities, sterilized raw milk is mixed with whey protein
powder and other nutrients to the specifications of product formula through wet
mixing method. The resulting mixture is then spray dried into milk powder and
transported to our Qingdao facility for final packaging.





Packaging





The bulk
of our powdered formula and other nutritional products come in three types of
retail packaging: tin canisters, standup/display pouches, or sealed packages in
a box. All packaging labels carry product information, nutritional profile, user
instructions, product tracing data and shelf life date, product certification
status, quality control and assurance remarks, manufacturer contact information,
as well as customer service information that comply with PRC labeling
requirements. Selected products are also retail-packaged in single-use sizes.
Before any product leaves our packaging facility to distributors, we generally
engage in an extensive testing and inspection of the final product.





Production
and Packaging Facilities





Our
processing and packaging facilities are located in various locations in China,
including Beijing, Qingdao, Luobei, Zhangjiakou, Fengzhen, Zhenglanqi and
Junchuan. These facilities encompass approximately 114,000 square meters of
office, plant, and warehouse space. Our packaging and distribution headquarters
located in Qingdao includes over 2,330 square meters of owned office space. All
of our production facilities are built based on the GMP standard, with equipment
imported from Europe and all of our facilities that have commenced operation
have ISO9000 and HACCP series qualifications with some also being ISO14000
certified. We also have leased office space in Beijing covering approximately
6,000 square meters. Synutra Illinois leases an executive office in Rockville,
Maryland, United States.





We
currently own and operate five processing facilities and one packaging facility
for our powdered formula production. As of March 31, 2009, we had raw milk
processing capacity of 40,000 tons per year, packaging capacity of 82,000 tons
per year and dry-blending processing capacity of 73,000 tons per
year.





Our
Qingdao facility serves as our packaging plant. Various ingredients, such as
milk powder milk, whey protein powder and nutritional additives arrive at our
Qingdao facility from our production facilities and our suppliers, and the
Qingdao facility repackages ingredients into retail-size tin canisters or stand
up/display pouches or sealed packages in boxes. This packaging facility also
provides inventory control and logistics management, product quality monitoring
and product development assistance. As of March 31, 2009, our
packaging facility had an installed capacity of 82,000 tons per
year.





Our
production facility for prepared baby foods is located in Beijing. As of
March 31, 2009, this facility had a processing capacity of 3.6 million jars
per year.





Our
production facility for nutritional snacks is located in Zhenglanqi, Inner
Mongolia. This facility, upon completion in the later half of 2009, is expected
to have processing capacity of 80,000 tons per year.





Our
production facility for nutritional ingredients and supplements is located in
Qingdao. As of March 31, 2009, this facility had a processing capacity of
700 tons per year for chondroitin sulfate, 1,000 tons per year for collagen
protein, and 700 tons for microencapsulated DHA and ARA powders and other
nutritional ingredients.





For
information with respect to the installed capacity, location and function of our
processing and packaging facilities, see “Item 2.
Properties”.


8


RAW
MATERIALS AND SUPPLIERS





Raw
Materials





Our
business depends on maintaining a regular and adequate supply of high-quality
raw materials. A key ingredient for our powdered formulas is high-quality raw
milk. We pay market prices, or premium prices in certain regions for our raw
milk. Our milk suppliers are primarily dairy farmers located throughout
Heilongjiang and Hebei provinces and Inner Mongolia.





In the
aftermath of the melamine contamination incident, we decided to use imported
milk powder for the production of our higher end powdered formula products. We
currently source the majority of milk powder from Europe and New
Zealand.





Whey
protein powder is the other key ingredient used in the production of our
powdered infant formula products and our other dairy-based products. Like all
powdered milk producers, we use whey protein powder as the active ingredient to
help reconstituted dairy-based formula to mimic the consistency of breast milk,
which can constitute as much as 40.0% of the final powdered infant formula
product by weight. Whey protein powder is a byproduct of cheese-making
processes, and is difficult and costly to produce as a stand-alone product.
Since China is not a large consumer or producer of cheese and cheese products,
we and other domestic producers typically obtain whey protein powder in volume
from overseas sources, such as France.





Based on
our experience, prices of milk powder and whey protein powder can fluctuate over
relatively short periods of time depending on market conditions. Our sourcing
team carefully monitors price movements and makes major purchases at times when
prices are low, subject to projected customer order flow and other
factors.





Some of
our powdered milk products, including our powdered infant formulas, also include
additives such as DHA and ARA fatty acids and other nutritional additives. DHA
and ARA fatty acids are long-chain poly-unsaturated fatty acids found in breast
milk that are believed to aid in the development of an infant’s brain, eyes and
nervous system. Studies have suggested that DHA and ARA fortification can
replicate some of the nutritional benefits of breast milk in infant formulas.
Currently we are producing microencapsulated DHA and ARA powders at our Meitek
facility which began operations in October 2008 for both internal use and
external sales.





We use
vegetable oils in our dry-spraying powder infant formula production processes as
a binder for the dry ingredients, helping diminish the occurrence of “lumpiness”
or uneven texture when reconstituting powdered infant formula.





We
purchase animal cartilage from third-party suppliers, including overseas
slaughtering houses, for the production of chondroitin sulfate, a substance that
provides nutrients for joints, tendon, ligaments and bones.





Suppliers
and Supplier Arrangements





Prior to
September 2008, we were able to meet our milk powder production needs by
purchasing raw milk on the open market in established dairy regions in northern
and northeastern China. We generally negotiate the purchase price of raw milk
with many dairy farmers and cooperatives.





Since the
melamine contamination incident, we have been purchasing milk powder from Europe
and New Zealand. We generally negotiate the prices for each separate purchase on
spot and do not sign long term contracts with our suppliers.





Prior to
June 2007, we obtained substantially all of our supply of whey protein powder
from Honnete, a large volume importer of processed dairy products in
China. Honnete, a company controlled by Liang Zhang, our chairman and chief
executive officer, is a major supplier of China’s whey protein powder. Beginning
in June 2007, we began sourcing substantially all of our whey protein powder
directly from Eurosérum, Honnete’s supplier in France.


9


SALES
AND DISTRIBUTION





Sales





We
generally sell our products directly to distributors and in limited
circumstances directly to retailers. Our recent marketing efforts for our
nutritional products have focused on extending retail coverage in terms of
geography and market sectors. Our sales and marketing approach combines
advertising, brand-building and store-level promotions. Our sales team of more
than 300 individuals use our customer relations management, or CRM, database in
order to acquire, process, and manage targeted customer
information.





We have
built a sales network that currently covers 29 provinces and provincial-level
municipalities. Our sales group is divided into multiple sub-sales regions. Each
sub-sales region covers between eight to twenty urban sales areas which act as
an independent operating unit, while each urban sales area covers three to
twenty county sales areas. As of March 31, 2009, we had a sales and
marketing force of 3,400 employees, complemented by more than 16,000
commissioned field nutrition consultants or retail site promoters employed by
our distributors and sub-distributors to promote and sell our
products.





Although
we sell primarily to our distributors and a few resellers, our sales teams work
directly with each outlet to manage the sales process and to collect customer
and purchasing related data. We use multiple criteria to select our
distributors, including reviewing each potential distributor’s financial condition.
We intend to expand our sales organization into additional cities and
municipalities that we do not currently serve. Our city managers have their own
monthly budgets and budgetary responsibility, empowering them to plan and
execute their sales and marketing plans without further budgetary approval of
the provincial managers. City managers are also rotated periodically between
various cities. We have recently set up a sales budget management team to manage
our sales expenses and to supervise the execution of our budgeting plan. This
team reports directly to the president of marketing and sales.





We
compensate our sales personnel through a combination of fixed salaries and
bonuses determined based on sales growth. Our targeted sales incentive programs
compensate our sales personnel on a product-specific level, thereby enabling us
to incentivize our sales personnel to focus their sales and promotion efforts on
certain product lines, such as our premium product lines or larger product
packages.




Distribution





We
primarily work directly with over 480 distributors, who in turn work with over
800 sub-distributors, and more than 65,000 retail outlets. Our packaging
subsidiary, Shengyuan Nutritional Food, also serves as our national distribution
center for our distributors in China. We generally require our distributors to
pay full purchase price for our products in cash prior to delivery. Starting
from the beginning of 2007 and prior to the melamine contamination incident, we
have offered no more than 60 days of credit for our products to selected
distributors. In light of the financial difficulties experienced by our
distributors as a result of the melamine contamination incident, we have
extended credit periods to no more than 90 days to more distributors. In
addition to our credit policies, we ask our distributors to provide monthly
inventory reports for us to monitor their inventory levels. Our sales personnel
also regularly inspect distributors’ inventories to identify and control any
potential inventory buildup by our distributors. We employ trucking companies
locally and nationally to distribute retail packaged products to various
regional and provincial distributors.





Distributors
normally have exclusive distribution rights in their respective regions and
cities to distribute our products, and are also responsible for developing the
sub-distributors in their own region and cities. We typically enter into a
contract with each of our distributors that establishes the range of sales
obligations and their respective pricing ranges. However, our obligation to sell
and the distributor’s obligation to purchase arise only at the time a purchase
order is accepted. We seek to carefully manage our distributors through an
evaluation system that monitors and grades each distributor with respect to
performance criteria such as monthly sales and investment in promotional
activities. We seek to incentivize well-performing distributors by providing
discounts, larger sales territory and other incentives. While we do not directly
manage our sub-distributors, we do track sub-distributor performance through
coordinated efforts between our own sales personnel in the field and
distributors. Our distributors generally have the right to return products due
to package damage.





We
currently distribute our nutritional products across China. Our logistics center
in our Qingdao facilities occupies an area of 39,000 square meters. This
logistics center can currently dispatch 4,800 tons of our products for shipment
to our distributors per month. Our Qingdao facility also has the capability to
respond to urgent requests for product shipments within an average of five
days.





We
currently work with approximately 27 transportation companies to transport our
goods directly from our Qingdao facilities to distributors in a timely and
efficient manner.





We have
an enterprise resource planning system, or ERP system that monitors inventory
management. This ERP system is linked to our financial information
system.


10


MARKETING,
ADVERTISING AND PROMOTION





Advertising





We
advertise through various media, including television, print media and the
Internet. Additionally, we conduct promotional activities with supermarket
chains and entertainment companies in order to reach our target
market.





We
started nationwide television advertising coverage in September 2006. In certain
cases, we supplement our nationwide television coverage with local television
coverage. We also pursue advertising over the Internet. Our advertising spending
was $72.8 million, $30.3 million and $16.4 million for the fiscal years ended
March 31, 2009, 2008 and 2007, respectively. This increase enabled us to
secure prime-time placements with China Central Television and other premium
regional or satellite television stations. In the aftermath of the melamine
contamination incident, we also intensified our efforts to improve our corporate
image and brand name and to recover our lost market share.





Marketing
and Promotion





As part
of our sales and marketing approach, our sales force works with more than 7,400
healthcare facilities across China to provide maternity, infant nutrition and
health education programs. We have also established a national customer service
call center providing live and toll-free information support to consumers in
prenatal, nursing, baby care education, product information, and complaint and
dispute resolution.





We
provide displays, posters and other promotional print to retail outlets and
sales consultants employed by our distributors at each point of sale. We also
pay entry fees to various retail outlets to place our products within such
outlets. We collect customer information through surveys voluntarily provided by
each customer via the point of sale or via mailed forms provided to our
customers in each product package. We also have promotional activities with
supermarket chains and entertainment companies in order to reach our target
market.





QUALITY
CONTROL





We place
primary importance on quality. We have established quality control and food
safety management systems for the purchase of raw materials, raw milk checks,
raw milk processing, packaging, storage and transportation. We use commercial
strength 25KG poly kraft bags for packaging before shipping the formula products
to our retail packaging and distribution facilities. Additionally, we maintain
cold storage areas at each of our four processing facilities to store fluid
milk. All of our processing facilities are equipped with in-house laboratories
for quality assurance and quality control purposes. Our laboratory in Qingdao
facilities has been qualified as a National Standard Laboratory by the China
National Accreditation Service for Conformity Assessment.





In order
to ensure the quality and safety of our ingredients and products, we have also
installed testing equipment and have implemented control procedures at each
stage of production, including at the initial raw material purchase stage. There
are over 1,100 quality control points throughout the entire production process,
including 24 quality control points at the milk collection stations. During
every step of production, transportation and storage, we employ strict internal
regulations and monitoring by highly trained employees. Additionally, we have
been increasing our investment in quality control equipment and training. We
also maintain our own quality control personnel at each of our third-party
producers’ facilities and we rigorously test all products shipped to us from our
third-party producers.


11


Highlights
of our quality control procedures are summarized below, organized by the main
stages of production:





Purchase
of Raw Milk:





•
            Raw
      milk procurement manager conducts pre-purchase assessment of dairy farmers
      and requests issuance of clean bill of health for dairy
    cows;





•
            Procurement
      staff conducts on-site inspection in strict compliance with our quality
      standards and rejects nonconforming
supply;





•
            Inspection
      of specimen—sampling in the process of raw milk collection for inspection
      at our facilities pursuant to national standards;
  and





•
            Sterilization
      of all equipment for raw milk
collection.





Milk
Powder Production:





•
            Strict
      compliance with production process control procedure, HACCP Plan
      implemented at all plants;





•
            All
      raw materials are subject to prior
inspection;





•
            Detailed
      process designed for all parts of the production process including
      pretreatment, vaporization, drying, powder receiving, cooling and
      packaging;





•
            Maintain
      hygiene standards for staff, equipment, environment and any other object;
      and





•
            Inspection
      conducted throughout the production
process.





Packaging,
Storage and Transport:





•
            Establishment
      and practice of total process management with respect to product
      identification and traceability;





•
            Strict
      inspection before warehousing of
products;





•
            Maintain
      hygiene standards in the course of transport and storage;
    and





•
            Products
      must be positioned strictly according to their category during transport
      and storage.





Since the
melamine contamination incident, we have been importing a large quantity of milk
powder from Europe and New Zealand. All of our milk powder imports are inspected
by China’s import-export inspection and quarantine authorities at landing. In
addition, our Qingdao laboratory tests each batch of imported milk powder using
the strictest standards for quality assurance.


12


RESEARCH
AND DEVELOPMENT





Our
research and development activities focus on new product formulation, new
ingredient development, creation of new methods to incorporate certain nutrients
in our products, and improvement in product tastes and ingredient shelf
stabilities. We engage in regular product refinement and new product development
for our dairy-based formula products, as well as other forms of foods and
nutritional supplements.





We
utilize our research and development facilities to engage in the development of
trial products that improve our technical capabilities and serve to promote our
brand image. We also engage third-party research institutions to research and
develop such trial products for us.





We seek
to leverage our research and development resources in order to extend our new
product pipeline. We believe we can accomplish this goal with new formulations
and product concepts in dairy-based formula products as well as other
nutritional food products and supplements.





In
addition to new formulations and products, we have also developed a variety of
delivery systems such as orally delivered supplements in a pill format and
single use packages which can provide the formula to the end-user in convenient
single packets instead of bulky large canisters.





We also
plan to open a new research and development facility in Beijing, which we expect
to be operational by late 2010.





During
the fiscal years ended March 31, 2009, 2008 and 2007, we spent
approximately 0.3% of net sales per year on research and
development.





COMPETITION





The
infant formula industry in China is highly competitive. We generally compete
with both multinational and domestic Chinese infant formula producers.
Competitive factors include brand recognition, perceived quality, advertising,
formulation, packaging and price. Many of our competitors have significant
market share in the markets we compete in. Our principal competitors can be
classified generally into the following two groups:





Multinational
Producers





•
            Abbot
      Laboratories’ Ross Products Division, a U.S. producer and distributor of
      infant formulas marketed under the brand names of Similac and Enfalac
      family of formulas;





•
            Mead
      Johnson Nutrition Co., or Mead Johnson, formerly a Bristol-Myers Squibb
      Company Division, a U.S. producer and distributor of the Enfamil family of
      formulas;





•
            Groupe
      Danone SA’s Numico division, or Numico, a Dutch producer of baby foods,
      which sells and markets infant formula products in China under the Dumex
      brand;





•
            Nestlé
      Suisse SA, or Nestlé, a Swiss producer and distributor of starter and
      follow-up formulas, milk, cereals, oral supplements and performance foods
      marketed under Nestlé brands such as Carnation;
  and





•
            Wyeth,
      a U.S. producer and distributor of infant formula sold under private label
      brands.





Domestic
Producers





•
            Inner
      Mongolia Yili Industrial Group Co., Ltd., or Yili, a PRC producer and
      distributor of liquid and powdered milk under their Yili
      brand;





•
            Beingmate
      Group Company Limited, or Beingmate, a PRC producer and distributor of
      infant formula products under their Beingmate
  brand;





•
            Guangdong
      Yashili Group Co., Ltd., or Yashili, a PRC consumer brand marketer which
      sells a line of infant formula products under their Yashili brand;
      and





•
            American
      Dairy, Inc., a PRC producer and distributor of milk formula products under
      their Feihe brand.





According
to data collected by the PRC National Commercial Information Center, or CIC, an
entity affiliated with the PRC General Chamber of Commerce responsible for
collecting retail sales data, the top ten brands accounted for 78.4% of total
infant formulas sold in China in 2008. Among the top ten participants in the
infant formula market, we believe top domestic companies such as us are
competing increasingly more effectively with multinational
producers.




13


INTELLECTUAL
PROPERTY





All of
our product formulations have been developed in-house and are proprietary. We
have not registered or applied for protections in China for most of our
intellectual property or proprietary technologies relating to the formulations
of our powdered infant formula. See “Item 1A. Risk factors—Risks Related
to Our Business—Failure to adequately protect our intellectual property rights
may undermine our competitive position, and litigation to protect our
intellectual property rights may be costly.” Although we believe that, as
of today, patents and copyrights have not been essential to maintaining our
competitive market position, we intend to assess appropriate occasions in the
future for seeking patent and copyright protections for those aspects of our
business that provide significant competitive advantages.





We have
69 registered trademarks in China, one registered trademark in Hong Kong, and
one registered trademark in the United States. Additionally, we have 143
trademark applications pending approval in China.





We rely
on trade secret protection and confidentiality agreements to protect our
proprietary information and know-how. Our management and each of our research
and development personnel have entered into a standard annual employment
contract, which includes a confidentiality clause and a clause acknowledging
that all inventions, designs, trade secrets, works of authorship, developments
and other processes generated by them on our behalf are our property, and
assigning to us any ownership rights that they may claim in those works. Each of
our third-party producers enters into a standard form confidentiality agreement.
Despite our precautions, it may be possible for third parties also to obtain and
use, without our consent, intellectual property that we own or are licensed to
use. Unauthorized use of our intellectual property by third parties, and the
expenses incurred in protecting our intellectual property rights, may adversely
affect our business. See “Item 1A. Risk factors—Risks Related to Our
Business—Failure to adequately protect our intellectual property rights may
undermine our competitive position, and litigation to protect our intellectual
property rights may be costly.”





ENVIRONMENTAL
MATTERS





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





OUR
EMPLOYEES





As of
March 31, 2009, we employed approximately 6,200 employees in all of our
facilities, with approximately 600 management staff and research and development
employees, approximately 2,200 production employees, approximately 3,400 sales
and marketing employees, including approximately 300 database sales and
marketing specialists, approximately 700 employees working on educational
programs in healthcare facilities, and approximately 50 customer relations
employees. Our employees are not represented by a labor organization or covered
by a collective bargaining agreement. We have not experienced any work
stoppages.





We offer
our employees both a base salary and a profit sharing program composed of
performance bonuses and rewards for exceptional performance. As required by PRC
regulations, we participate in various employee benefit plans that are organized
by municipal and provincial governments, including pension, work-related injury
benefits, maternity insurance, medical and unemployment benefit plans. We are
required under PRC law to make contributions to the employee benefit plans at
specified percentages of the salaries, bonuses and certain allowances of our
employees, up to a maximum amount specified by the local government from time to
time. Members of the retirement plan are entitled to a pension equal to a fixed
proportion of the salary prevailing at the member’s retirement
date.


14


REGULATION





The food
industry, of which nutritional and infant formula products form a part, is
subject to extensive regulations in China. This section summarizes the most
significant PRC regulations governing our business in China.





Food
Hygiene and Safety Laws and Regulations





As a
producer of nutritional products, and particularly dairy-based infant formula
products, in China, we are subject to a number of PRC laws and regulations
governing the manufacturing (including composition of ingredients), labeling,
packaging, safety and hygiene of food products:




•
            the
      PRC Product Quality Law;




•
            the
      PRC Food Hygiene Law;




•
            the
      Access Conditions for Dairy Products Processing
  Industry;




•
            the
      Implementation Rules on the Administration and Supervision of Quality and
      Safety in Food Producing and Processing
  Enterprises;




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




•
            the
      General Standards for the Labeling of Prepackaged
  Foods;





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




•
            the
      Standardization Law;




•
            the
      Raw Milk Collection Standard;




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




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





These
laws and regulations set out safety and hygiene standards and requirements for
various aspects of food production, such as the use of additives, production,
packaging, handling, labeling and storage, as well as facilities and equipment.
Failure to comply with these laws and regulations may result in confiscation of
our products and proceeds from the sales of non-compliant products, destruction
of our products and inventory, fines, suspension of production and operation,
product recalls, revocation of licenses, and, in extreme cases, criminal
liability.





As a
result of the melamine contamination incident, the PRC government authorities
have conducted several dairy industry inspections. In addition to the initial 22
companies implicated in the incident, these subsequent government inspections
have identified other companies with unacceptable contamination in their
products. On October 7, 2008, the State General Administration of Quality
Supervision, Inspection and Quarantine (“AQSIQ”) issued a national standard on
the detection of melamine in raw milk and dairy based products. On October 9,
2008, the State Council promulgated with immediate effect a Regulation for the
Quality and Safety Supervision of Dairy Based Products, which, among other
things, imposes more stringent requirements for inspection, production,
packaging, labeling and product recall on dairy product producers. This
regulation also established a “Black-List” system to ensure that illegal
business operators in the dairy production chain are timely disclosed and
severely punished.


15


Environmental
Regulations





We are
subject to various governmental regulations related to environmental protection.
The major environmental regulations applicable to us include:




•
            the
      Environmental Protection Law of the
PRC;




•
            the
      Law of PRC on the Prevention and Control of Water
    Pollution;




•
            Implementation
      Rules of the Law of PRC on the Prevention and Control of Water
      Pollution;




•
            the
      Law of PRC on the Prevention and Control of Air
  Pollution;




•
            Implementation
      Rules of the Law of PRC on the Prevention and Control of Air
      Pollution;




•
            the
      Law of PRC on the Prevention and Control of Solid Waste Pollution;
      and




•
            the
      Law of PRC on the Prevention and Control of Noise
    Pollution.





We are
periodically inspected by local environmental protection authorities. Our
operating subsidiaries have received certifications from the relevant PRC
government agencies in charge of environmental protection indicating that their
business operations are in compliance with the relevant PRC environmental laws
and regulations.





Dairy
Industry Access Conditions and Policies





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





The
Access Conditions also set forth some requirements relating to the location,
processing capacity and raw milk source for any new or continuing dairy products
processing project or enterprise. Any new or continuing dairy products
processing projects or enterprises that fail to meet the requirements will not
be able to procure land, license, permits, loan facility and electricity
necessary for the processing of dairy products, and those projects or
enterprises already in operation before the promulgation of the Access
Conditions will be deregistered and ordered to shut down if they fail to meet
the conditions within a two-year rectification period. We believe that all of
our existing entities and facilities meet the requirements under the Access
Conditions. See “Item 1A. Risk
Factor—Risks Associated with Doing Business in China—Changes in the regulatory
environment for dairy and infant nutrition products in China could negatively
impact our business.”





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


16


FINANCIAL
INFORMATION ABOUT SEGMENTS AND GEOGRAPHIC AREAS





Historically
we reported our results as a single reporting segment in the financial
statements since operating segments such as the nutritional ingredients and
supplements segment was under construction with minor operating expenses and had
not met the quantitative threshold as described under SFAS 131 "Disclosure about
Segments of an Enterprise and Related Information". In this fiscal year, we
expanded the number of reportable segments from one to three segments, which are
powdered formula, baby food and nutritional ingredients and supplements, in
order to better reflect the manner in which management analyzes the Company’s
performance. Please refer to Note 17 to the Consolidated Financial Statements
for further discussion about segments and geographic areas.





AVAILABLE
INFORMATION





Our
Internet website address is www.synutra.com. We make
available at this address, free of charge, our Annual Reports on Form 10-K,
Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and all amendments
to those reports as soon as reasonably practicable after such material is
electronically filed with or furnished to the United States Securities and
Exchange Commission, or SEC. Information available on our website is not
incorporated by reference in and is not deemed a part of this Form
10-K.




ITEM
1A. RISK
FACTORS





Because
of the following factors, as well as other factors affecting our financial
condition and operating results, past financial performance should not be
considered to be a reliable indicator of future performance, and investors
should not use historical trends to anticipate results or trends in future
periods.





You
should carefully consider the following risks and other information in this
Form 10-K before making an investment decision with respect to our common
stock. The following risks and uncertainties could materially adversely affect
our business, results of operations and financial condition. The risks described
below are not the only ones we face. Additional risks that we are not presently
aware of or that we currently believe are immaterial may also impair our
business operations.


17


RISKS
RELATED TO OUR BUSINESS





We
are highly dependent upon consumers’ perception of the safety and quality of our
products. Any ill effects, product liability claims, recalls, adverse publicity
or negative public perception regarding particular ingredients or products or
our industry in general, could harm our reputation and damage our brand, and
adversely affect our results of operations.




We sell
products for human consumption, which involves risks such as product
contamination, spoilage and tampering. We may be subject to liability if the
consumption of any of our products causes injury, illness or death. Adverse
publicity or negative public perception regarding particular ingredients, our
products, our actions relating to our products, or our industry in general could
result in a substantial drop in demand for our products. This negative public
perception may include publicity regarding the safety or quality of particular
ingredients or products in general, of other companies or of our products or
ingredients specifically. Negative public perception may also arise from
regulatory investigations or product liability claims, regardless of whether
those investigations involve us or whether any product liability claim is
successful against us.




On
September 16, 2008, China’s Administration of Quality Supervision, Inspection
and Quarantine, or China AQSIQ, announced its finding that the formula products
of 22 Chinese formula producers, including certain lots of our U-Smart products,
were contaminated by melamine, a substance not approved for use in food and
linked to the recent illness and deaths of infants and children in China. To
date, there have been six reported deaths and approximately 300,000 children
have suffered kidney-related illnesses due to the contaminated infant formula of
one of our competitors. This contamination incident has resulted in significant
negative publicity for the entire domestic dairy and formula industries in China
and demand for domestically-produced dairy and formula products, including our
products, has declined significantly. We have recalled our affected U-Smart
products as well as all other products produced at the same facilities in the
Hebei and Inner Mongolia regions of China, where we believe the contaminated
milk supplies originated. We also suspended production at our facilities in
Qingdao, Hebei and Inner Mongolia for two weeks pending government and internal
investigations. The initial estimated cost of this action was $101.5 million
which was recognized as a charge to cost of sales, selling and distribution
expenses and general and administrative expenses in our consolidated statement
of income for the fiscal year ended March 31, 2009. These costs are still
subject to finalization, and we cannot assure you that this will be the total
cost for the recall or that the total cost will not significantly exceed our
estimates.




Although
we have not confirmed any cases of kidney-related or other illnesses caused by
our products, we cannot assure you that such cases will not surface in the
future. The Chinese government has provided medical screening, treatment, and
care for consumers affected by melamine contamination in infant formula
products. We have contributed a net amount of $2.3 million to a compensation
fund set up by China Dairy Industry Association to settle existing and potential
claims arising in China from families of infants affected by melamine
contamination. We cannot assure you that the Chinese government will not seek
further reimbursement from dairy and formula product manufacturers, including
us.




We
believe the contamination incident has already negatively impacted our brand and
reputation in China. It has also affected investor confidence in us as reflected
by the significant decrease in our stock price since September 16, 2008. We
cannot predict the long term effect this recall and the negative publicity
associated with the contamination incident will have on our reputation among our
customers, consumers and investors. Our results of operations and financial
position would be severely impacted if we have failed to accurately estimate the
costs of this product recall or if our customers and consumers cease to purchase
our products as a result of the contamination incident.




In the
past, there have also been occurrences of counterfeiting and imitation of
products in China that have been widely publicized. We cannot guarantee that
contamination or counterfeiting or imitation of our or similar products will not
occur in the future or that we will be able to detect it and deal with it
effectively. Any occurrence of contamination or counterfeiting or imitation
could negatively impact our corporate and brand image or consumers’ perception
of our products or similar nutritional products generally, particularly if the
counterfeit or imitation products cause injury or death to consumers. For
example, in April 2004, sales of counterfeit and substandard infant formula in
Anhui, China caused the deaths of 13 infants as well as harming many others.
Although this incident did not involve the counterfeiting of our products, it
caused significant negative publicity for the entire infant formula industry in
China. The mere publication of information asserting that infant formula
ingredients or products may be harmful could have a material adverse effect on
us, regardless of whether these reports are scientifically supported or concern
our products or the raw materials used in our products.




In
addition, we believe that the recent melamine incident and any other adverse
news related to formula products in China will also result in increased
regulatory scrutiny of our industry, which may result in increased costs and
reduce our margins and profitability. The government has enhanced its
regulations on the industry aimed to ensure the safety and quality of dairy
products, including but not limited to compulsory batch by batch inspection.
This is likely to increase our operating costs and capital
expenditure.


18


If
we fail to obtain raw materials in the quantity and the quality we need, and at
commercially acceptable prices, our results of operations, financial condition
and business prospects would be materially and adversely affected.




Our
business requires certain key raw materials, such as raw milk, milk powder and
whey protein powder. We may experience a shortage in the supply of certain raw
materials in the future, which could materially and adversely affect our
production and results of operations. We do not have guaranteed supply contracts
with any of our raw material suppliers, and some of our suppliers may, without
notice or penalty, terminate their relationship with us at any time. We also
rely on a small number of suppliers for some of our raw materials, such as whey
protein powder and imported milk powder. After the melamine contamination
incident, we have started to import milk powder from Europe and New Zealand for
our U-Smart, Super and Helanruniu, or Holsteina products as consumers have less
confidence in domestically-produced milk powder. If any supplier is unwilling or
unable to provide us with high quality raw materials in required quantities and
at acceptable prices, we may be unable to find alternative sources or at
commercially acceptable prices, on satisfactory terms, in a timely manner, or at
all. Our inability to find or develop alternative sources could result in delays
or reductions in production, product shipments or a reduction in our profit
margins. Moreover, these suppliers may delay material shipments or supply us
with inferior quality raw materials that may adversely impact the timely
delivery or the quality of our products. If any of these events were to occur,
our product quality, competitive position, reputation and business could
suffer.




In
addition, some of the raw materials used in our business are imported, such as
whey protein powder and milk powder. Our imported raw materials are subject to
various PRC governmental permit requirements, approval procedures and import
duties, and may also, from time to time, be subject to export controls and other
legal restrictions imposed by foreign countries. Should the PRC government
refuse to issue the necessary permits or approvals to us or our suppliers, or
take any administrative actions to limit imports of certain raw materials, or if
we or our suppliers fail to pay any required import duties, or if governmental
agencies or laws of foreign countries prevent the timely export of certain raw
materials we require to China, our ability to produce and sell our products in
China could be materially and adversely affected. In addition, import duties
increase the cost of our products and may make them less
competitive.




Finally,
certain suppliers of raw materials within our supply chain may intentionally or
inadvertently contaminate our raw material supplies or provide us with
substandard raw material supplies that adversely impact the quality of our
products exposing our customers to health risks and damaging our reputation,
brand and financial condition. For a more detailed description of this risk, and
in particular the impact of the recent melamine contamination incident in China,
see Part 1 - Item 1A. Risk Factors — We
are highly dependent upon consumers’ perception of the safety and quality of our
products. Any ill effects, product liability claims, recalls, adverse publicity
or negative public perception regarding particular ingredients or products or
our industry in general, could harm our reputation and damage our brand, and
adversely affect our results of operations.





We
depend on raw milk to produce our dairy-based nutritional products. Any
interruption in our supply of raw milk could materially and adversely affect our
results of operations, financial condition and business prospects.





We
purchase most of our raw milk from individual dairy farmers and cooperatives
without long-term contractual arrangements. Our raw milk supply is limited by
the ability of the individual dairy farmers and cooperatives to provide raw milk
in the amount and quality to meet our requirements. Raw milk production is, in
turn, influenced by numerous factors beyond our control such as: (1) seasonal
factors, with dairy cows generally producing more milk in temperate weather as
opposed to cold or hot weather and extended unseasonably cold or hot weather
potentially leading to lower than expected production; (2) environmental
factors, with the volume and quality of milk produced by dairy cows closely
linked to the quality of the nourishment provided by the environment around
them; and (3) impact of governmental agricultural and environmental policy, with
government grants, subsidies, provision of land, technical assistance and other
agricultural and environmental policies having a direct effect on the viability
of individual dairy farmers and dairy cooperatives, and the numbers of dairy
cows and quantities of milk they are able to produce. Individual dairy farmers
bring their cattle to collection stations owned by us or third parties. In order
to meet our projected needs, we expect that we will need to continue to increase
the number of milk collection centers from which we source our raw milk. We
cannot assure you that we will be able to establish relationships with
additional milk collection centers or that there will be sufficient supplies of
raw milk from individual dairy farmers and cooperatives to be provided to any
milk collection centers. Any interruption in our supply of raw milk could
materially and adversely affect our results of operations, financial condition
and business prospects.




19


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




The raw
materials we use are subject to price fluctuations due to various factors beyond
our control, including increasing market demand, inflation, severe climatic and
environmental conditions, commodity price fluctuations, currency fluctuations,
changes in governmental and agricultural regulations and programs and other
factors. We also expect that our raw material prices will continue to fluctuate
and be affected by inflation in the future. Changes to our raw materials prices
may result in increases in production and packaging costs, and we may be unable
to raise the prices of our products to offset these increased costs in the
short-term or at all. As a result, our results of operations may be materially
and adversely affected.





We
might face inventory write-down if milk powder inventory continues to increase
and milk powder prices continue to decline.





Since the
melamine contamination incident, we have been using imported milk powder for the
production of our Super, U-Smart, and Helanruniu series of products. In the
meantime, our domestic production facilities continued to purchase raw milk
locally to produce milk powder for commercial resale and for our Mingshan series
of products. Due to the decline in the consumption of dairy based products in
the PRC as a result of the melamine contamination incident and the significant
increase in milk powder imports, there has been a nationwide inventory build up
of domestically produced milk powder in the PRC. According to the Dairy Industry
Association of China, as of March 31, 2009, surplus milk powder inventory in the
PRC was estimated at 300,000 tons and is expected to continue to rise. Such
inventory build up has caused a significant decline in milk powder prices. If
milk powder inventory continues to rise and the milk powder prices continue to
fall, we might face significant inventory write-down which will adversely affect
our financial results.





Any
major outbreak of illness or disease relating to cows in China and in the
regions in which we import milk powder could lead to significant shortfalls in
the supply of our raw milk and milk powder, and could result in consumers
avoiding dairy products, which could result in substantial declines in our sales
and possibly substantial losses.





A major
outbreak of any illness or disease in cows in China and globally could lead to a
serious loss of consumer confidence in, and demand for, dairy products. A major
outbreak of mad cow disease (bovine spongiform encephalopathy), bovine
tuberculosis, or bovine TB, or other serious disease in the principal regions
supplying our raw milk and milk powder could lead to significant shortfalls in
the supply of our raw milk and milk powder. Limited cases of bovine TB have
occurred in several parts of China in the past. Furthermore, adverse publicity
about these types of concerns, whether or not valid, may discourage consumers
from buying dairy products or cause production and delivery disruptions. If
consumers generally were to avoid our products, our sales would decline
substantially and we could suffer substantial losses.





We
may experience problems with product quality or product performance, or the
perception of such problems, which could adversely affect our reputation or
result in a decrease in customers and revenue, unexpected expenses and loss of
market share.




Our
operating results depend, in part, on our ability to deliver high quality
products on a timely and cost-effective manner. Our quality control and food
safety management systems are complex. For example, there are over 1,100 quality
control points throughout the whole production process. If the quality of any of
our products deteriorated, it could result in delays in shipments, cancellations
of orders or customer returns and complaints, loss of goodwill, and harm to our
brand and reputation. In addition, in the aftermath of the melamine incident, we
purchase a significant portion of our milk powder from overseas suppliers,
mainly in Europe and New Zealand for our U-Smart, Super and Helanruniu, or
Holsteina products. We may be unable to exercise the same degree of quality
control over these overseas suppliers as we can over our own facilities. Any
quality problems associated with the milk powder produced by these suppliers
would also affect our products’ quality and lead to negative publicity against
us, adversely affecting our reputation and brand, and causing a decrease in
sales of our products and a loss of market share. For example, the recent
melamine contamination incident in China has resulted in certain of our products
being contaminated, impacting our brand and reputation.




20


Product
liability claims against us could result in adverse publicity and potentially
significant monetary damages.




As with
other infant formula producers, we are also exposed to risks associated with
product liability claims if the consumption of infant formula products we sell
results in injury or death. We cannot predict what impact such product liability
claims or resulting negative publicity would have on our business or on our
brand image. The successful assertion of product liability claims against us
could result in potentially significant monetary damages, diversion of
management resources and require us to make significant payments and incur
substantial legal expenses. We do not have product liability insurance and have
not made provisions for potential product liability claims. Therefore, we may
not have adequate resources to satisfy a judgment if a successful claim is
brought against us. Even if a product liability claim is not successfully
pursued to judgment by a claimant, we may still incur substantial legal expenses
defending against such a claim and our brand image and reputation would suffer.
Finally, serious product quality concerns could result in governmental action
against us, which, among other things, could result in the suspension of
production or distribution of our products, loss of certain licenses, or other
governmental penalties.




For
example, the recent melamine contamination incident in China has resulted in
certain of our products being contaminated. As a result, lawsuits have been
filed against us in both China and the U.S. by Chinese families alleged to have
been affected by melamine contamination, seeking compensatory and punitive
damages. See “Item 3 - Legal Proceedings.” We may incur significant legal
expenses and be subject to significant monetary damages in connection with such
claims, which may adversely affect our results of operations and further harm
our reputation and damage our brand. Further, we cannot assure you that we will
not become subject to future product liability claims in connection with the
melamine contamination incident. See “Risk Factors — We are highly
dependent upon consumers’ perception of the safety and quality of our products.
Any ill effects, product liability claims, recalls, adverse publicity or
negative public perception regarding particular ingredients or products or our
industry in general could harm our reputation and damage our brand and adversely
affect our results of operations.”





Our
sales, results of operations, brand image and reputation could be materially and
adversely affected if we fail to efficiently manage our operations without
interruption, or fail to ensure that our products are delivered on
time.





Our
business requires successful coordination of several sequential and complex
processes, the disruption of any of which could interrupt our operations and
materially and adversely affect our relationships with our distributors,
sub-distributors and end-customers, our brand name and reputation, and our
financial performance. Our operations involve the coordination of raw material
sourcing from third parties, internal production processes and external
distribution processes. We may face difficulties in coordinating the various
aspects of our production processes, resulting in downtime and
delays.





In
addition, we may encounter interruptions in our production processes due to a
catastrophic loss or events beyond our control, such as fires, explosions, labor
disturbances, earthquakes orother natural disasters. If there is a stoppage
in production at any of our facilities, even if only temporary, or delays in
deliveries to our customers, our business and reputation could be severely
affected. Along with many other producers of dairy and consumer products in
China, we generally rely on third-party transportation operators and
distributors for the delivery of our products. Delivery may be disrupted for
various reasons, many of which are beyond our control, including natural
disasters, weather conditions or social unrest and strikes, which could lead to
delayed or lost deliveries. In addition, transportation and related infrastructureconditions are often
generally under-developed in some of the
regions where we sell our products. We currently do not have business
interruption insurance to offset these potential losses, delays and risks, so a
material interruption of our business operations could severely damage our
business.


21


We
rely primarily on third-party distributors and cannot assure you that their
marketing and distribution of our products will be effective or will not harm
our brand and reputation. Moreover, if we fail to timely identify and appoint
additional or replacement distributors as needed, or are unable to successfully
manage our distribution network, our operating results could
suffer.





We do not
sell our products directly to our end customers. Instead, we primarily rely on
third-party distributors and sub-distributors for the sale and distribution of
our products. We sell our products through an extensive nationwide sales and
distribution network covering 29 provinces and provincial-level municipalities
in China. As of March 31, 2009, this network comprised over 480 distributors and
over 800 sub-distributors who sell our products in over 65,000 retail outlets. Our distributors normally have exclusive
distribution rights in their respective regions and cities, and are also
responsible for developing the sub-distributors located in their own regions and
cities. In addition, our distributors are not
required to exclusively distribute ourproducts.We typically do not enter into
long-term agreements with distributors and have no control over their everyday
business activities. Consequently, our distributors may engage in activities
that are prohibited under our arrangements with them, that violate PRC laws and
regulations governing the dairy industry or other PRC laws and regulations
generally, or that are otherwise harmful to our business or our reputation. Due
to our dependence on distributors for the sale and distribution of our products
to retail outlets, any one of the following events could cause material
fluctuations or declines in our revenue and have a material adverse effect on
our financial condition and results of operations:




•
            reduction,
      delay or cancellation of orders from one or more of our
      distributors;




•
            selection
      or increased sales by our distributors of our competitors’ products;
      and




•
            our
      failure to timely identify and appoint additional or replacement
      distributors upon the loss of one or more of our
    distributors.




The
competition for distributors is intense in our industry in China and many of our
competitors are expanding their distribution networks in China. We may not be
able to compete successfully against the larger and better-funded sales and
marketing operations of some of our current or future competitors, especially if these
competitors provide more favorable arrangements for distributors. As a result,
we may lose some of our distributors to our competitors, which may cause us to
lose some or all of our favorable arrangements with such distributors and may
even result in the termination of our relationships with some of our
distributors. While we do not believe we are substantially dependent upon any
individual distributor, finding replacement distributors could be time-consuming
and any resulting delay may be disruptive and costly to our business. In
addition, we may not be able to successfully manage our distributors and the
cost of any consolidation or further expansion of our distribution network may
exceed the revenue generated from these efforts. The occurrence of any of these
factors could result in a significant decrease in the sales volume of our
products and therefore materially harm our financial condition and results of
operations.





We
maintain inventories of raw materials and finished products, and our inventories
may spoil.





Most of
our finished products have an average shelf life of 18 to 24 months. Our raw
materials, excluding raw milk, have an average shelf life of 12 months. Our
inventory levels are based, in part, on our expectations regarding future sales.
While we do not currently maintain large inventory levels for long periods, we
may in future periods experience inventory buildup if our sales slow for any
reason. Any significant shortfall in sales may result in higher inventory levels
of raw materials and finished products than we require, thereby increasing our
risk of inventory spoilage and corresponding inventory write-downs and
write-offs, which may materially and adversely affect our results of
operations.





Our
results of operations and business prospects may be impaired by changing
consumer preferences if we do not develop and offer products to meet changing
preferences.





Consumer
preferences evolve over time and the success of our products depends on our
ability to identify the tastes and nutritional needs of our customers and to
offer products that appeal to their preferences. We introduce new products and
improved products from time to time and incur significant development and
marketing costs. If our products fail to meet consumer preferences, then our
strategy to grow sales and profits with new products will be less
successful.




22


More
mothers may breastfeed their babies rather than use our products, resulting in
reduced demand for our products and adversely affecting our
revenues.




Our
results of operations are affected by the number of mothers who choose to use
our products rather than breastfeeding their babies. Much publicly available
data suggests that breastfeeding has many health benefits for the baby that
cannot be replicated by dairy-based infant formula products. Additionally,
popular literature, cultural pressure, government policies and medical advice in
China generally promote the benefits of breastfeeding. For example, on
August 1, 2007, China’s Ministry of Health issued an Infant Feeding
Strategy which promoted breastfeeding and requested all local relevant
departments to publicize the benefits of breastfeeding through radio
broadcasting, television and newspapers during World Breastfeeding Week, which
took place in early August 2007. Thus, to the extent that private, public and
government sources increasingly promote the benefits of breastfeeding, there
could be a reduced demand for our products and our revenues could be adversely
affected.





In
addition, we believe the recent melamine contamination incident has deteriorated
customer confidence in the safety and quality of infant formula products and the
number of mothers (and future mothers) who choose to breastfeed their babies may
significantly increase. The overall market demand for infant formula products
may slow or decline and any reduced demand for our products will negatively
impact our revenues and growth prospects.





Failure
to execute our expansion plan could adversely affect our financial condition and
results of operations.




We have
plans to increase our annual production capacity to meet an expected increase in
demand for our products. Our decision to increase our production capacity is
based in part on our projections of increases in our sales volume and growth in
the size of the infant formula product market in China. If actual customer
demand does not meet our projections, we will likely suffer overcapacity
problems and have idle capacity, which may
materially and adversely affect our
financial condition and results of operations. Our future success depends on our
ability to expand our business to addressexpected growth in demand for our current and
future products. Our ability to add production capacity and increase output is
subject to significant risks and uncertainties, including:




•
            the
      availability of additional funding to expand our production capacity,
      build new processing and packaging facilities, make additional investments
      in our subsidiaries, acquire additional businesses or production
      facilities, purchase additional fixed assets and purchase raw materials on
      favorable terms or at all;




•
            delays
      and cost overruns as a result of a number of factors, many of which may be
      beyond our control, such as problems with equipment vendors and suppliers
      of raw materials;




•
            failure
      to maintain high quality control
standards;




•
            global
      or local shortage of raw materials, such as raw milk or whey protein
      powder;




•
            our
      inability to obtain, or delays in obtaining, required approvals by
      relevant government authorities;




•
            diversion
      of significant management attention and other resources;
    and




•
            failure
      to execute our expansion plan
effectively.





As our
business grows, we will need to implement a variety of new and upgraded
operational and financial systems, procedures and controls, including
improvements to our accounting and other internal management systems by
dedicating additional resources to our reporting and accounting functions, and
improvements to our record keeping and contract tracking system. We will need to
respond to competitive market conditions and continue to enhance existing
products and develop new products, and retain existing customers and attract new
customers. We will also need to recruit more personnel and train and manage our
growing employee base. Furthermore, we will need to maintain and expand our
relationships with our current and future customers, suppliers, distributors and
other third parties, and there is no guarantee that we will
succeed.





If we
encounter any of the risks described above, or are otherwise unable to establish
or successfully operate additional production capacity or to increase production
output, we may be unable to grow our business and revenues, reduce our operating
costs, maintain our competitiveness or improve our profitability, and our
business, financial condition, results of operations and prospects may be
adversely affected.


23


Our
planned expansion into many of China’s major urban centers may be costly,
time-consuming and difficult. If we do not successfully expand into such
markets, our results of operations and prospects would be materially and
adversely affected.





Our
future success significantly depends upon our ability to successfully expand
into many of China’s major urban centers. To further promote our brand and
generate demand for our products in such markets, we intend to significantly increase spending on
marketing and promotion. We may be unable to attract a sufficient number of
distributors with the experience and ability to penetrate these markets, and our
selected distributors may not be suitable for selling our products in these
markets for other reasons. We may also fail to attract new customers in such
markets who may have less familiarity with our brand and products. Furthermore,
we may fail to anticipate and address competitive conditions in these new
markets that are different from those in our existing primary markets. These
competitive conditions may make it difficult or impossible for us to effectively
operate in these markets. If our expansion efforts in existing and new markets
are unsuccessful, our results of operations and prospects would be materially
and adversely affected.


Part
of our strategy involves the development of new products and new business
segments, and if we fail to timely develop new products or we incorrectly gauge
the potential market for new products, our financial results would be adversely affected.





We plan
to utilize our in-house research and development capabilities to develop new
products that could become new sources of revenue for us in the future and help
us to diversify our revenue base. We have also entered into new business
segments such as the prepared baby food and nutritional snacks segment, and the
nutritional ingredients and supplements segment. Our future research and
development efforts will focus on expanding
our product offerings beyond dairy-based nutritional products and into new
products segments such as nutritional snacks and, prepared baby food. If we fail
to timely develop these and other new products or if we incorrectlygauge
market demand for such new products, we may
not be able to grow our sales revenue at expected growth rates and may incur
expenses and capital expenditure costs relating to the development of new
products that are not offset by the sales they generate.





We
operate in a competitive environment, which may lead to declining revenue growth
or other circumstances that would negatively affect our results of
operations.




The
market for pediatric nutritional products is competitive, and we believe that
competition in this market will continue to intensify. We believe that the
principal competitive factors in our markets are brand recognition, perceived
quality, advertising, formulation, packaging, and price. We face significant
competition from a number of competitors, including multinational companies,
such as Abbot Laboratories’ Ross Products Division, Mead Johnson, Nestle, Numico
and Wyeth, and domestic companies, such as Beingmate, Yashili, Feihe and Yili.
See “Item 1. Business—Competition”. Many of our competitors have longer
operating histories, greater name recognition, significantly larger market
shares, access to larger customer bases and significantly greater economies of
scale in financial, sales and marketing, production, distribution, technical and
other resources than we do. Some of these competitors have used, and we expect
will continue to use, more aggressive pricing strategies, greater amounts of
incentives and subsidies for distributors, retailers and customers and more
advanced processes and technologies. Furthermore, consolidation among industry
participants in China may potentially result in stronger domestic competitors
that are better able to compete as end-to-end suppliers as well as competitors
who are more specialized in particular areas and geographic markets. This could
have a material adverse effect on our business, financial condition, results of
operations and prospects. In addition, as a result of the recent melamine
contamination incident, customers have lost confidence in infant formula
produced by domestic companies for the time being, which gives multinational
infant formula companies an advantage over us.




In order
to compete successfully in our markets, we will need to restore customer
confidence in our brand and products, develop new products and enhance our
product offerings while maintaining price competitiveness. Even if we
successfully restore customer confidence, if and to the extent we fail to
develop new products that differentiate us from our competitors, we may need to
compete largely on price, which may cause our operating margins to decline. Our
inability to compete successfully against competitors and pricing pressures
could result in lost customers, loss of market share and reduced operating
margins, which would adversely impact our results of
operations.


24


If
we grant employee stock options and other stock-based compensation in the
future, we will be required to recognize
stock-based compensation expense, which would adversely affect our results of
operations.





As of the
date of this Form 10-K, we have not granted any stock-based compensation and thus
have not been required to reflect any such expenses in our results of
operations. We adopted a stock-based compensation plan in June 2008 and intend to
grantcertain employees and directors
stock-based compensation, which we believe will be important to attract
and retain key personnel. We will be required to account for compensation costs
for all stock options, including stock options granted to our directors and
employees, using the fair value method and recognize the expense in our
consolidated statement of operations in accordance with Statement of Financial
Accounting Standard No. 123-R, "Share-Based Payment" which
may have a material adverse effect on our results of operations.




We
have previously experienced certain material weaknesses and deficiencies with
our internal control over financial reporting. Among other things, our previous
material weaknesses and deficiencies have made it necessary for us to
restate certain of our financial statements in the recent past. Any further
failure to accurately report our financial results, including any resulting
restatement, could result in harm to our business, loss of investor confidence
in our financial reporting and a lower trading price of our common stock, or
possibly lead to the delisting of our common stock by the Nasdaq Global Select
Market.





Due in
part to material weaknesses and deficiencies in our internal control over
financial reporting, we were required to restate our financial statements for
the fiscal years ended March 31, 2006 and 2007, for the year ended December 31,
2004, for the transition period for the three months ended March 31, 2005 and
for the fiscal quarters ended June 30, 2006, September 30, 2006 and December 31,
2006. In connection with the review of our financial statements for the
fiscal year ended March 31, 2008, our independent registered public accounting
firm and our management identified certain material weaknesses and significant
deficiencies. A material weakness is defined by the Public Company Accounting
Oversight Board, or PCAOB, as a deficiency, or a combination of deficiencies, in
internal control over financial reporting, such that there is a reasonable
possibility that a material misstatement of our annual or interim financial
statements will not be prevented or detected on a timely basis. A significant
deficiency is defined by the PCAOB as a deficiency, or combination of
deficiencies, in internal control over financial reporting that is less severe
than a material weakness, yet important enough to merit attention by those
responsible for oversight of our financial reporting.





Due to
the material weaknesses and significant deficiencies in our internal control
over financial reporting—as evidenced by the significant number and magnitude of
out-of-period adjustments identified during the year-end and period-end closing
process and the resulting restatements—we previously concluded in our prior SEC
filings that our disclosure controls and procedures and our internal
control over financial reporting were not effective at the reasonable assurance
level, and, prior to the
restatement of certain prior periods, that investors should not rely on
our prior financial statements. We have taken steps to remediate our
material weaknesses and deficiencies in our internal control over financial
reporting, and we believe that the material weakness identified as of March 31,
2008 has been fully remediated, see “Part II. Item 9A. Controls and Procedures.”
As a result, our management has concluded that our internal control over
financial reporting was effective as of March 31, 2009, and our independent
registered public accounting firm has issued an attestation report, which has
concluded that our internal control over financial reporting is effective in all
material respects. However, there remains one significant deficiency and
four deficiencies in our internal control over financial reporting which we are
in the process of remediating but which have not been fully remediated, see
“Part II, Item 9A. Controls and Procedures.” There can be no assurance that
these deficiencies will not contribute to, or cause, possible material
weaknesses in the future or, that we will be able to implement effectively new
or improved controls or that our management or our independent registered public
accounting firm will determine that our disclosure controls and procedures or
our internal control over financial reporting will be effective in the future.
Moreover, a lack of effective internal control over financial reporting in the
future could cause us to fail to provide accurate financial statements or fail
to meet our reporting obligations, either of which could cause investors to lose
confidence in our reported financial information, and have a negative effect on
the trading price of our common stock. Our failure to meeting our reporting
obligations in a timely fashion may also lead to the delisting of our common
stock by the Nasdaq Global Select Market.


25


Our
success depends to a substantial degree upon our senior management and key
personnel, and our business operations may be significantly and negatively
affected if we fail to attract and retain highly competent senior management and
key personnel.





Our
future success depends substantially on the continued services of our key
personnel including, particularly, Liang Zhang, our chairman and chief executive
officer. We rely substantially on their experience in the dairy and nutritional
products industry, similar business operations and sales and marketing and on
their relationships and ability to work with our suppliers and distributors and
other customers. If we lose the services of one or more of these key personnel,
we may not be able to replace them readily, if at all, with suitable or
qualified candidates, and may incur additional expenses to recruit and retain
new officers and key personnel, which could severely disrupt our business and
growth. We do not maintain key-man life insurance for any of our key
personnel.





In
addition, if any of these key personnel joins a competitor or forms a competing
company, we may lose some of our distributors. We have entered into employment
agreements with each of these key personnel, which contain confidentiality and
non-competition provisions. Moreover, if any disputes were to arise between
these key personnel and us, it is not clear, in light of uncertainties
associated with the PRC legal system, what the court decisions would be and the
extent to which these court decisions could be enforced in China, where most of
these key personnel reside and hold some of their assets. See “Item 1A. Risks
Associated with Doing Business in China—Uncertainties with respect to the PRC
legal system could limit the legal protections available to you and us.”
Furthermore, as we expect to continue to expand our operations and develop new
products, we will need to continue attracting and retaining experienced
management and key research and development personnel.





Competition
for experienced management and research and development personnel in China is
intense, and the availability of experienced, suitable and qualified candidates
is limited. Competition for these individuals may require us to pay higher
compensation and other benefits in order to attract and retain them, which could
have a material adverse effect on our financial condition and results of
operations. We may also be unable to attract or retain the personnel necessary
to achieve our business objectives, and any failure in this regard could
severely disrupt our business and growth.





Liang
Zhang’s association with other businesses could impede his ability to devote
sufficient time to our business and could present potential conflicts of
interest.





Liang
Zhang, our founder, chairman, chief executive officer and principal beneficial
stockholder, controls several other companies, including Honnete, a supplier of
whey protein powder in China. Liang Zhang devotes most of his time to our
affairs and the remainder of his time to the affairs of the other companies.
Liang Zhang’s decision-making responsibilities for these other companies are
similar in the areas of public relations, risk management and strategic
planning. As a result, conflicts of interest may arise from time to time and we
cannot assure you that they will be resolved in our favor. Additionally, even
though Liang Zhang devotes most of his time to our affairs and is further
accountable to us and our stockholders as a fiduciary, which requires that he
exercise good faith and due care in handling our affairs, we cannot assure you
this will always be the case and his existing responsibilities to other
businesses and entities may limit the amount of time he can spend on our
affairs.





Our
chairman and chief executive officer, Liang Zhang, beneficially owns a
substantial amount of our common stock and will have significant influence over
our corporate affairs.





Our
founder, chairman and chief executive officer, Liang Zhang, beneficially owns
approximately 66.67% of our outstanding common stock through a company owned by
his wife as of March 31, 2009. Accordingly, Liang Zhang will be able to direct
the outcome of matters requiring approval of the stockholders, including the
election of our directors and other corporate actions such as:




•
            our
      merger with or into another
company;




•
            a
      sale of substantially all of our assets;
and




•
            amendments
      to our certificate of
incorporation.




The
decisions of Liang Zhang may conflict with our interests or the interests of our
other stockholders.


26


We
may not succeed in identifying suitable acquisition targets, which could
adversely affect our ability to expand our operations and service offerings and
enhance our competitiveness.





We have
pursued and may in the future pursue strategic acquisition opportunities to
increase our scale and geographic presence and expand the number of our product
offerings. However, we may not be able to identify suitable acquisition or
investment candidates, or, even if we do identify suitable candidates, we may
not be able to complete those transactions on terms commercially favorable to us
or at all, which could adversely affect our competitiveness and our growth
prospects.





If we
acquire other companies in the future, we could face the following
risks:




•
            difficulty
      in assimilating the target company’s personnel, operations, products,
      services and technology into our
operations;




•
            the
      presence of unforeseen or unrecorded
  liabilities;




•
            entry
      into unfamiliar markets;




•
            inability
      to generate sufficient revenues to offset acquisition costs;
      and




•
            tax
      and accounting issues.





Many
recently joined employees may decide not to work with us or to leave shortly
after joining our company. These difficulties could disrupt our ongoing
business, distract our management and current employees and increase our
expenses, including write-offs or impairment charges. Acquired companies also
may not perform to our expectations for various reasons, including the loss of
key personnel, key distributors, key suppliers or key customers, and our
strategic focus may change. As a result, we may not realize the benefits we
anticipated. If we fail to integrate acquired businesses or realize the expected
benefits, we may lose the return on the investment in these acquisitions or
incur additional transaction costs and our operations may be negatively impacted
as a result. Further, any acquisition or investment that we attempt, whether or
not completed, or any media reports or rumors with respect to any such
transactions, may adversely affect our competitiveness, our growth prospects,
and the value of our common stock.





The
recent disruptions in the overall economy and the financial markets may
adversely impact our business and results of operations and may limit our access
to additional financing.




As widely
reported, financial markets in the United States, Europe and Asia have been
experiencing extreme disruptions in recent months, including, among other
things, extreme volatility in security prices, the failure and near failure of a
number of large financial services companies, severely diminished liquidity and
credit availability, rating downgrades of certain investments and declining
valuations of others.




The
infant formula industry can be affected by macro economic factors, including
changes in national, regional, and local economic conditions, employment levels
and consumer spending patterns.  Though the recent disruptions in the
overall economy and financial markets is less severe in China than in the U.S.,
it could reduce consumer confidence in the economy and negatively affect
consumers’ spending, which could be harmful to our financial position and
results of operations.




In
addition, if the capital and credit markets continue to experience volatility
and the availability of funds remains limited, we will incur increased costs
associated with equity and/or debt financing. It is possible that our ability to
access the capital and credit markets may be limited by these or other factors
at a time when we would like, or need, to do so, which could have an impact on
our ability to refinance maturing debt and/or react to changing economic and
business conditions.


27


As
a result of losses associated with the recent melamine contamination incident in
China, we may not be able to meet certain financial covenants under our credit
facility and may incur additional expenses in connection with the change of loan
arrangements.




As a
result of the recent melamine contamination incident, we have incurred
substantial losses for the quarters ended September 30, 2008, December 31, 2008
and March 31, 2009 from product recall and inventory write-off. Though we expect
this to be a short-term financial challenge for us, we have not been able to
meet the financial covenants set forth in our credit facility for the quarters
ended September 30, 2008,  December 31, 2008 and March 31, 2009, and
possibly continue to experience difficulties meeting the financial covenants for
the next several quarters. We are requesting the lenders to grant us a waiver of
financial covenants and amend loan agreements with us. There can be no assurance
that we will be able to obtain such waiver on terms and conditions acceptable to
us. We expect that in consideration for the waiver, we will be subject to
increased interest rates and additional fees as a result of downgrading of our
credit rating by the lenders due to the melamine contamination incident as well
as the current market disruption. If we are unable to obtain the waiver, we will
be in default and may be required to prepay the outstanding loans as a result of
the default. We may not be able to refinance our debt on terms acceptable to us,
or at all, and there can be no assurance that additional lines-of-credit or
financing instruments will be available in amounts or on terms acceptable to us,
if at all, under the current market condition.




Our
business is capital intensive and our growth strategy may require additional
capital that may not be available on favorable terms or at all.




We have,
in the past, obtained loans and sold our common stock to raise additional
capital. Our business requires significant capital and although we believe that
our current cash, and cash flow from operations will be sufficient to meet our
present and reasonably anticipated cash needs, we may, in the future, require
additional cash resources due to changed business conditions, implementation of
our strategy to expand our production capacity or other investments or
acquisitions we may decide to pursue. If our own financial resources are
insufficient to satisfy our capital requirements, we may seek to sell additional
equity or debt securities or obtain additional credit facilities. For example,
the recent melamine contamination incident has significantly impacted our
liquidity due to our product recall and required us to obtain additional funding
through short-term loans for working capital purposes after the incident. In
addition to these short-term loans, we may need to obtain additional private or
public financing including debt or equity financing and there can be no
assurance that such financing will be available as needed or, if available, on
terms favorable to us. Due to the current stock market conditions, we
have terminated our proposed public offering of common stock in November
2008. Any additional equity financing may be dilutive to stockholders and such
additional equity securities may have rights, preferences or privileges that are
senior to those of our existing common stock. The incurrence of indebtedness
would result in increased debt service obligations and could require us to agree
to operating and financial covenants that would restrict our operations. If we
are unable to generate sufficient cash flow from operating activities or obtain
funds for required payments of interest and principal on such additional
indebtedness, or if we fail to comply with our debt covenants, we will be in
default. In addition, changes in our debt rating due to the recent melamine
contamination incident could have a material adverse effect on our interest
costs and financing sources. Financing may not be available in amounts or on
terms acceptable to us, if at all. Any failure by us to raise additional funds
on terms favorable to us, or at all, could limit our ability to expand our
business operations and could harm our overall business prospects.





We
have recently incurred operating losses and our future profitability is
uncertain; this may have a harmful effect on our business and the value of our
common stock.




As a
result of the recent melamine contamination incident, we have incurred
substantial losses for the quarters ended September 30, 2008, December 31, 2008
and March 31, 2009 from product recall and inventory write-down and write-off.
Though we expect this to be a short-term financial challenge for us, we believe
the contamination incident has negatively impacted our brand and reputation in
China and may impact our future revenues. We have incurred expenses relating to
the melamine contamination incident and we may incur more expenses in the future
relating to expanding our production capacity or other investments or
acquisitions we may decide to pursue. If our revenue does not increase or if we
fail to maintain our expenses at an amount less than our projected revenues, we
will not be able to achieve or sustain operating profitability on a consistent
basis. Given our planned operating and capital expenditures as well as our
overall business plan, for the foreseeable future we expect our results of
operations to fluctuate, and during this period we may continue to incur losses.
Our lack of profitability may have an adverse effect on the market value of our
common stock and on our cash flow and liquidity.


28


We
may face liquidity challenges to meet our debt obligations and may require
additional funding in the future.




We
had positive cash flow from operations of $38.2 million for the fiscal year
ended March 31, 2008, but we had negative cash flow from operations of
$109.5 million for the fiscal year ended March 31, 2009. At March 31,
2009, we had short-term debt of $224.6 million, consisting of short-term loans
from banks in the amount of $182.6 million, an additional $7.5 million in
short-terms loans from related parties, and $34.5 million under the New ABN Loan
which has been reclassified as a current liability since we did not meet our
financial covenants under the loan as of March 31, 2009. The majority of our
short-term debt will become due by December 31, 2009. Our ability to meet our
debt obligations will depend on our future performance, which will be affected
by financial, business, domestic and foreign economic conditions and other
factors, many of which we are unable to control. We believe the contamination
incident has negatively impacted our brand and reputation in China and may
impact our future revenues. As a result, we cannot be assured that our revenues
will provide cash flow in excess of our cash needs, and we therefore may have
negative cash flow in the future. If our cash flow is not sufficient to service
our debt, we may be required to obtain additional financing in the future, and
such additional financing may not be available at times, in amounts or on terms
acceptable to us or at all, which would have a material adverse effect on our
business.




The
report of our Independent Registered Public Accounting Firm contains a reference
raising substantial doubt about our ability to continue as a “going
concern.”
  Because
of our limited capital resources and our non-compliance with certain covenants
under our New ABN loan agreement, coupled with our significant operating losses
and negative cash flows from operations for the fiscal year ended March 31,
2009, our independent registered public accounting firm has included a reference
in its report on our financial statements for the fiscal year ended March 31,
2009 with a statement raising substantial doubt regarding our ability to
continue as a “going concern.”  As of March 31, 2009, we had a working
capital deficit of approximately $80.4 million.  While we are
attempting to renegotiate the terms and covenants of our New ABN loan agreement
and are currently in the process of evaluating funding alternatives including
seeking refinancing of certain of our short-term loans from PRC banks, we may
continue to have a deficit in our working capital.
 
 Substantial
doubt about our ability to continue as a going concern could affect our
relationships with suppliers or customers.  In accordance with generally
accepted accounting principles in the U.S., Synutra’s balance sheet generally
states the book value of Synutra’s assets, which does not necessarily represent
the value that could be realized from the assets if Synutra could not continue
as a going concern.




We
also import milk powder and any disruption in this source of milk powder could
materially and adversely affect our business and results of
operations.




Since the
melamine contamination incident, we have been using imported milk powder from
suppliers in Europe and New Zealand for our major product series, such as Super,
U-Smart, and Helanruniu, or Holsteina. While these arrangements help us to
regain customer confidence and manage operating costs, they also reduce our
direct control over a portion of our production. As our overseas suppliers are
not legally obligated to supply us with milk powder, we cannot assure you that
they will always meet our demand. They may encounter capacity constraints or may
be unable or unwilling to provide us milk powder in required quantities or at
acceptable costs. Our inability to find or develop alternate suppliers, if
required, could result in delays or reductions in production and product
shipments. Moreover, these overseas suppliers may delay milk powder shipments or
supply us with inferior quality milk powder that may adversely impact the timely
delivery or the quality of our products. For a more detailed description of
risks associated with product quality, see “Risk Factors — We may
experience problems with product quality or product performance, or the
perception of such problems, which could adversely affect our reputation or
result in a decrease in customers and revenue, unexpected expenses and loss of
market share.”





We
have limited insurance coverage and do not carry any business interruption
insurance, third-party liability insurance for our production facilities or
insurance that covers the risk of loss of our products in shipment.




Operation
of our facilities involves many risks, including equipment failures, natural
disasters, industrial accidents, power outages, labor disturbances and other
business interruptions. Furthermore, if any of our products are faulty or
contaminated, then we may become subject to product liability claims or we may
have to engage in a product recall. For details about our recent recall of
contaminated products in connection with the melamine contamination incident,
please see “Item 7. Management’s Discussion and Analysis of Financial Condition
and Results of Operations — Overview.”




We do not
carry any business interruption insurance, product recall or third-party
liability insurance for our production facilities or with respect to our
products to cover claims pertaining to personal injury or property or
environmental damage arising from defects in our products, product recalls,
accidents on our property or damage relating to our operations. Therefore, our
existing insurance coverage may not be sufficient to cover all risks associated
with our business. As a result, we may be required to pay for financial and
other losses, damages and liabilities, including those caused by natural
disasters and other events beyond our control, out of our own funds, which could
have a material adverse effect on our business, financial condition and results
of operations. For examples, all of the costs we have incurred to date and may
incur in the future that are related to our recent product recall in connection
with the melamine contamination incident may not be covered by our existing
insurance policies.


29


Failure
to adequately protect our intellectual property rights may undermine our
competitive position, and litigation to protect our intellectual property rights
may be costly.





We rely
primarily on trade secrets and other contractual restrictions to protect our
intellectual property. We have not registered or applied for protections in
China for most of our intellectual property or proprietary technologies relating
to the formulations of powdered infant formula that we produce. In order to
protect our proprietary technology and processes, we also rely in part on
nondisclosure agreements with our employees, licensing partners, third-party
producers, consultants, agents and other organizations to which we disclose our
proprietary information. The actions we have taken to protect our intellectual
property rights may not be adequate to provide us with meaningful protection or
commercial advantage. As a result, third parties may use the intellectual
property or proprietary technologies that we have developed and compete with us,
which could have a material adverse effect on our business, financial condition
and operating results.





PRC
intellectual property-related laws and their implementation are still under
development. Accordingly, intellectual property rights and confidentiality
protections in China may not be as effective as in the United States or many
other countries. In addition, policing unauthorized use of proprietary
technology can be difficult and expensive. Litigation may be necessary to
enforce our intellectual property rights and the outcome of any such litigation
may not be in our favor. Given the relative unpredictability of China’s legal
system and potential difficulties enforcing a court judgment in China, there is
no guarantee that we would be able to halt the unauthorized use of our
intellectual property through litigation in a timely manner or at all.
Furthermore, any such litigation may be costly and may divert management
attention away from our business and cause us to expend significant resources.
An adverse determination in any such litigation will impair our intellectual
property rights and may harm our business, prospects and reputation. In
addition, we have no insurance coverage against litigation costs and would have
to bear all costs arising from such litigation to the extent we are unable to
recover them from other parties. The occurrence of any of the foregoing could
have a material adverse impact on our business, financial condition and results
of operations.





We
may be exposed to infringement or misappropriation claims by third parties,
which, if determined adversely against us, could disrupt our business and
subject us to significant liability to third parties.





Our
success largely depends on our ability to use and develop our know-how and
product formulations without infringing upon the intellectual property rights of
third parties. We may be subject to litigation involving claims of infringement
or violation of other intellectual property rights of third parties. The holders
of patents and other intellectual property rights potentially relevant to our
product offerings may be unknown to us or may otherwise make it difficult for us
to acquire a license on commercially acceptable terms.


There may
also be technologies licensed to and relied on by us that are subject to
infringement or other corresponding allegations or claims by others which could
damage our ability to rely on such technologies. In addition, although we
endeavor to ensure that companies that work with us possess appropriate
intellectual property rights or licenses, we cannot fully avoid the risks of
intellectual property rights infringement created by suppliers of raw materials
used in our products, our third-party producers, or by companies with which we
work in cooperative research and development activities. Our current or
potential competitors, many of which have substantial resources and have made
substantial investments in competing technologies, may have obtained or may
obtain patents that will prevent, limit or interfere with our ability to make,
use or sell our products in China or other countries. The defense of
intellectual property claims, including patent infringement suits, and related
legal and administrative proceedings can be both costly and time-consuming, and
may significantly divert the efforts and resources of our technical and
management personnel. Furthermore, an adverse determination in any such
litigation or proceeding to which we may become a party could cause us
to:





•
            pay
      damage awards;





•
            seek
      licenses from third parties, which may not be available on reasonable
      terms or at all;





•
            pay
      additional ongoing royalties, which could decrease our profit
      margins;





•
            redesign
      our products, which may be costly, if possible at all;
  or





•
                be
      restricted
      by injunctions.





These
factors could effectively prevent us from pursuing some or all of our business
and result in our customers or potential customers deferring, canceling or
limiting their purchase or use of our products, which could have a material
adverse effect on our financial condition and results of
operations.


30


Our
products may not achieve market acceptance.





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





RISKS
ASSOCIATED WITH DOING BUSINESS IN CHINA





Adverse
changes in political and economic policies of the PRC government could impede
the overall economic growth of China, which could reduce the demand for our
products and damage our business.





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





•
            the
      higher level of government involvement and
  regulation;





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





•
            the
      rapid growth rate;





•
            the
      higher rate of inflation;





•
            the
      higher level of control over foreign exchange;
  and





•
            government
      control over the allocation of many
resources.





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





Although
the PRC government has in recent years implemented measures emphasizing the
utilization of market forces for economic reform, the PRC government continues
to exercise significant control over economic growth in China through the
allocation of resources, controlling payment of foreign currency-denominated
obligations, setting monetary policy and imposing policies that impact
particular industries or companies in different ways.





Any
adverse change in the economic conditions or government policies in China could
have a material adverse effect on the overall economic growth and the level of
consumer spending in China, which in turn could lead to a reduction in demand
for our products and consequently have a material adverse effect on our business
and prospects.


31


PRC
food hygiene and safety laws may become more onerous, which may adversely affect
our operations and financial performance and lead to an increase in our costs
which we may be unable to pass on to our customers.




Operators
within the PRC dairy industry and infant formula sector are subject to
compliance with PRC food hygiene and safety laws and regulations. Such laws and
regulations require all enterprises engaged in the production of dairy and
infant formula products to obtain a hygiene license. They also set out hygiene
standards with respect to food and food additives, packaging and containers, and
labeling on packaging as well as hygiene requirements for food production and
sites, facilities and equipment used for the transportation and the sale of
food. Failure to comply with PRC food hygiene and safety laws may result in
fines, suspension of operations, loss of hygiene license and, in certain cases,
criminal proceedings against an enterprise and its management. Although we are
in compliance with current PRC food hygiene and safety laws and regulations, in
the event that such laws and regulations become more stringent or widen in
scope, we may fail to comply with such laws, or if we comply, our production and
distribution costs may increase, and we may be unable to pass these additional
costs on to our customers. For example, in response to the recent melamine
contamination incident, the PRC State Council abolished the regulations on
inspection exemptions for food on September 18, 2008 so that our products were
to be subject to batch by batch inspection going forward. In addition, the PRC
State Council promulgated with immediate effect the Regulation on Supervision
and Administration of Quality and Safety of Dairy Products on October 9, 2008
which, among other things, imposes more stringent requirements for inspection,
production, packaging, labeling and product recall on dairy product producers.
All these new measures are likely to increase our costs which we may be unable
to pass on to our customers.




Changes
in the regulatory environment for dairy and infant nutrition products in China
could negatively impact our business.




The dairy
and infant nutrition product industries in China are regulated and regulatory
changes may affect both our customers and us. Any changes in regulations that
impose additional requirements for construction of new production lines and
facilities or expansion of existing facilities will require us to secure
additional government approvals for our current production expansion projects.
Similarly, additional safety and quality control regulations could impact our
costs of production. For example, on March 18, 2008, the PRC National
Development and Reform Commission, or NDRC, promulgated the Access Conditions
for Dairy Products Processing Industry, or the Access Conditions, which became
effective on April 1, 2008. The Access Conditions impose new conditions
that an entity must satisfy in order to engage, or continue to engage, in the
dairy products processing business. For a more detailed description of these
requirements, see “Item 1. Business—Regulation”. Although we believe our
existing entities and facilities meet the Access Condition requirements, it is
possible that our future expansion plans or the establishment of new entities
may fail to meet one or more of the requirements under the Access Conditions in
the future. In addition, in response to the recent melamine contamination
incident, the relevant PRC government authorities may impose more stringent
conditions on entering or remaining in the dairy products industry. Failure to
comply with these or any other changes in regulations affecting our business
could have a material adverse effect on our business and our results of
operations. In addition, the indirect impact of any such changes could adversely
affect our business even if the specific regulations do not directly apply to
our products or us.





Uncertainties
with respect to the PRC legal system could limit the legal protections available
to you and us.





We
conduct substantially all of our business through our operating subsidiaries in
China. Our operating subsidiaries are generally subject to laws and regulations
applicable to foreign investments in China and, in particular, laws applicable
to foreign-invested enterprises. The PRC legal system is based on written
statutes, and prior court decisions may be cited for reference, but have limited
precedential value. Over the past several decades, a series of new PRC laws and
regulations have significantly enhanced the protections afforded to various
forms of foreign investments in China. However, since the PRC legal system
continues to rapidly evolve, the interpretations of many laws, regulations and
rules are not always uniform and enforcement of these laws, regulations and
rules involve uncertainties, which may limit legal protections available to you
and us. In addition, any litigation in China may be protracted and result in
substantial costs and diversion of resources and management
attention.


32


If
we are found to have failed to comply with applicable laws, we may incur
additional expenditures or be subject to significant fines and
penalties.





Our
operations are subject to PRC laws and regulations applicable to us. However,
many PRC laws and regulations are uncertain in their scope, and the
implementation of such laws and regulations in different localities could have
significant differences. In certain instances, local implementation rules and/or
the actual implementation are not necessarily consistent with the regulations at
the national level. Although we strive to comply with all the applicable PRC
laws and regulations, we cannot assure you that the relevant PRC government
authorities will not later determine that we have not been in compliance with
certain laws or regulations. For example, there is a PRC regulation requiring
all employees to make contributions to a housing provident fund based on their
salary level and their employers to match such contributions. However, many
employees are reluctant to make such contributions as they do not perceive such
contribution will benefit them, and this regulation has generally not been
rigorously enforced. We have allowed our employees to make contributions on a
voluntary basis and then match their contributions. However, we cannot assure
you that in the future the PRC government will not start to enforce this
regulation more rigorously. Although there are no material penalties stipulated
in this regulation, if we are found to not be in compliance, we may be required
to bring current any past deficiencies, which could adversely affect our
financial condition and results of operations.





In
addition, our facilities and products are subject to many laws and regulations
administered by the PRC State Administration for Industry and Commerce, the PRC
State Administration of Taxation, the PRC Ministry of Health and Hygiene
Permitting Office, the PRC General Administration of Quality Supervision,
Inspection and Quarantine, and the PRC State Food and Drug Administration Bureau
relating to the processing, packaging, storage, distribution, advertising,
labeling, quality, and safety of food products. Our failure to comply with these
and other applicable laws and regulations in China could subject us to
administrative penalties and injunctive relief, as well as civil remedies,
including fines, injunctions and recalls of our products. It is possible that
changes to such laws, more rigorous enforcement of such laws or with respect to
our current or past practices, could have a material adverse effect on our
business, operating results and financial condition. Further, additional
environmental, health or safety issues relating to matters that are not
currently known to management may result in unanticipated liabilities and
expenditures.





The
PRC government exerts substantial influence over the manner in which we conduct
our business activities.





The PRC
government has exercised and continues to exercise substantial control over
virtually every sector of the PRC economy through regulation and state
ownership. Our ability to operate in China may be harmed by changes in PRC laws
and regulations, including those relating to how we conduct our business,
taxation, import and export tariffs, environmental regulations, land use rights,
property and other matters. We believe that our operations in China are in
material compliance with all applicable legal and regulatory requirements.
However, the central or local governments of the jurisdictions in which we
operate may impose new, stricter regulations or interpretations of existing
regulations that would require additional expenditures and efforts on our part
to ensure our compliance with such regulations or interpretations.





Accordingly,
government actions in the future, including any decision not to continue to
support recent economic reforms and to return to a more centrally planned
economy or regional or local variations in the implementation of economic
policies, could have a significant effect on economic conditions in China or
particular regions thereof and could require us to divest ourselves of any
interest we then hold in PRC properties or joint ventures.





Restrictions
on currency exchange may limit our ability to receive and use our sales revenue
effectively.





Most of
our sales revenue and expenses are denominated in Renminbi. Under PRC law, the
Renminbi is currently convertible under the “current account,” which includes
dividends and trade and service-related foreign exchange transactions, but not
under the “capital account,” which includes foreign direct investment and loans.
Currently, our PRC operating subsidiaries may purchase foreign currencies for
settlement of current account transactions, including payments of dividends to
us, without the approval of the PRC State Administration of Foreign Exchange, or
SAFE, by complying with certain procedural requirements. However, the relevant
PRC government authorities may limit or eliminate our ability to purchase
foreign currencies in the future.





Foreign
exchange transactions by PRC operating subsidiaries under the capital account
continue to be subject to significant foreign exchange controls and require the
approval of or registration with PRC government authorities, including SAFE. In
particular, if our PRC operating subsidiaries borrow foreign currency through
loans from us or other foreign lenders, these loans must be registered with
SAFE, and if we finance the subsidiaries by means of additional capital
contributions, these capital contributions must be approved by certain
government authorities, including the PRC Ministry of Commerce, or their
respective local branches. These limitations could affect our PRC operating
subsidiaries’ ability to obtain foreign exchange through debt or equity
financing.


33


Recent
PRC regulations relating to investment activities by, and holdings in entities
outside of China of, PRC residents and citizens, may subject our PRC resident
and citizen stockholders to personal liability and limit our ability to acquire
PRC companies or to inject capital into our PRC subsidiaries, limit our PRC
subsidiaries’ ability to distribute profits to us or otherwise materially and
adversely affect us.





In
October 2005, SAFE issued a public notice, the Notice on Relevant Issues in the
Foreign Exchange Control over Financing and Return Investment Through Special
Purpose Companies by Residents Inside China, or the SAFE notice, which requires
PRC residents and citizens, including both legal persons and natural persons, to
register with the competent local SAFE branch before establishing or controlling
any company outside of China, referred to as an “offshore special purpose
company,” for the purpose of overseas equity financing involving onshore assets
or equity interests held by them. In addition, any PRC resident that is the
stockholder of an offshore special purpose company is required to amend its SAFE
registration with the local SAFE branch with respect to that offshore special
purpose company in connection with any increase or decrease of capital, transfer
of shares, merger, division, equity investment or creation of any security
interest over any assets located in China. Moreover, if the offshore special
purpose company was established and owned the onshore assets or equity interests
before the implementation date of the SAFE notice, a retroactive SAFE
registration is required to have been completed before March 31, 2006. If any
PRC stockholder of any offshore special purpose company fails to make the
required SAFE registration and amendment, the PRC subsidiaries of that offshore
special purpose company may be prohibited from distributing their profits and
the proceeds from any reduction in capital, share transfer or liquidation to the
offshore special purpose company. Moreover, failure to comply with the SAFE
registration and amendment requirements described above could result in
liability under PRC laws for evasion of applicable foreign exchange
restrictions.





Many of
the terms and provisions in the SAFE notice, and its implementing regulations,
remain unclear and implementation by central SAFE and local SAFE branches of the
SAFE notice have been inconsistent since its adoption. Based on the advice of
our PRC counsel, De Heng Law Offices, and after consultation with relevant SAFE
officials, we believe our PRC resident stockholders were required to complete
their respective SAFE registrations pursuant to the SAFE notice. The local SAFE
branch may not accept their applications for SAFE registration until more
detailed rules or announcements concerning the penalties for those who failed to
make their SAFE registrations are implemented. However, we believe the likely
penalties for failure to complete the SAFE registration will be nominal and
there should be no other legal obstacles for our PRC resident stockholders to
complete or amend their respective SAFE registrations. Moreover, because of
uncertainty over how the SAFE notice will be interpreted and implemented, and
how or whether SAFE will apply it to us, we cannot predict how it will affect
our business operations or future strategies. For example, our present and
prospective PRC subsidiaries’ ability to conduct foreign exchange activities,
such as the remittance of dividends and foreign currency-denominated borrowings,
may be subject to compliance with the SAFE notice by our PRC resident beneficial
holders. In addition, such PRC residents may not always be able to complete the
necessary registration procedures required by the SAFE notice. We also have
little control over either our present or prospective direct or indirect
stockholders or the outcome of such registration procedures. A failure by our
PRC resident beneficial holders or future PRC resident stockholders to comply
with the SAFE notice, if SAFE requires it, could subject us to fines or legal
sanctions, restrict our overseas or cross-border investment activities, limit
our subsidiary’s ability to make distributions or pay dividends or affect our
ownership structure, which could adversely affect our business and
prospects.


34


Fluctuations
in exchange rates could adversely affect our business and the value of our
common stock.





The value
of our common stock will be indirectly affected by the foreign exchange rate
between the U.S. dollar and the Renminbi and between those currencies and other
currencies in which our sales may be denominated. Because substantially all of
our earnings and cash assets are denominated in Renminbi, appreciation or
depreciation in the value of the Renminbi relative to the U.S. dollar would
affect our financial results reported in U.S. dollar terms without giving effect
to any underlying change in our business or results of operations. Fluctuations
in the exchange rate will also affect the relative value of any dividend we
issue that will be exchanged into U.S. dollars and earnings from, and the value
of, any U.S. dollar-denominated investments we make in the future.





Since
July 2005, the Renminbi has no longer been pegged to the U.S. dollar. Although
the People’s Bank of China, or PBOC, regularly intervenes in the foreign
exchange market to prevent significant short-term fluctuations in the exchange
rate, the Renminbi may appreciate or depreciate significantly in value against
the U.S. dollar in the medium to long-term. Moreover, it is possible that in the
future the PRC authorities may lift restrictions on fluctuations in the Renminbi
exchange rate and lessen intervention in the foreign exchange
market.





Very
limited hedging transactions are available in China to reduce our exposure to
exchange rate fluctuations. To date, we have not entered into any hedging
transactions in an effort to reduce our exposure to foreign currency exchange
risk. While we may enter into hedging transactions in the future, the
availability and effectiveness of these transactions may be limited, and we may
not be able to successfully hedge our exposure at all. In addition, our foreign
currency exchange losses may be magnified by PRC exchange control regulations
that restrict our ability to convert Renminbi into foreign
currencies.





Currently,
some of our raw materials and major equipment are imported. In the event that
the U.S. dollar appreciated against the Renminbi, our costs may increase. If we
cannot pass the resulting cost increases on to our customers, our profitability
and operating results will suffer. In addition, to the extent we enter markets
outside China in the future, we may be increasingly subject to the risk of
foreign currency fluctuations.





Restrictions
under PRC law on our PRC subsidiaries’ ability to make dividends and other
distributions could materially and adversely affect our ability to grow, make
investments or acquisitions that could benefit our business, pay dividends to
you, and otherwise fund and conduct our businesses.





Substantially
all of our revenues are earned by our PRC subsidiaries. However, PRC regulations
restrict the ability of our PRC subsidiaries to make dividends and other
payments to their offshore parent company. PRC legal restrictions permit
payments of dividend by our PRC subsidiaries only out of their accumulated
after-tax profits, if any, determined in accordance with PRC accounting
standards and regulations. Each of our PRC subsidiaries is also required under
PRC laws and regulations to allocate at least 10% of our annual after-tax
profits determined in accordance with PRC GAAP to a statutory general reserve
fund until the amounts in such fund reaches 50% of our registered capital.
Allocations to these statutory reserve funds can only be used for specific
purposes and are not transferable to us in the form of loans, advances or cash
dividends. As of March 31, 2009, the amount of our restricted net assets was
$76.9million. Any
limitations on the ability of our PRC subsidiaries to transfer funds to us could
materially and adversely limit our ability to grow, make investments or
acquisitions that could be beneficial to our business, pay dividends and
otherwise fund and conduct our business.


35


Any
future outbreak of severe acute respiratory syndrome or avian influenza in
China, or similar adverse public health developments, may disrupt our business
and operations.





Our
business and operations could be materially and adversely affected by the
outbreak of swine flu, avian influenza, severe acute respiratory syndrome, or
SARS, or other similar adverse public health development. Recently, there have
been reports on the occurrences of swine flu in various countries. Any prolonged
recurrence of an adverse public health development may result in the temporary
closure of businesses in China by the PRC government in order to avoid
congregation in closed spaces to help prevent disease transmission. Such
occurrences would disrupt our business operations and adversely affect our
results of operations. We have not adopted any written preventive measures or
contingency plans to combat any future outbreak of avian influenza, SARS or any
other epidemic.




Under
China’s New EIT Law, we may be classified as a “resident enterprise” of China.
This classification could result in unfavorable tax consequences to us and our
non-PRC shareholders.
  The New
EIT Law provides that enterprises established outside of China whose “de facto
management bodies” are located in China are considered “resident enterprises”
and are generally subject to the uniform 25% enterprise income tax rate on their
worldwide income. In addition, a recent circular issued by the State
Administration of Taxation regarding the standards used to classify certain
Chinese-invested enterprises established outside of China as “resident
enterprises” clarified that dividends and other income paid by such “resident
enterprises” will be considered to be PRC source income, subject to PRC
withholding tax, currently at a rate of 10%, when recognized by non-PRC
shareholders. This recent circular also subjects such “resident enterprises” to
various reporting requirements with the PRC tax authorities. Under the
implementation regulations to the enterprise income tax, a “de facto management
body” is defined as a body that has material and overall management and control
over the manufacturing and business operations, personnel and human resources,
finances and treasury, and acquisition and disposition of properties and other
assets of an enterprise. In addition, the recent circular mentioned above
details that certain Chinese-invested enterprises will be classified as
“resident enterprises” if the following are located or resident in China: senior
management personnel and departments that are responsible for daily production,
operation and management; financial and personnel decision making bodies; key
properties, accounting books, company seal, and minutes of board meetings and
shareholders’ meetings; and half or more of the directors or senior management
having voting rights. If the PRC tax authorities determine that Synutra, Inc. or
Synutra International, Inc a “resident enterprise,” we may be subject to
enterprise income tax at the rate of 25% on our worldwide income and dividends
paid by us to our non-PRC shareholders and, while less clear, capital gains
recognized by them with respect to the sale of our stock, may be subject to a
PRC withholding tax. This will have an impact on our effective tax rate, a
material adverse effect on our net income and results of operations, and may
require us to withhold tax on our non-PRC shareholders. We are actively
monitoring the “resident enterprise” classification rules and are evaluating
appropriate organizational changes to avoid this treatment, to the extent
possible.
 
 If we
were treated as a “resident enterprise” by PRC tax authorities, we would be
subject to tax in both the U.S. and China, and our PRC tax may not be creditable
against our U.S. tax.





The
M&A Rule establishes more complex procedures for some acquisitions of
Chinese companies by foreign investors, which could make it more difficult for
us to pursue growth through acquisitions in China.





On August
8, 2006, six PRC regulatory agencies, including the China Securities Regulatory
Commission, or CSRC, promulgated the Provisions Regarding Mergers and
Acquisitions of Domestic Enterprises by Foreign Investors, or the M&A Rule,
which became effective on September 8, 2006.  The M&A Rule
establishes additional procedures and requirements that could make some
acquisitions of Chinese companies by foreign investors more time-consuming and
complex, including requirements in some instances that the PRC Ministry of
Commerce be notified in advance of any change-of-control transaction and in some
situations, require approval of the PRC Ministry of Commerce when a foreign
investor takes control of a Chinese domestic enterprise. In the future, we may
grow our business in part by acquiring complementary businesses, although we do
not have any plans to do so at this time. The M&A Rule also requires PRC
Ministry of Commerce anti-trust review of any change-of-control transactions
involving certain types of foreign acquirers. Complying with the requirements of
the M&A Rule to complete such transactions could be time-consuming, and any
required approval processes, including obtaining approval from the PRC Ministry
of Commerce, may delay or inhibit our ability to complete such transactions,
which could affect our ability to expand our business or maintain our market
share.


36


You
may have difficulty enforcing judgments against us.





We are a
Delaware holding company and most of our assets are located outside of the
United States. Most of our current operations are conducted in the PRC. In
addition, most of our directors and officers are nationals and residents of
countries other than the United States. A substantial portion of the assets of
these persons is located outside the United States. As a result, it may be
difficult for you to effect service of process within the United States upon
these persons. It may also be difficult for you to enforce in U.S. courts
judgments on the civil liability provisions of the U.S. federal securities laws
against us and our officers and directors, most of whom are not residents in the
United States and the substantial majority of whose assets are located outside
of the United States. In addition, there is uncertainty as to whether the courts
of the PRC would recognize or enforce judgments of U.S. courts. DeHeng Law
Offices, our counsel as to PRC law, has advised us that the recognition and
enforcement of foreign judgments are provided for under the PRC Civil Procedures
Law. Courts in China may recognize and enforce foreign judgments in accordance
with the requirements of the PRC Civil Procedures Law based on treaties between
China and the country where the judgment is made or on reciprocity between
jurisdictions. China does not have any treaties or other arrangements that
provide for the reciprocal recognition and enforcement of foreign judgments with
the United States. In addition, according to the PRC Civil Procedures Law,
courts in the PRC will not enforce a foreign judgment against us or our
directors and officers if they decide that the judgment violates basic
principles of PRC law or national sovereignty, security or public interest. So
it is uncertain whether a PRC court would enforce a judgment rendered by a court
in the United States.





RISKS
RELATED TO THE MARKET FOR OUR STOCK GENERALLY





The
market price of our common stock is volatile, and its value may be depressed at
a time when you want to sell your holdings.




The
market price of our common stock is volatile, and this volatility may continue.
For instance, between July 1, 2008 and March 31, 2009, the price of our
common stock, as reported on Nasdaq on which our common stock has traded, ranged
between $4.60 and $52.24. Though we believe the recent fluctuation resulted
mainly from the melamine contamination incident and the current worldwide market
disruption, numerous factors, many of which are beyond our control, may cause
the market price of our common stock to fluctuate significantly.




In
addition to market and industry factors, the price and trading volume for our
common stock may be highly volatile for specific business reasons. Factors such
as variations in our revenues, earnings and cash flow, announcements of new
investments, cooperation arrangements or acquisitions, and fluctuations in
market prices for our products could cause the market price for our shares to
change substantially.




Securities
class action litigation is often instituted against companies following periods
of volatility in their stock price. This type of litigation could result in
substantial costs to us and divert our management’s attention and
resources.





Moreover,
the trading market for our common stock will be influenced by research or
reports that industry or securities analysts publish about us or our business.
If one or more analysts who cover us downgrade our common stock, the market
price for our common stock would likely decline. If one or more of these
analysts cease coverage of us or fail to regularly publish reports on us, we
could lose visibility in the financial markets, which, in turn, could cause the
market price for our common stock or trading volume to decline.




Furthermore,
securities markets may from time to time experience significant price and volume
fluctuations for reasons unrelated to operating performance of particular
companies. These market fluctuations may adversely affect the price of our
common stock and other interests in our company at a time when you want to sell
your interest in us.


37


Although
publicly traded, the trading market in our common stock has been substantially
less liquid than the average stock quoted on the Nasdaq Global Select Market,
and this low trading volume may adversely affect the price of our common
stock.





Although
our common stock is traded on the Nasdaq Global Select Market, the trading
volume of our common stock has generally been very low. Reported average daily
trading volume in our common stock for the three month period ended June12, 2009 was
approximately 36,700 shares. Limited trading volume will subject our shares
of common stock to greater price volatility and may make it difficult for you to
sell your shares of common stock at a price that is attractive to
you.





Provisions
in our charter documents and under Delaware law could discourage a
change-of-control that our stockholders may consider favorable.





Provisions
in our amended and restated certificate of incorporation and bylaws may have the
effect of delaying or preventing a change of control or changes in our
management. These provisions include the following:





•
            our
      board of directors is divided into three classes, with approximately
      one-third of our directors elected each
year;





•
            our
      board of directors has the right to elect directors to fill a vacancy
      created by the expansion of the board of directors or the resignation,
      death or removal of a director, which prevents stockholders from being
      able to fill vacancies on our board of
  directors;





•
            our
      stockholders must provide timely notice for any stockholder proposals and
      director nominations;





•
            we
      have adopted provisions that eliminate the personal liability of directors
      for monetary damages for actions taken as a director, with certain
      exceptions; and


•
            our
      board of directors may issue, without stockholder approval, shares of
      undesignated preferred stock, which makes it possible for our board of
      directors to issue preferred stock with voting or other rights or
      preferences that could impede the success of any attempt to acquire
      us.





As a
Delaware corporation, we are also subject to certain Delaware anti-takeover
provisions. Under Delaware law, a corporation may not engage in a business
combination with any holder of 15% or more of its capital stock unless the
holder has held the stock for three years or, among other things, the board of
directors has approved the transaction. Our board of directors could rely on
Delaware law to prevent or delay an acquisition of us.





ITEM 1B. UNRESOLVED
STAFF COMMENTS





None.


38





ITEM 2. PROPERTIES





Our
headquarters are located at Beijing with around 6,000 square meters of leased
office space. Synutra Illinois leases an executive office in Rockville,
Maryland, USA. Our processing and packaging facilities are located in various
locations in China, including Beijing, Qingdao, Luobei, Zhangjiakou, Fengzhen,
Zhenglanqi and Junchuan. These facilities encompass approximately 114,000 square
meters of office, plant, and warehouse space. Our packaging and distribution
headquarters located in Qingdao includes over 2,330 square meters of owned
office space. All of our production facilities are built based on the GMP
standard, with equipment imported from Europe and all of our facilities that
have commenced operation have ISO9000 and HACCP series qualifications with some
also being ISO14000 certified.




We
currently own and operate five processing facilities and one packaging facility
for our powder formula products. As of March 31, 2009, we had raw milk
processing capacity of 40,000 tons per year, packaging capacity of 82,000 tons
per year and dry-blending processing capacity of 73,000 tons per
year.





The
following table sets forth certain information with respect to our production,
processing and packaging facilities.





Facility
              
              Province/
                Region
              
              Installed
                Capacity as of
                March 31,
                2009
              
              Description
              
              Property Right(tons per year)Zhangjiakou
      facility
              
              Hebei
              
              
              22,000
              
              Raw
      milk processing
              
              Land Use RightLuobei
      facility
              
              Heilongjiang
              
              
              4,000
              
              Raw
      milk processing
              
              Land Use Right
      *Fengzhen
      facility
              
              Inner
                Mongolia
              
              
              7,000
              
              Raw
      milk processing
              
              Land
      Use RightJunchuan
      facility
              
              Heilongjiang
              
              
              7,000
              
              Raw
      milk processing
              
              Land
      Use RightQingdao
      facility
              
              Shandong
              
              
              73,000
              
              Dry-mixing
      of all of our powdered formula products
              
              Land
      Use Right82,000
              
              Packaging
      of all of our products
              
              Land
      Use RightBeijing
      facility
              
              Beijing
              
              
              400
              
              Production
      of prepared baby foods
              
              Land
      Use RightZhenglanqi
      facility
              
              Inner
                Mongolia
              
              
              80,000
              
              Production
      and processing of nutritional snacks and other non-core
      products
              
              Land
      Use RightQingdao
      Meitek facility
              
              Shandong
              
              
              2,400
              
              Production
      and processing of nutritional ingredients and  supplement and
      other non-core products
              
              Land
      Use Right





*      Expires
in August 2010.




There is
no private land ownership in China. Individuals and companies are permitted to
acquire land use rights for specific purposes and for limited periods. Each
period may be renewed at the expiration of the initial and any subsequent terms.
Granted land use rights are transferable and may be used as security for
borrowings and other obligations.





We
believe that our facilities are adequate for our current operations and any
increase in production in the near term will not require additional
space.


39





ITEM 3. LEGAL
PROCEEDINGS





As of
March 31, 2009, the end of the period covered by this report, the Company
was subject to  various legal proceedings and claims discussed below,
as well as certain other legal proceedings and claims that have not been fully
resolved and that have arisen in the ordinary course of business. Other than as
discussed below, in the opinion of management, the Company does not have a
potential liability related to any current legal proceedings and claims that
would individually or in the aggregate have a material adverse effect on its
financial condition or operating results. However, the results of legal
proceedings cannot be predicted with certainty. The Company intends to contest
each lawsuit vigorously but should the Company fail to prevail in any of these
legal matters or should several of these legal matters be resolved against the
Company in the same reporting period, the operating results of a particular
reporting period could be materially adversely affected, see “Item 1A. Risk
Factors - Risks Related to Our Business - Product liability claims against us
could result in adverse publicity and potentially significant monetary damages.”Management continues to evaluate the lawsuits discussed below and based
on the stage of these proceedings, management is unable to reasonably estimate
the likelihood of any loss or the amount or range of any potential loss that
could result from the litigation. Therefore, no accrual has been established for
any potential loss in connection with these lawsuits.”


On
January 15, 2009 , a lawsuit was filed in the U.S. on behalf of 54 Chinese
families alleged to be affected by melamine contamination, against Synutra
International, Inc. and Synutra Inc. in the U.S. District Court for the District
of Maryland, alleging negligent or intentional infliction of personal injury,
negligent or intentional infliction of emotional distress, battery, breach of
warranty, fraudulent or negligent misrepresentation, seeking compensation for
punitive damages in the amount of US$500 million, together with any compensatory
damages. We filed a motion in April 2009 to dismiss the case on grounds of
"Forum Non-Convenience,” failure to state a claim, and failure to join an
indispensable party, and the opposition filed a Memorandum of Opposition to
Motion to Dismiss on May 20, 2009. We have been given time to respond to the
Opposition, and we will do so on or before June 15 2009 with an additional
filing. After June 15, 2009, the presiding Judge of the Court will decide, with
no time limit, if the Court will take the case or render its dismissal. At this
stage, the management is unable to predict the outcome of such
lawsuit.
  On March
2, 2009 , a lawsuit was filed in China on behalf of 54 Chinese families alleged
to be affected by melamine contamination against our subsidiary, Shengyuan
Nutritional Food Co., Ltd. at Qingdao Intermediate People’s Court, seeking
compensation for damages, including medical and other expenses, emotional harm
and punitive damages, for an aggregate amount over US$1.0 million (RMB6.9
million). Further, on April 14, 2009 , a lawsuit was filed on behalf of 73
families (including the original 54 families) against our subsidiary, Shengyuan
Nutritional Food Co., Ltd. at Shandong Higher People’s Court on April 14, 2009,
seeking compensation for damages of over US$1.7 million (RMB11.3 million). 
To date, we have not been notified by either court of acceptance of any case
against us in China.


40


ITEM 4.  SUBMISSION
OF MATTERS TO A VOTE OF SECURITY HOLDERS





Our
stockholders held an annual meeting at 10:00 A.M. local time on March 12, 2009,
at our office located at 106 Dong Lu Yuan, Tongzhou District, Beijing, China. At
the annual meeting, our stockholders considered and voted to (i) elect two Class
I directors to our Board of Directors, and (ii) ratify the appointment of
Deloitte Touche Tohmatsu CPA Ltd. as our independent registered public
accountant for the fiscal year ended March 31, 2009.





All
directors nominated by the Company were re-elected. The following is a separate
tabulation with respect to the vote for each nominee:





Name
                    
                    Total Votes For
                    
                    Total Votes WithheldLiang
      Zhang
                    
                    
                    40,701,302
                    
                    39,467William
      W. Wu
                    
                    
                    40,703,434
                    
                    37,335





The
appointment of Deloitte Touche Tohmatsu CPA Ltd. as our independent
registered public accountant was ratified. The following is a breakdown of the
vote on such matter:


Total Votes For
                      
                      Total Votes Against
                      
                      
                      Abstain
                      
                      
                      Broker Non-Votes40,740,284
                      
                      
                      485
                      
                      
                      
                      0
                      
                      
                      
                      13,259,944


41





PART
II




ITEM 5.
            MARKET
      FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDERS MATTERS AND ISSUER
      PURCHASES OF EQUITY SECURITIES





PRICE
RANGE OF OUR COMMON STOCK





Our
common stock has been trading on the Nasdaq Global Select Market under the
symbol “SYUT” since November 8, 2007. Our common stock was previously
quoted on the Over-The-Counter Bulletin Board, or OTCBB, under the trading
symbol “SYUT.OB” until April 11, 2007. On April 12, 2007, our common
stock was listed on the Nasdaq Global Market and subsequently approved for
listing on the Nasdaq Global Select Market on November 8,
2007.





The
following table sets forth the high and low bid prices for our common stock on
the OTCBB, prior to April 12, 2007 and our common stock on the Nasdaq
Global or Global Select Market since April 12, 2007 for the periods
indicated. The high and low bid prices reflect inter-dealer prices, without
retail mark-up, mark-down or commission, and may not represent actual
transactions.





The
      OTCBB
                  Bid
                  Price
      per
                  Share(1)
                
                The
      Nasdaq
                  Global/Global
                  Select Market Price
                  per
      Share(2)High
                
                Low
                
                High
                
                LowFiscal
      Year Ending March 31, 2010First
      Quarter (through June 12, 2009)
                
                $
                N/A
                
                
                $
                N/A
                
                
                $
                13.37
                
                
                $
                6.87Fiscal
      Year Ended March 31, 2009Fourth
      Quarter
                
                $
                N/A
                
                
                $
                N/A
                
                
                $
                11.97
                
                
                $
                4.33Third
      Quarter
                
                
                N/A
                
                
                
                N/A
                
                
                
                23.58
                
                
                
                7.30Second
      Quarter
                
                
                N/A
                
                
                
                N/A
                
                
                
                52.24
                
                
                
                11.83First
      Quarter
                
                
                N/A
                
                
                
                N/A
                
                
                
                34.00
                
                
                
                29.30Fiscal
      Year Ended March 31, 2008Fourth
      Quarter
                
                $
                N/A
                
                
                $
                N/A
                
                
                $
                34.01
                
                
                $
                22.41Third
      Quarter
                
                
                N/A
                
                
                
                N/A
                
                
                
                41.31
                
                
                
                24.38Second
      Quarter
                
                
                N/A
                
                
                
                N/A
                
                
                
                31.25
                
                
                
                19.81First
      Quarter
                
                
                12.00
                
                
                
                11.68
                
                
                
                26.50
                
                
                
                11.50





(1)    Through
April 11, 2007.





(2)    From
April 12, 2007 forward.





As of
June 12, 2009, we had approximately 39 registered stockholders of our
common stock on record. This number does not include shares held by brokerage
clearing houses, depositories or otherwise in unregistered form or shares held
by a custodian for the benefit of our employees.


42


DIVIDEND
POLICY





We have
never declared or paid any dividends on shares of our common stock. We intend to
retain any future earnings to fund the development and growth of our business,
and we do not anticipate paying any dividends in the foreseeable
future.





Our loan
agreement with ABN AMRO Bank N.V., Hong Kong Branch, or ABN, restricts our
ability to pay any dividends that, when taken in the aggregate with other
payments by us within a 12-month period, exceed 30.0% of our consolidated net
income for such period. For a description of the ABN loan, see “Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of
Operations—Liquidity and Capital Resources—Outstanding Indebtedness.” We may
enter into agreements in the future that restrict our ability to make
distributions to stockholders.





Substantially
all of our revenues are earned by our PRC subsidiaries. However, PRC regulations
restrict the ability of our PRC subsidiaries to make dividends and other
payments to their offshore parent company. PRC legal restrictions permit
payments of dividend by our PRC subsidiaries only out of their accumulated
after-tax profits, if any, determined in accordance with PRC accounting
standards and regulations. Each of our PRC subsidiaries is also required under
PRC laws and regulations to allocate at least 10% of our annual after-tax
profits determined in accordance with PRC GAAP to a statutory general reserve
fund until the amounts in such fund reaches 50% of our registered capital.
Allocations to these statutory reserve funds can only be used for specific
purposes and are not transferable to us in the form of loans, advances or cash
dividends. In addition, there are restrictions on the distribution of share
capital from the Company’s PRC subsidiaries. As of March 31, 2009, the
amount of our restricted net assets was $76.9 million.





RECENT
SALES OF UNREGISTERED SECURITIES





None.


43





ITEM 6.
            SELECTED
      FINANCIAL DATA





In July
2005, we changed our fiscal year end from December 31 to March 31
beginning with the fiscal year ended March 31, 2005. The following selected
consolidated financial data for the fiscal years ended March 31, 2009, 2008
and 2007 are derived from our audited consolidated financial statements included
elsewhere in this Form 10-K. The financial data for the years ended March 31,
2006 and December 31, 2004 and three months ended March 31, 2005 are
derived from audited consolidated financial statements which are not included in
this Form 10-K. The financial data for the three months ended March 31,
2004 are derived from our unaudited consolidated financial statements, which is
not included in this Form 10-K. The unaudited financial statements reflect, in
the opinion of management, all adjustments necessary for the fair presentation
of the financial condition and the results of operations for such periods. The
results of operations for past accounting periods are not necessarily indicative
of the results to be expected for any future accounting period.





The
financial data set forth below should be read in conjunction with, and are
qualified in their entirety by reference to, “Item 7. Management’s Discussion
and Analysis of Financial Condition and Results of Operations,” and our
consolidated financial statements and related notes included elsewhere in this
Form 10-K.


44





Fiscal Year Ended March 31,
                              
                              Three Months
                                Ended
                                March 31,
                              
                              Year Ended
                                December 31,2009
                              
                              2008
                              
                              2007
                              
                              2006
                              
                              2005
                              
                              2004
                              
                              2004(in thousands except earnings per share data)Selected
      ConsolidatedStatement
      ofOperations
      Data:Net
      sales
                              
                              $
                              312,528
                              
                              $
                              362,090
                              
                              $
                              216,605
                              
                              $
                              132,289
                              
                              $
                              18,692
                              
                              $
                              12,782
                              
                              $
                              57,542Cost
      of sales
                              
                              
                              259,086
                              
                              
                              175,568
                              
                              
                              109,900
                              
                              
                              76,653
                              
                              
                              9,124
                              
                              
                              7,556
                              
                              
                              33,605Gross
      profit
                              
                              
                              53,442
                              
                              
                              186,522
                              
                              
                              106,705
                              
                              
                              55,636
                              
                              
                              9,568
                              
                              
                              5,226
                              
                              
                              23,937Selling and
      distribution expenses
                              
                              
                              44,178
                              
                              
                              34,449
                              
                              
                              25,561
                              
                              
                              15,494
                              
                              
                              4,563
                              
                              
                              2,722
                              
                              
                              9,428Advertising
      and promotion expenses
                              
                              
                              115,478
                              
                              
                              76,388
                              
                              
                              52,322
                              
                              
                              20,908
                              
                              
                              1,071
                              
                              
                              373
                              
                              
                              8,479General and
      administrative expenses
                              
                              
                              25,455
                              
                              
                              16,013
                              
                              
                              7,031
                              
                              
                              5,896
                              
                              
                              665
                              
                              
                              555
                              
                              
                              3,218Other
      operating income, net
                              
                              
                              5,790
                              
                              
                              1,492
                              
                              
                              1,109
                              
                              
                              734
                              
                              
                              -
                              
                              
                              -
                              
                              
                              271Income
      (loss) from operations
                              
                              
                              (125,879
                              )
                              
                              61,164
                              
                              
                              22,900
                              
                              
                              14,072
                              
                              
                              3,269
                              
                              
                              1,576
                              
                              
                              3,083Interest
      expense
                              
                              
                              4,857
                              
                              
                              6,354
                              
                              
                              1,896
                              
                              
                              1,784
                              
                              
                              183
                              
                              
                              145
                              
                              
                              638Interest
      income
                              
                              
                              341
                              
                              
                              1,801
                              
                              
                              356
                              
                              
                              238
                              
                              
                              75
                              
                              
                              18
                              
                              
                              88Other
      income (expense), net
                              
                              
                              (580
                              )
                              
                              (3,084
                              )
                              
                              110
                              
                              
                              (44
                              )
                              
                              (58
                              )
                              
                              (8
                              )
                              
                              (239
                              )Income
      (loss) before provision for income tax
                              
                              
                              (130,975
                              )
                              
                              53,527
                              
                              
                              21,470
                              
                              
                              12,482
                              
                              
                              3,103
                              
                              
                              1,441
                              
                              
                              2,294Provision
      for income tax
                              
                              
                              (30,386
                              )
                              
                              7,855
                              
                              
                              1,596
                              
                              
                              1,446
                              
                              
                              32
                              
                              
                              19
                              
                              
                              76Net
      income before minority interests
                              
                              
                              (100,589
                              )
                              
                              45,672
                              
                              
                              19,874
                              
                              
                              11,036
                              
                              
                              3,071
                              
                              
                              1,422
                              
                              
                              2,218Minority
      interests
                              
                              
                              (40
                              )
                              
                              11
                              
                              
                              -
                              
                              
                              1
                              
                              
                              (1,365
                              )
                              
                              488
                              
                              
                              2,598Net
      income attributable to stockholders
                              
                              $
                              (100,549
                              )
                              $
                              45,661
                              
                              $
                              19,874
                              
                              $
                              11,035
                              
                              $
                              4,436
                              
                              $
                              934
                              
                              $
                              (380
                              )Earnings
      per share-basic
                              
                              $
                              (1.86
                              )
                              $
                              0.86
                              
                              $
                              0.40
                              
                              $
                              0.23
                              
                              $
                              0.10
                              
                              $
                              0.02
                              
                              $
                              (0.01
                              )Earnings
      per share-diluted
                              
                              $
                              (1.86
                              )
                              $
                              0.85
                              
                              $
                              0.40
                              
                              $
                              0.23
                              
                              $
                              0.10
                              
                              $
                              0.02
                              
                              $
                              (0.01
                              )





March 31,
                  
                  
                  December 31,2009
                  
                  
                  2008
                  
                  
                  2007
                  
                  
                  2006
                  
                  
                  2005
                  
                  
                  2004(in thousands)Selected
      Balance Sheet Data:Cash
      and cash equivalents
                  
                  $
                  37,736
                  
                  
                  $
                  97,425
                  
                  
                  $
                  20,836
                  
                  
                  $
                  5,677
                  
                  
                  $
                  5,812
                  
                  
                  $
                  5,893Working
      capital (deficit)
                  
                  
                  (80,432
                  )
                  
                  
                  111,230
                  
                  
                  
                  (8,281
                  )
                  
                  
                  (14,270
                  )
                  
                  
                  (15,920
                  )
                  
                  
                  (17,837
                  )Total
      assets
                  
                  
                  472,571
                  
                  
                  
                  294,318
                  
                  
                  
                  127,271
                  
                  
                  
                  83,009
                  
                  
                  
                  64,192
                  
                  
                  
                  59,849Total
      long-term liabilities
                  
                  
                  20,468
                  
                  
                  
                  39,993
                  
                  
                  
                  4,138
                  
                  
                  
                  —
                  
                  
                  
                  4,833
                  
                  
                  
                  4,833Total
      stockholders’ equity
                  
                  $
                  76,859
                  
                  
                  $
                  171,259
                  
                  
                  $
                  42,701
                  
                  
                  $
                  20,951
                  
                  
                  $
                  7,622
                  
                  
                  $
                  2,990


45





ITEM 7.
            MANAGEMENT’S
      DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
      OPERATIONS





The
following discussion and analysis of our financial condition and results of
operations should be read in conjunction with our consolidated financial
statements and related notes that appear elsewhere in this Form 10-K. In
addition to historical consolidated financial information, the following
discussion contains forward-looking statements that reflect our plans, estimates
and beliefs. Our actual results could differ materially from those discussed in
the forward-looking statements. Factors that could cause or contribute to these
differences include those discussed below and elsewhere in this Form 10-K,
particularly in “Item 1A. Risk Factors.”





OVERVIEW





We are a
leading infant formula company in China. We principally produce, market and sell
our products under the “Shengyuan,” or “Synutra,” name, together with other
complementary brands. We focus on selling premium infant formula products, which
are supplemented by more affordable infant formulas targeting the mass market as
well as other nutritional products and ingredients. We sell our products through
an extensive nationwide sales and distribution network covering 29 provinces and
provincial-level municipalities in China. As of March 31, 2009, this
network comprised over 480 distributors and over 800 sub-distributors who sell
our products in over 65,000 retail outlets.





Historically
we reported our results as a single reporting segment in the financial
statements since operating segments such as the nutritional ingredients and
supplements segment was under construction with minor operating expenses and had
not met the quantitative threshold as described under SFAS 131 "Disclosure about
Segments of an Enterprise and Related Information". In this fiscal year, we
expanded the number of reportable segments from one to three in order to better
reflect the manner in which management analyzes our performance. The three
segments are:





·
            Powdered
      formula segment: Powdered formula segment covers the sale of powdered
      infant and adult formula products. It includes the brands of Super,
      U-Smart, Mingshan which was launched in October 2008 and Helanruniu which
      was launched in December 2008;





·
            Baby
      food segment: Baby food segment covers the sale of prepared baby food and
      nutritional snacks for babies and children. It includes the brand of
      Huiliduo which was launched in March 2009 and the nutritional snacks
      component which we expect to launch in late
  2009;








·
            Nutritional
      ingredients and supplements segment: Nutritional ingredients and
      supplements segment covers the production and sale of nutritional
      ingredients and supplements such as chondroitin sulfate, and
      microencapsulated DHA and
ARA.





On
September 16, 2008, we announced a compulsory recall on certain lots of U-Smart
products and a voluntary recall of other products that were contaminated or
suspected to be contaminated by melamine, a substance not approved for use in
food and linked to recent illnesses among infants and children in China. The
cost of this action during the year ended March 31, 2009 was $101.5 million,
including the cost of product replacement of $48.1 million in cost of sales, the
write-down and write-off of affected inventory of $48.5 million in cost of
sales, the net amount of $2.3 million to a compensation fund set up by China
Dairy Industry Association to settle existing and potential claims arising in
China from families of infants affected by melamine contamination in general and
administrative expenses, and freight charges of $2.6 million in selling and
distribution expenses, of which $4.5 million was recorded as a product recall
provision in the consolidated balance sheet as of March 31, 2009. These costs
represent our estimate of probable costs based on available data and take into
account factors such as expected return rates for the affected units, unit
replacement costs, logistical expenses and expenses relating to the hiring of
temporary contractors to assist with our recall efforts.





Our
product recall does not involve significant cash pay-out to our distributors or
customers. Rather, both distributors and customers receive new products of the
same value in exchange for recalled products. Since the product recall took
place during our second, third and fourth fiscal quarters, our financial results
for these quarters were severely impacted and we recognized considerably less
revenue compared to the same periods in the prior year.





There
have been certain legal proceedings brought against us in connection with the
melamine contamination incident, which may have an adverse effect on our results
of operations, see Part I - Item 3.  Legal Proceedings and Part I -
Item 1A. Risk Factors -
Product liability claims against us could result in adverse publicity and
potential significant monetary damages. Although management is not aware
of any additional significant issues associated with the melamine contamination
incident, there can be no assurance that additional issues will not be
identified in the future and this may have an adverse effect on our results of
operations. See Part I - Item 1A. Risk Factors - We are highly
dependent upon consumers’ perception of the safety and quality of our products.
Any ill effects, product liability claims, recalls, adverse publicity or
negative public perception regarding particular ingredients or products or our
industry in general could harm our reputation and damage our brand and adversely
affect our results of operations.


46


Since the
beginning of October 2008, all of our manufacturing facilities have been
returned to service, after passing government inspections and obtaining
permission from governing authorities. We continue to comply with random and
unscheduled government testing and to conduct enhanced and systematic testing
in-house.





In order
to regain customer confidence and to ensure products of the highest quality, we
are now using imported milk powder from Europe and New Zealand in our U-Smart,
Super and Helanruniu, or Holsteina series products. Through our network of
distributors, we have restocked substantially all of our contracted shelf space
nationwide with new U-Smart series products and new Super series products
produced after October 1, 2008. All such products have been found free of
melamine and compliant with various government tests.





In
October 2008, we acquired a prepared baby food business from Huilian, the
“Huiliduo” brand series, and set up a subsidiary, Beijing Shengyuan Huiliduo
Food Technology Co., Ltd. (“Huiliduo”), to receive this business. Huiliduo began
operations in March 2009.





In late
October 2008, we launched an entirely new series of infant formula products, the
“Mingshan” series, aimed at the expansive lower and mid-end Chinese markets. We
began selling the Mingshan series of products in December 2008.





In
December 2008, we launched an entirely new series of powdered adult formula
products, the “Helanruniu” or “Holsteina” series, aimed at the higher-end
powdered adult formula markets. We began selling the Helanruniu series of
products in December 2008.





Due to
the significant reduction of sales caused by the melamine contamination incident
and replacement of recalled products, our net sales for the fiscal year ended
March 31, 2009 decreased by 13.7% to $312.5 million from $362.1 million for the
prior fiscal year. Our gross profit for the fiscal year ended March 31, 2009
decreased by 71.4% to $53.4 million from $186.5 million for the prior fiscal
year. Our net loss for the fiscal year ended March 31, 2009 was $100.5 million,
as compared to net income of $45.7 million for the prior fiscal
year.





The net
loss for the fiscal year ended March 31, 2009 compared to the prior fiscal year
was attributable primarily to the significant cost of product recall and
decreased sales from the second half of September 2008 to March
2009.





The
Company’s main operations are located in mainland China. Though the recent
disruptions in the overall economy and financial markets is less severe in China
than in the U.S., it could reduce consumer confidence in the economy and
negatively affect consumers’ spending, which could be harmful to our financial
position and results of operations. See Part I - Item 1A. Risk Factors - The recent
disruptions in the overall economy and the financial markets may adversely
impact our business and results of operations and may limit our access to
additional financing.


47





FACTORS
AFFECTING OUR RESULTS OF OPERATIONS





Our
operating results are primarily affected by the following factors:





Perceptions
of Product Quality and Safety





Rising
consumer wealth in China has contributed to a greater acceptance by consumers in
China of and desire for higher-priced products with perceived quality advantages
associated with such products. Thus, we believe that infant formula producers
with a reputation for quality and safety should be able to command higher
average selling prices and thereby generate higher gross margins than
competitors who do not possess the same perceived reputation for quality and
safety. Conversely, any decrease in consumer perceptions of quality and safety
could adversely impact such producers’ sales and gross margins. Moreover, a
decrease in the quality and safety of any particular product could trigger wider
negative perception of the decrease in the quality and safety of all producers,
thereby affecting the industry generally. For example, the recent melamine
contamination incident had resulted in a significant reduction in the sales of a
number of major dairy product companies in China, including us. If a future
market crisis involving any of our products should occur, especially if
management failed to respond to such crisis in a timely and effective manner,
our brand recognition and reputation could be severely damaged, which could
adversely affect our results of operations. See Part I - Item 1A.
Risk Factors—Risks Related to
Our Business—We are highly dependent upon consumers’ perception of the safety
and quality of our products. Any ill effects, product liability claims, recalls,
adverse publicity or negative public perception regarding particular ingredients
or products or our industry in general could harm our reputation and adversely
affect our results of operations.





Brand
Recognition and Customer Loyalty





In recent
years, there has been growing demand in China for premium infant formula
products due to increasing consumer awareness of brand image and nutritional
value of the products offered by leading producers. Although the market is still
highly competitive, we believe that companies with strong national brands and
customer loyalty will increasingly capture market share from regional brands
with less brand recognition. Moreover, we believe brand recognition and customer
loyalty are predominantly influenced by customer perceptions of the quality and
safety of branded products. We believe the recent melamine contamination
incident involving 22 infant formula producers have increased the importance of
consumer perceptions of quality and safety and the need to maintain and increase
brand recognition and customer loyalty.





Competition
and Market Position





While
China’s infant formula market is expected to grow significantly, competition is
intense. The market has become highly fragmented in recent years as an
increasing number of infant formula producers have entered the market. Based on
CIC data, in 2008, there were over 30 companies selling infant formula in China.
We face significant competition from domestic and multinational producers. A
small number of multinational players enjoy significant market share in China,
particularly in the more affluent major urban areas, based on greater brand name
recognition among Chinese consumers. In addition, competition from domestic
producers has become more intense in recent years, especially from large
national milk companies, such as Yili, Yashili, Beingmate and Feihe, that have
entered the infant formula market.





We focus
on developing and marketing premium products for the infant formula market in
China. By leveraging our focused marketing strategy, our brand name and our
sales and marketing infrastructure, we have been able to sell infant formula
products to consumers in China’s small to mid-size cities and rural areas and
are perceived to deliver premium quality that justifies our premium prices. This
strategy has allowed us to maintain and improve our market share in our primary
markets.





Product
Offering and Pricing





Infant
formula has been, and is expected to remain, our primary product. Due to rising
economic affluence in China, infant formula products have become more
affordable, resulting in the rapid growth of the overall market for infant
formula in China. Despite the recent rapid growth, we believe much of the market
is still underserved with respect to infant formula. We believe this growth in
demand will help drive sales for many PRC infant formula producers, but
companies with strong brand loyalty and extensive distribution networks in China
will have greater ability to capitalize on such growth as well as to increase
prices and pass on higher raw material costs to customers. This can be
accomplished through launching higher-priced new infant formula product lines
(such as our Super infant formula products) or re-launching older product lines
with higher prices and improved product features (such as our U-Smart infant
formula products).


48


Raw
Material Supply and Prices





The per
unit costs of producing our infant formula are subject to the supply and price
volatility of raw milk and other raw materials, which are affected by the PRC
and global markets. For example, raw milk prices are affected by factors such as
geographic location, fluctuations in production and competition. Historically,
we have been able to meet our raw milk supply needs by building our processing
facilities close to our milk suppliers and by maintaining long-term business
relationships with milk collection stations. Since the melamine contamination
incident, we have been using imported milk powder for our Super, U-Smart and
Helanruniu or Holsteina series products. This has led to a significant reduction
in our raw milk procurement.





Although
we have not used as much raw milk in the aftermath of the melamine incident,
increases in the price of raw milk, milk powder and whey protein powder would
negatively impact our gross margins if we are not able to offset such price
increases through increases in our selling price or change in product mix.
However, a significant drop in milk powder prices may also adversely affect our
business and cause us to face inventory write-down as we currently continue
to produce large amount of milk powder domestically for commercial resale. See
Part I - Item 1A. Risk
Factors—Risks Related to Our Business—We might face inventory write-down if milk
power inventory continues to increase and milk powder prices continue to
decline.





Advertising
and Sales Promotion Costs





We have
historically relied on our extensive distribution network, our consumer
education programs and customer relation services to market and sell our
products. We substantially increased our television advertising expenditures
during the fiscal year ended March 31, 2009 as part of our strategy of
improving brand recognition on a national level and to promote our premium
products. We intend to continue to spend significant amounts on national
advertising and promotion efforts. In the aftermath of the melamine
contamination incident, we also intensified our efforts to improve our corporate
image and brand name and to recover our lost market share.


49


TAXATION




We file
separate tax returns in the United States and China. Income taxes of our
subsidiaries are calculated in accordance with taxation principles currently
effective in the PRC. For Synutra Illinois and Synutra Delaware, applicable U.S.
tax laws are followed.





On
March 16, 2007, the National People’s Congress of the PRC approved and
promulgated a new tax law, which took effect beginning January 1, 2008. The
Company’s PRC subsidiaries then measure and pay enterprise income tax pursuant
to the new tax law. Under the new tax law, foreign investment enterprise and
domestic companies are subject to a uniform tax rate of 25%. The new tax law
provides a five-year transition period from its effective date for those
enterprises which were established before the promulgation date of the new tax
law and which were entitled to a preferential lower tax rate under the then
effective tax laws or regulations.





We
operate under tax holidays in PRC, which are effective through December 2012.
The impact of these tax holidays decreased PRC taxes by $3.2 million, $14.0
million and $5.2 million for fiscal year 2009, 2008 and 2007, respectively. The
benefit of the tax holidays on net income per share was $0.06, $0.26 and $0.10
for fiscal year 2009, 2008 and 2007, respectively.





Some of
the Company's PRC subsidiaries are eligible under the transition rules to
continue enjoying tax holidays or reduced tax rate until expiration. The
following table illustrates the applicable tax rate and tax holidays of major
PRC subsidiaries under the new EIT Law:




Statutory Tax
                            RateName of Subsidiaries
                          
                          Beginning
                            January 1,
                            2008
                          
                          Tax Holiday (based
                            on calendar year)Shengyuan
      Nutritional Food Co., Ltd.
                          
                          
                          25
                          %
                          2
      years tax free (2004, 2005); 12% (2006, 2007); 12.5%
  (2008)Qingdao
      Shengyuan Dairy Co., Ltd.
                          
                          
                          25
                          %
                          No
      tax holidayHeilongjiang
      Mingshan Dairy Co., Ltd.
                          
                          
                          25
                          %
                          2
      years tax free (2006, 2007); 3 years tax at 12.5%
  (2008-10)Zhangjiakou
      Shengyuan Dairy Co., Ltd.
                          
                          
                          25
                          %
                          2
      years tax free (2006, 2007); 3 years tax at 12.5%
  (2008-10)Inner
      Mongolia Shengyuan Food Co., Ltd.
                          
                          
                          25
                          %
                          2
      years tax free (2008, 2009); 3 years tax at 12.5%
  (2010-12)Inner
      Mongolia Mengyuan Food Co., Ltd.
                          
                          
                          25
                          %
                          No
      tax holidayMeitek
      Technology (Qingdao) Co., Ltd.
                          
                          
                          25
                          %
                          2
      years tax free (2008, 2009); 3 years tax at 12.5%
  (2010-12)Heilongjiang
      Baoquanling Shengyuan Dairy Co., Ltd.
                          
                          
                          25
                          %
                          No
      tax holidayBeijing
      Shengyuan Huiliduo Food Technology Co., Ltd.
                          
                          
                          25
                          %
                          No
      tax holiday


Substantially
all of our income may be derived from dividends we receive from our PRC
operating subsidiaries described above. The New EIT Law and its implementing
rules generally provide that a 10% withholding tax applies to China-sourced
income derived by non-resident enterprises for PRC enterprise income tax
purposes. We expect that such 10% withholding tax will apply to dividends paid
to us by our PRC subsidiaries but this treatment will depend on our status as a
non-resident enterprise. For detailed discussion of PRC tax issues related to
resident enterprise status, see Part-I - Item 1A. Risk Factors — Risks Associated with
Doing Business in China — Under China's New EIT Law, we may be classified
as a ‘resident enterprise’ of China. This classification could result
in unfavorable tax consequences to us and our non-PRC
shareholders.





Each of
our PRC subsidiaries files stand-alone tax returns and we do not file a
consolidated tax return.


50




CRITICAL
ACCOUNTING POLICIES AND ESTIMATES





We
prepare our financial statements in accordance with US GAAP. The preparation of
these financial statements requires the use of estimates and assumptions that
affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amount of revenues and expenses during the reporting period.
Management periodically evaluates the estimates and judgments made. Management
bases its estimates and judgments on historical experience and on various
factors that are believed to be reasonable under the circumstances. Actual
results may differ from these estimates as a result of different assumptions or
conditions.





The
following critical accounting policies affect the more significant judgments and
estimates used in the preparation of our financial statements.





Revenue





We
recognize revenue when title and risk and rewards for the products are
transferred to the customer, price is fixed and determinable and collectability
is reasonably assured. At the time of the sale, we also record estimates for a
variety of sales deductions, including value added taxes, rebates, discounts and
incentives, trade promotions and product returns. Sales deductions are reported
as a reduction of revenue. Most of our nutritional product sales are made
through distributors. Our revenue arrangements with most of our distributors
require distributor advance payment prior to any shipment and delivery of goods
by us to such distributors. Under this distributor arrangement, evidenced by
purchase order together with advance payment, sales revenue is realized and
earned upon acceptance of delivery of products by the distributors. We apply
this revenue recognition policy uniformly to all nutritional products, including
all dairy-based pediatric and adult nutritional products.





A small
fraction of our nutritional product sales are through supermarket retailers
directly. Our revenue arrangement with some of these retailers includes right of
return clause. Our price to the supermarkets is fixed. The supermarkets’
obligation to us would not be changed in the event of theft or physical
destruction or damage of the product. We recognize revenue when the supermarkets
have paid us, or the supermarkets are obligated to pay us and the obligation is
not contingent on resale of the product. The amount of future returns are
estimated and recognized in the current period.





Our gross
sales are subject to various deductions, primarily comprised of rebates and
discounts to distributors and retailers. These deductions represent estimates of
the related obligations, requiring the use of judgment when estimating the
impact of these sales deductions on gross sales for a reporting period. We
report these adjustments as a reduction of gross sales to arrive at net
sales.




•
            We
      offer rebates to distributors and supermarket retailers to sustain and
      increase our product market share. These rebate programs provide that
      distributors and supermarket retailers receive a rebate after attaining
      certain performance parameters relating to product purchases, formulary
      status and/or pre-established market share milestones relative to
      competitors. Since rebates are contractually agreed upon, we estimate
      rebates based on the specific terms in each agreement, historical
      experience, anticipated reimbursement channel mix and product growth
      rates. We consider the sales performance of products subject to rebates
      and other contract discounts and adjust the provision periodically to
      reflect actual experience. Actual amount may differ if the level of
      redemption rates and performance vary from estimates. The Company records
      rebates as a reduction of revenues in the year in which these programs are
      offered.




•
            We
      record a provision for estimated sales returns due to package damage,
      merchandise slow moving at certain retail customer shelf, and termination
      of distributorships, which we estimate through a comparison of historical
      return data to related sales. We use historical rates of return and adjust
      for known or expected changes in the marketplace when appropriate. The
      sales return amount represents management’s best estimates based on the
      available information at the time of estimate is
  made.




•
            For
      product sales and promotions at supermarkets and shopping malls, certain
      expenses in relation to shelf display, end-cap placement, bar-coding,
      banner advertising, etc. are paid to supermarkets and shopping mall
      operators. These expenses are deducted from revenues in accordance with
      EITF 01-9 “Accounting for Consideration
      Given by a Vendor to a Customer (Including a Reseller of the Vendor’s
      Product).”





Allowance
for Doubtful Accounts





We
maintain allowances for doubtful accounts primarily based on the age of
receivables and factors surrounding the credit risk of specific customers. We
regularly review the recoverability and age of our trade receivables. If there
is a deterioration of customers' creditworthiness or actual defaults are higher
than our historical experience, we will provide additional
allowances.


Inventories
 
 Our
inventories are stated at the lower of cost or net realizable value. The
valuation of inventory requires us to estimate excess and slow moving inventory.
The determination of the value of excess and slow moving inventory is based upon
assumptions of future demands and market conditions. If actual market conditions
are less favorable than those projected by management, inventory write-downs may
be required. We routinely evaluate quantities and value of our inventories in
light of current market conditions and market trends, and record write-down
against the cost of inventories for a decline in net realizable value. Inventory
write-down charges establish a new cost basis for inventory. In estimating
obsolescence, we utilize our backlog information and project future demand.
Market conditions are subject to change and actual consumption of inventories
could differ from forecasted demand. Furthermore, the price of raw milk, our
primary raw material, is subject to fluctuations based on global supply and
demand. If actual market conditions are less favorable or other factors arise
that are significantly different than those anticipated by management,
additional inventory write-downs or increases in obsolescence reserves may be
required. Our management continually monitors the changes in the purchase price
paid for raw milk. Our products have a limited life cycle and obsolescence has
not historically been a significant factor in the valuation of inventories given
our inventory turnover


Accounting
for Warrants





In April
2007, we issued warrants to purchase 400,000 shares of common stock to ABN as
part of certain financing arrangements with ABN. The fair value of the warrants
was approximately $2.7 million at the date of grant, estimated using the
Black-Scholes-Merton option pricing model. Determining the fair value of the
warrant charge requires us to make highly subjective assumptions, including
expected contractual life of the warrants and the price volatility of the
underlying shares. We estimate stock price volatility based on our historical
volatility of stock. The assumptions used in calculating the fair value of the
warrants represent our management’s best estimates, but these estimates involve
inherent uncertainties and the application of management’s
judgment.


51


Income
Taxes





The
provision for income taxes has been determined using the asset and liability
approach of accounting for income taxes. Under this approach, deferred taxes
represent the future tax consequences expected to occur when the reported
amounts of assets and liabilities are recovered or paid. The provision for
income taxes represents income taxes paid or payable for the current year plus
the change in deferred taxes during the year. Deferred taxes result from
differences between the financial and tax bases of our assets and liabilities
and are adjusted for changes in tax rates and tax laws when changes are enacted.
Valuation allowances are recorded to reduce deferred tax assets when it is more
likely than not that a tax benefit will not be realized. The assessment of
whether or not a valuation allowance is required often requires significant
judgment including the long-range forecast of future taxable income and the
evaluation of tax planning initiatives. Adjustments to the deferred tax
valuation allowances are made to earnings in the period when such assessments
are made.





Our tax
rate is based on expected income, statutory tax rates and tax planning
opportunities available in the various jurisdictions in which we operate. For
interim financial reporting, we estimate the annual tax rate based on projected
taxable income for the full year and record a quarterly income tax provision in
accordance with the anticipated annual rate. As the year progresses, we refine
the estimates of the year’s taxable income as new information becomes available,
including year-to-date financial results. This continual estimation process
often results in a change to our expected effective tax rate for the year. When
this occurs, we adjust the income tax provision during the quarter in which the
change in estimate occurs so that the year-to-date provision reflects the
expected annual tax rate. Significant judgment is required in determining our
effective tax rate and in evaluating its tax positions.





In
accordance with SFAS No. 109, “Accounting for Income Taxes,” we recognize
deferred tax assets and liabilities based on the differences between the
financial statement carrying amounts and the tax basis of assets and
liabilities. Deferred tax assets represent items to be used as a tax deduction
or credit in future tax returns for which we have already properly recorded the
tax benefit in the income statement. At least quarterly, we assess the
likelihood that the deferred tax asset balance will be recovered from future
taxable income. We take into account such factors as prior earnings history,
expected future earnings, carry-back and carry-forward periods, and tax
strategies that could potentially enhance the likelihood of a realization of a
deferred tax asset. To the extent recovery is unlikely, a valuation allowance is
established against the deferred tax asset and increasing our income tax expense
in the year such determination is made.





APB
Opinion No. 23, “Accounting for Income Taxes, Special Areas,” does not
require U.S. income taxes to be provided on foreign earnings when such earnings
are indefinitely reinvested offshore. We periodically evaluate our investment
strategies with respect to each foreign tax jurisdiction in which we operate to
determine whether foreign earnings will be indefinitely reinvested offshore and,
accordingly, whether U.S. income taxes should be provided when such earnings are
recorded. As of March 31, 2009, we believed all earnings generated in China
would be permanently reinvested and as a result, we did not record any income
taxes on such earnings.





We
adopted FASB Interpretation No. 48, “Accounting for Uncertainty in Income
Taxes, an Interpretation of FASB Statement No. 109” (FIN 48) effective
April 1, 2007. In accordance with FIN 48, we recognize a tax benefit
associated with an uncertain tax position when, in our judgment, it is more
likely than not that the position will be sustained upon examination by a taxing
authority. For a tax position that meets the more-likely-than-not recognition
threshold, we initially and subsequently measure the tax benefit as the largest
amount that we judge to have a greater than 50% likelihood of being realized
upon ultimate settlement with a taxing authority. Our liability associated with
unrecognized tax benefits is adjusted periodically due to changing
circumstances, such as the progress of tax audits, case law developments and new
or emerging legislation. Such adjustments are recognized entirely in the period
in which they are identified. Our effective tax rate includes the net impact of
changes in the liability for unrecognized tax benefits and subsequent
adjustments as considered appropriate by management. As of March 31, 2009,
we had recorded FIN 48 liabilities of $964,000 for our PRC
subsidiaries.





We
classify interest and penalties recognized on the liability for unrecognized tax
benefits as income tax expense. For the fiscal year ended March 31, 2009,
the unrecognized tax benefit did not change significantly and the amount of
interest and penalties related to uncertain tax position is
immaterial.


52





Product
Recall





We
establish a reserve for product recall on a product-specific basis when
circumstances giving rise to the recall become known. Facts and circumstances
related to the recall, including where the product affected by the recall or
withdrawal is located (e.g., with consumers, in customers’ inventory, or in the
Company’s inventory), the expected product return rates by our distributor and
end-customers, cost estimates for shipping and handling for returns and
estimated replacement costs are considered when establishing a product recall
reserve. These factors are updated and reevaluated each period and the related
reserves are adjusted when these factors indicate that the recall reserve is
either not sufficient to cover or exceeds the estimated product recall
expenses.





Impairment
of Goodwill and Indefinite Lived Intangible Assets





We
account for goodwill and intangible assets with indefinite lives in accordance
with SFAS No. 142, “Goodwill and Other Intangible Assets,” or
SFAS 142. SFAS No. 142 states that goodwill and intangible assets
with indefinite lives are not amortized, but are instead reviewed for impairment
annually (or more frequently if impairment indicators arise). We conduct our
annual impairment testing on March 31 to determine if we will be able to recover
all or a portion of the carrying value of goodwill and intangible assets with
indefinite lives.





The
application of the impairment test requires judgment, including the
identification of reporting units, assignments of assets and liabilities to
reporting units and the determination of the fair value of each reporting unit.
Further, the impairment test involves the use of accounting estimates and
assumptions related to future operating results. Consistent with the
requirements of SFAS No. 142, the fair values of our reporting units
are generally based on discounted cash flow projections that are believed to be
reasonable under current and forecasted circumstances, the results of which form
the basis for making judgments about carrying values of the reported net assets
of our reporting units.





We will
continue to closely monitor the 2010 results and projections for our reporting
units and the economic conditions of the product end-markets. Any significant
change in market conditions and estimates or judgments could give rise to
impairment in the period that the change becomes known.





Prior to
performing the goodwill impairment testing process for a reporting unit under
SFAS 142, if there is reason to believe that other non-goodwill related
intangible assets may be impaired, these other intangible assets must first be
tested for impairment under SFAS No. 142 or SFAS No. 144,
“Accounting for the Impairment or Disposal of Long-Lived Assets,” or
SFAS No. 144. Assets governed by SFAS No. 144 require a
recoverability test for impairment whereby the gross undiscounted cash flows are
determined specific to the asset. For non-goodwill related intangible assets
with indefinite lives, a fair value determination is made. If the carrying value
of the asset exceeds the fair value, then impairment occurs. The carrying values
of these assets are impaired as necessary to provide the appropriate carrying
value for the goodwill impairment calculation.





These
impairment tests also involve the use of accounting estimates and assumptions
believed to be reasonable, the results of which form the basis for our
conclusions. Significant changes to these estimates and assumptions could
adversely impact our conclusion to these impairment tests.





No
goodwill or indefinite lived intangible assets have been impaired during any of
the periods presented.


53


RESULTS
OF OPERATIONS





The
following table sets forth, for the periods indicated, our consolidated
statements of operations and certain other information, each expressed as a
percentage of net sales.




Fiscal Years Ended March 31,2009
                    
                    
                    2008
                    
                    
                    2007Amount
                    
                    
                    % of
                      Net
                      Sales
                    
                    
                    Amount
                    
                    
                    % of
                      Net
                      Sales
                    
                    
                    Amount
                    
                    
                    % of
                      Net
                      Sales(in thousands)Net
      sales
                    
                    $
                    312,528
                    
                    
                    
                    100.0
                    %
                    
                    $
                    362,090
                    
                    
                    
                    100.0
                    %
                    
                    $
                    216,605
                    
                    
                    
                    100.0
                    %Cost
      of sales
                    
                    
                    259,086
                    
                    
                    
                    82.9
                    %
                    
                    
                    175,568
                    
                    
                    
                    48.5
                    %
                    
                    
                    109,900
                    
                    
                    
                    50.7
                    %Gross
      profit
                    
                    
                    53,442
                    
                    
                    
                    17.1
                    %
                    
                    
                    186,522
                    
                    
                    
                    51.5
                    %
                    
                    
                    106,705
                    
                    
                    
                    49.3
                    %Selling and
      distribution expenses
                    
                    
                    44,178
                    
                    
                    
                    14.1
                    %
                    
                    
                    34,449
                    
                    
                    
                    9.5
                    %
                    
                    
                    25,561
                    
                    
                    
                    11.8
                    %Advertising
      and promotion expenses
                    
                    
                    115,478
                    
                    
                    
                    36.9
                    %
                    
                    
                    76,388
                    
                    
                    
                    21.1
                    %
                    
                    
                    52,322
                    
                    
                    
                    24.2
                    %General and
      administrative expenses
                    
                    
                    25,455
                    
                    
                    
                    8.1
                    %
                    
                    
                    16,013
                    
                    
                    
                    4.4
                    %
                    
                    
                    7,031
                    
                    
                    
                    3.2
                    %Other
      operating income, net
                    
                    
                    5,790
                    
                    
                    
                    1.9
                    %
                    
                    
                    1,492
                    
                    
                    
                    0.4
                    %
                    
                    
                    1,109
                    
                    
                    
                    0.5
                    %Income
      (loss) from operations
                    
                    
                    (125,879
                    )
                    
                    
                    -40.3
                    %
                    
                    
                    61,164
                    
                    
                    
                    16.9
                    %
                    
                    
                    22,900
                    
                    
                    
                    10.6
                    %Interest
      expense
                    
                    
                    4,857
                    
                    
                    
                    1.6
                    %
                    
                    
                    6,354
                    
                    
                    
                    1.8
                    %
                    
                    
                    1,896
                    
                    
                    
                    0.9
                    %Interest
      income
                    
                    
                    341
                    
                    
                    
                    0.1
                    %
                    
                    
                    1,801
                    
                    
                    
                    0.5
                    %
                    
                    
                    356
                    
                    
                    
                    0.2
                    %Other
      income (expense), net
                    
                    
                    (580
                    )
                    
                    
                    -0.2
                    %
                    
                    
                    (3,084
                    )
                    
                    
                    -0.9
                    %
                    
                    
                    110
                    
                    
                    
                    0.1
                    %Income
      (loss) before provision (benefit) for income tax
                    
                    
                    (130,975
                    )
                    
                    
                    -41.9
                    %
                    
                    
                    53,527
                    
                    
                    
                    14.8
                    %
                    
                    
                    21,470
                    
                    
                    
                    9.9
                    %Provision
      (benefit) for income tax
                    
                    
                    (30,386
                    )
                    
                    
                    -9.7
                    %
                    
                    
                    7,855
                    
                    
                    
                    2.2
                    %
                    
                    
                    1,596
                    
                    
                    
                    0.7
                    %Net
      income (loss) before minority interests
                    
                    
                    (100,589
                    )
                    
                    
                    -32.2
                    %
                    
                    
                    45,672
                    
                    
                    
                    12.6
                    %
                    
                    
                    19,874
                    
                    
                    
                    9.2
                    %Minority
      interests
                    
                    
                    (40
                    )
                    
                    
                    -0.0
                    %
                    
                    
                    11
                    
                    
                    
                    0.0
                    
                    
                    
                    —
                    
                    
                    
                    —
                    %Net
      income (loss) attributable to shareholders
                    
                    $
                    (100,549
                    )
                    
                    
                    -32.2
                    %
                    
                    $
                    45,661
                    
                    
                    
                    12.6
                    %
                    
                    $
                    19,874
                    
                    
                    
                    9.2
                    %


54




FISCAL
YEAR ENDED MARCH 31, 2009 COMPARED TO FISCAL YEAR ENDED MARCH 31,
2008





Net
Sales





Net sales
for the fiscal year ended March 31, 2009 decreased by 13.7% to $312.5
million from $362.1 million for the prior fiscal year. This decrease in net
sales was mainly due to the significant product recall and decrease in sales
which resulted from the melamine contamination incident, partially offset by the
increases in volume and average selling price before the melamine contamination
incident.





Powdered
formula segment





Net sales
of our powdered formula products, including infant milk formula and other
powdered formula products for children and adults under our Super, U-Smart,
Mingshan and Helanruniu brand names, accounted for 91.1% of our total sales for
the fiscal year ended March 31, 2009. Net sales of our powdered formula products
for the fiscal year ended March 31, 2009 decreased by 11.3% to $284.8 million
from $321.1 million for the prior fiscal year, primarily as a result of the
following factors:




●
            Sales
      volume of powdered formula products decreased by 26.5% to 30,383 tons for
      the fiscal year ended March 31, 2009 from 41,359 tons for the prior fiscal
      year, due primarily to a slow-down in sales activities in the second half
      of September to March 2009 following the melamine contamination incident,
      partially offset by a significant business growth experienced in the
      months from April to August, 2008.




●
            The
      average selling price of our powdered formula products for the fiscal year
      ended March 31, 2009 increased by 20.7% to $9,374 per ton from $7,764 per
      ton for the prior fiscal year. This increase in average selling price was
      a combined result of a greater proportion of higher-priced products in our
      product mix and an increase of our sales price in August
    2008.





Baby
food segment





We
acquired the prepared baby food business from Huilian in October 2008. The
business began to generate sales for us in March 2009, and we are currently in
the process of providing shipments of prepared baby food to be placed in stores.
Our nutritional snack business was still in its pre-operations stage and hence
did not have sales for the fiscal year ended March 31, 2009. We plan to begin
its operations in late 2009.





Nutritional
ingredients and supplements segment





Net sales
of nutritional ingredients and supplements segment for the fiscal year ended
March 31, 2009 was $3.4 million, representing basically all inter-segment sales
of nutritional ingredients, such as microencapsulated DHA and ARA, which were
used in the production of powdered infant formula products. We did not have any
net sales in the fiscal year ended March 31, 2008 as the nutritional ingredients
and supplements segment had not begun its operations by March 31,
2008.


55


Cost
of Sales





Cost of
sales for the fiscal year ended March 31, 2009 increased by 47.6% to $259.1
million from $175.6 million for the prior fiscal year. The increase in the cost
of sales is due primarily to the increase of product recall related cost,
partially offset by a decrease in the sales volume of our powdered formula
products.





Powdered
formula segment





Cost of
sales for the powdered formula products for the fiscal year ended March 31, 2009
increased by 64.7% to $234.5million from $142.4 million for the prior fiscal
year. The increase in the cost of sales is due primarily to increase of product
recall related cost, partially offset by a decrease in the sales volume of our
powdered formula products. The portion of the product recall cost, which has
been recognized in cost of sales for the fiscal year ended March 31, 2009, was
$96.6 million, reflecting the cost of recalled products of $48.1 million
and the write-down and write-off of affected inventory of $48.5 million.
The sales volume of powdered formula products sold for the fiscal year ended
March 31, 2009 decreased by 10,976 tons as compared to the prior fiscal
year.





Baby
food segment





We
acquired the prepared baby food business from Huilian in October 2008. The
business began to generate sales for us in March 2009 and we are currently in
the process of providing shipments of prepared baby food to be placed in stores.
Our nutritional snack business was still in its pre-operations stage and hence
did not have cost of sales for the fiscal year ended March 31, 2009. We plan to
begin its operations in late 2009.





Nutritional
ingredients and supplements segment





Cost of
sales of nutritional ingredients and supplements segment for the fiscal year
ended March 31, 2009 was $3.2 million, representing basically all cost of
inter-segment sales of nutritional ingredients such as microencapsulated DHA and
ARA which are used in the production of infant powdered formula products. We did
not have any cost of sales in the fiscal year ended March 31, 2008 as the
nutritional ingredients and supplements segment had not begun its operations by
March 31, 2008.





Gross
Profit and Gross Margin





As a
result of the foregoing, gross profit for the fiscal year ended March 31, 2009
decreased by 71.4% to $53.4 million from $186.5 million for the prior fiscal
year. Gross profit for our powdered formula products for the fiscal year ended
March 31, 2009 decreased by 71.9% to $50.3 million from $178.7 million for the
prior fiscal year due primarily to the significant costs in relation to product
recall including the cost of recalled products and the write-down and write-off
of affected inventory, and due also to decreased sales in the last three fiscal
quarters following the melamine contamination incident. Gross profit for our
baby food segment and nutritional ingredients and supplements segment for the
fiscal year ended March 31, 2009 were $0.2 million and nil,
respectively.





Our
overall gross margin decreased to 17.1% for the fiscal year ended March 31, 2009
from 51.5% for the prior fiscal year. Our gross margin for powdered formula
products was 17.7% for the fiscal year ended March 31, 2009, as compared to
55.7% for the prior fiscal year. The decrease in our gross margin for powdered
formula products was primarily due to the significant cost of the product recall
and increased free products offered to our customers in the aftermath of the
melamine contamination incident, partially offset by an increase in the
proportion of sales of our higher margin infant formula products. Our gross
margin for baby food segment and nutritional ingredients and supplements segment
for the fiscal year ended March 31, 2009 were 5.8% and nil,
respectively.


56


Selling
and Distribution Expenses





Selling
and distribution expenses for the fiscal year ended March 31, 2009 increased by
28.5% to $44.2 million from $34.4 million for the prior fiscal year. This
increase was primarily due to an increase in compensation expenses for our sales
force, an increase in travel and communication expenses and the freight charges
relating to product recall and replacement. Total compensation for our sales
force for the fiscal year ended March 31, 2009 increased by 49.7% to $21.7
million from $14.5 million for the prior fiscal year. This increase was
primarily due to the compensation paid to the field promoters (nutrition
consultants), who were previously paid by our distributors on commission basis,
during the months of October to December 2008 following the melamine
contamination incident. We took up such expenses in order to retain the services
of these field promoters as their commission based salaries decreased
significantly during this period. In addition, the increase in the number of
sales staff to 2,997 as of March 31, 2009 from 2,780 as of March 31, 2008 also
contributed to the increase in compensation expense relating to our sales force.
Travel and communication expenses for the fiscal year ended March 31, 2009
increased by 69.0% to $7.1 million from $4.2 million for the prior fiscal year,
due mainly to the expansion of our business. The freight charges of $2.6 million
relating to product recall and replacement also contributed to the increase in
selling and distribution expenses.





Advertising
and Promotion Expenses





Advertising
and promotion expenses for the fiscal year ended March 31, 2009 increased
by 51.2% to $115.5 million from $76.4 million for the prior fiscal year.
Advertising expenses for the fiscal year ended March 31, 2009, which accounted
for 63.0% of total advertising and promotion expenses, increased by 140.3% to
$72.8 million from $30.3 million for the prior fiscal year, due primarily to our
intensified efforts to improve our corporate image and brand name and to recover
our lost market share following the melamine contamination incident. Promotion
expenses for the fiscal year ended March 31, 2009, which accounted for 37.0% of
total advertising and promotion expenses, decreased by 7.4% to $42.7 million
from $46.1 million for the prior fiscal year.





General
and Administrative Expenses





General
and administrative expenses for the fiscal year ended March 31, 2009
increased by 59.4% to $25.5 million from $16.0 million for the prior fiscal
year. The increase in general and administrative expenses was primarily due to a
net contribution of $2.3 million made to the compensation fund set up by China
Dairy Industry Association for the settlement of existing and potential claims
in China from families of infants affected by melamine contamination, an
increase of $2.6 million in salary and social insurance as result of the
increased headcount, an increase of $1.7 million in rental expenses for new
office space, partially offset by a decrease of $1.0 million in legal and
professional expenses associated with our cancelled public
offering.





Other
operating income, net





Other
operating income for the fiscal year ended March 31, 2009 increased by 286.7% to
$5.8 million from $1.5 million for the prior fiscal year. The increase in other
operating income was primarily due to a grant received from local government in
recognition of our significant contribution to the local economy.





Interest
Income





Interest
income for the fiscal year ended March 31, 2009 decreased to $0.3 million
from $1.8 million for the prior fiscal year due to significant decrease in our
cash and cash equivalent balances.





Interest
Expense





Interest
expense for the fiscal year ended March 31, 2009 decreased to $4.9 million
from $6.4 million for the prior fiscal year, due primarily to the amortization
of debt discount associated with the issuance of warrants to ABN which amounted
to $2.6 million in the fiscal year ended March 31, 2008, which was offset by the
increased interest expenses due to significant borrowing after the melamine
contamination incident in the fiscal year ended March 31, 2009.





Provision
(benefit) for Income Tax





As a
result of the net loss arising primarily from the cost of the product recall, we
recorded an income tax benefit of $30.4 million for the fiscal year ended March
31, 2009, as compared to an income tax expense of $7.9 million for the fiscal
year ended March 31, 2008. Our effective tax rate increased to 23.2% for the
fiscal year ended March 31, 2009 from 14.7% for the prior fiscal year. This
increase in our effective income tax rate was primarily due to the expirations
of tax holidays enjoyed by certain subsidiaries in China.





Net
Income (Loss) Attributable to Shareholders





As a
result of the foregoing, net loss attributable to shareholders for the fiscal
year ended March 31, 2009 was $100.5 million, as compared to net income of
$45.7 million for the prior fiscal year.


57


FISCAL
YEAR ENDED MARCH 31, 2008 COMPARED TO FISCAL YEAR ENDED MARCH 31,
2007





Net
Sales





Net sales
for the fiscal year ended March 31, 2008 increased by 67.2% to $362.1
million from $216.6 million for the prior fiscal year. This increase in net
sales was a result of an increase in volume of products sold and an increase in
average selling price. The increase in the volume of products sold was partly
driven by the growth of the infant formula market in China and increased market
awareness for our products as a result of our marketing initiatives. These
marketing initiatives were built around a TV advertising campaign that started
in September 2006, which was enhanced by continued targeted sales and
promotional activities at the store level.





Powdered
formula segment





Net
sales of our powdered formula products, including infant formula and other
nutritional products for children and adults under our Super, U-Smart, U-Strong,
and National Standards sub-brands, accounted for 88.7% of our total sales for
the fiscal year ended March 31, 2008. Net sales of our powdered formula
products for the fiscal year ended March 31, 2008 increased by 91.7% to
$321.1 million from $167.5 million for the prior fiscal year, primarily as a
result of the following factors:




•
            Sales
      volume of powdered formula products increased by 48.0% to 41,359 tons for
      the fiscal year ended March 31, 2008 from 27,942 tons for the prior
      fiscal year.




•
            The
      average selling price of our powdered formula products for the fiscal year
      ended March 31, 2008 increased by 29.5% to $7,764 per ton from $5,995
      per ton for the prior fiscal year. This increase in average selling price
      was primarily due to an increase in sales of Super infant formula
      products, which resulted in a greater proportion of higher-priced products
      in our product mix, and a substantial increase in the average selling
      price for our U-Smart infant formula products resulted primarily from our
      introduction of U-Smart Gold
Package.





Baby
food segment and Nutritional ingredients and supplements segment





Baby food
segment and nutritional ingredients and supplements segment had not began their
operations by March 31, 2008.





Cost
of Sales





Cost of
sales for the fiscal year ended March 31, 2008, including purchases from
third-party producers, increased by 59.8% to $175.6 million from $109.9 million
for the prior fiscal year. The increase in cost of sales was due to an increase
in the cost of sales for our powdered formula products.





Powdered
formula segment





Cost of
sales for the powdered formula products for the fiscal year ended March 31,
2008 increased by 118.4% to $142.4 million from $65.2 million for the prior
fiscal year. The increase of 13,417 tons of powdered formula products sold for
the fiscal year ended March 31, 2008 as compared to the prior fiscal year
was the primary reason for the increase in cost of sales. The increase in unit
prices of raw materials (principally raw milk and whey protein powder) for the
fiscal year ended March 31, 2008 as compared to the prior fiscal year also
contributed to the increase in our cost of sales. To a lesser extent, our
increase in cost of sales for the fiscal year ended March 31, 2008 was also
due to the increase in the percentage of premium products sold.





Baby
food segment and Nutritional ingredients and supplements segment





Baby food
segment and nutritional ingredients and supplements segment had not began their
operation by March 31, 2008.


58


Gross
Profit and Gross Margin





As a
result of the foregoing, gross profit for the fiscal year ended March 31,
2008 increased by 74.8% to $186.5 million from $106.7 million for the prior
fiscal year. Gross profit for our powdered formula products for the fiscal year
ended March 31, 2008 increased by 74.7% to $178.7 million from $102.3
million for the prior fiscal year.





Our gross
margin increased to 51.5% for the fiscal year ended March 31, 2008 from
49.3% for the prior fiscal year. Our gross margin for powdered formula products
was 55.7% for the fiscal year ended March 31, 2008, as compared to 61.1%
for the prior fiscal year. Our overall gross margin increased primarily due to
an increase in the proportion of sales of our powdered formula products, which
had a higher margin than our other products. The decrease in the gross margin of
our powdered formula products was primarily due to rising raw material costs,
which was partially offset by a significant increase in the proportion of sales
of our higher margin infant formula products. The gross margin of our powdered
formula products was also negatively impacted by the increased
supermarket/shopping mall related expenses, such as end-cap placement costs and
admission fees, which are recoded as reduction of revenue, due to our rapid
expansion into supermarkets/shopping malls.





Selling
and Distribution Expenses





Selling
and distribution expenses for the fiscal year ended March 31, 2008
increased by 34.8% to $34.4 million from $25.6 million for the prior fiscal
year. This increase was primarily a result of increased compensation expenses
for our sales force, and an increase in shipping and handling expenses as well
as travel expenses, partially offset by a decrease in entertainment, event and
communication expenses. Total compensation for our sales force for the fiscal
year ended March 31, 2008 increased by 58.7% to $14.5 million from $9.2
million for the prior fiscal year. This increase was primarily due to the
continuation of our targeted sales incentive programs. In addition, the increase
in the number of sales staff to 2,780 as of March 31, 2008 from 2,050 as of
March 31, 2007 also contributed to the increase in compensation expense
relating to our sales force. As a result of increases in sales and business
activities, shipping and handling expenses for the fiscal year ended
March 31, 2008 increased by 67.5% to $6.7 million from $4.0 million for the
prior fiscal year, generally in proportion to the increase in sales. Travel
expenses for the fiscal year ended March 31, 2008 increased by 48.0% to
$2.9 million from $2.0 million for the prior fiscal year.





Advertising
and Promotion Expenses





Advertising
and promotion expenses for the fiscal year ended March 31, 2008 increased
by 46.0% to $76.4 million from $52.3 million for the prior fiscal year, due to
increased nationwide TV advertising and promotional activities at the store
level, such as offering promotional products and organizing promotional events.
Advertising expenses for the fiscal year ended March 31, 2008 , which
accounted for 39.7% of total advertising and promotion expenses, increased by
84.8% to $30.3 million from $16.4 million for the prior fiscal year. Promotion
expenses for the fiscal year ended March 31, 2008, which accounted for
60.3% of total advertising and promotion expenses, increased by 28.1% to $46.1
million from $36.0 million for the prior fiscal year.





General
and Administrative Expenses





General
and administrative expenses for the fiscal year ended March 31, 2008
increased by 127.7% to $16.0 million from $7.0 million for the prior fiscal
year, primarily as a result of increased legal and professional fees and costs
for staff salaries and office expenses. Legal and professional fees for the
fiscal year ended March 31, 2008 increased by 435.6% to $4.8 million from
$0.9 million for the prior fiscal year due to increased corporate transactions.
Staff salaries and social insurance for the fiscal year ended March 31,
2008 increased by 93.1% to $4.6 million from $2.4 million for the prior fiscal
year, primarily due to increased corporate headcount and average salary levels.
Office expenses for the fiscal year ended March 31, 2008 increased by
210.0% to $1.5 million from $0.5 million for the prior fiscal year, primarily
due to the addition of subsidiaries and expansion of operations.





Other
operating income, net





Other
operating income for the fiscal year ended March 31, 2008 increased by 36.4% to
$1.5 million from $1.1 million for the prior fiscal year.


59


Interest
Income





Interest
income for the fiscal year ended March 31, 2008 increased to $1.8 million
from $0.4 million for the prior fiscal year due to significant increases in our
cash and cash equivalent balances.





Interest
Expense





Interest
expense for the fiscal year ended March 31, 2008 increased to $6.4 million
from $1.9 million for the prior fiscal year, due primarily to borrowings from
ABN, and the amortization of debt discount associated with the issuance of
warrants to ABN.





Provision
for Income Tax





The
provision for income taxes, which is computed on an individual legal entity
basis, was $7.9 million and $1.6 million for the fiscal years ended
March 31, 2008 and 2007, respectively. Our effective tax rate increased to
14.7% for the fiscal year ended March 31, 2008 from 7.4% for the prior
fiscal year. This increase in our effective income tax rate was due to the
expiration of a tax holiday enjoyed by Zhangjiakou Shengyuan, and the provision
for unrealizable deferred tax assets for our operations.





Net
Income Attributable to Shareholders





As a
result of the foregoing, net income attributable to shareholders for the fiscal
year ended March 31, 2008 increased by 129.8% to $45.7 million from $19.9
million for the prior fiscal year.


60


LIQUIDITY
AND CAPITAL RESOURCES




The
accompanying consolidated financial statements have been prepared assuming that
we will continue as a going concern, which contemplates the realization of
assets and the liquidation of liabilities in the normal course of
business.  As a result of the melamine incident and the related
product recall, we have experienced significant operating losses and negative
cash flows from operations for the fiscal year ended March 31,
2009.  As of March 31, 2009, we had a working capital deficit of
approximately $80.4 million. In addition, we have not been in compliance with
certain covenants in our New ABN loan agreement as of March 31,
2009.  We are attempting to renegotiate the terms and covenants of the
New ABN loan agreement.  As a result of the occurrence of these recent
economic events, the ensuing operating losses and negative cash flows and our
failure to meet our debt covenants, substantial doubts have been raised about
our ability to continue as a going concern.  We are currently in the
process of evaluating funding alternatives including seeking refinancing of
certain short-term loans from PRC banks.   The accompanying
consolidated financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
  We intend
to seek to overcome any substantial doubt concerning our ability to continue as
going concern by continuing to pursue our strategic operating goals for enhanced
profitability and by obtaining new debt and/or equity
financing.   Any substantial doubt about our ability to continue
as a going concern could also affect our relationship with our trade suppliers
and their willingness to continue to conduct business with us on terms
consistent with historical practice. These suppliers might respond to an
apparent weakening of our liquidity position and to address their own liquidity
needs may request faster payment of invoices, new or increased deposits or other
assurances.  If this were to happen, our need for cash would be
intensified and we might be unable to make payments to our suppliers as they
become due.


The
recent melamine contamination incident has significantly impacted our liquidity.
Since the damage to our reputation caused by the melamine contamination incident
will take time to recover, the net sales of our powdered formula products were
negatively impacted in the fiscal year ended March 31, 2009. In the meantime, we
incurred substantial cash outflow for the purchase of raw materials and for
operating expenses.





Accordingly,
we have had discussions with local banks to obtain short term financing to
support our operational needs. As of March 31, 2009, we had short-term
borrowings from local banks of $182.6 million with a weighted average interest
rate of 4.1%. The loans were secured by the pledge of certain fixed assets held
by the Company’s subsidiaries, pledge of land use right in Qingdao, China and
pledge of cash deposits which was recorded as restricted cash.  The
maturity dates of the short term loans from local banks outstanding at March 31,
2009 range from April 2009 to March 2010. As of the date of the filing of
this 10-K, all outstanding short-term loans that have become due have been
repaid. As of March 31, 2009, we have unsecured long-term borrowing from local
banks of $8.8 million maturing in March 2011 with an interest rate of 5.4%. In
addition to the loans from local banks, we also borrowed from related parties
short term loans amounting to $7.5 million with a weighted average interest rate
of 7.8% to finance our acquisition of the Helanruniu trademarks and to support
our normal operating needs. The maturity dates of the short term loans
outstanding from related parties at March 31, 2009 are in October 2010. As
of March 31, 2009, we are not able to meet the financial covenants of the ABN
loan and hence it was reclassified to current liabilities since we considered
this debt callable by the bank. As of the date of the filing of this 10-K, the
waiver has not been granted. Prior to the melamine contamination incident, cash
generated from our operating activities were sufficient for normal operating
needs, and financing from banks was normally related to investing activities
such as expansion of our manufacturing plant.





In order
to maintain sufficient funds for our operations, we have postponed the payment
of certain accounts payable. The payment terms of accounts payable were usually
three months. We negotiated with some suppliers and extended the payment
terms.





We do not
expect significant cash outflow in relation to the product recall and subsequent
replacement for future fiscal quarters other than the cash outflow for the
accrued freight charge of $519,000 at March 31, 2009. However, we cannot provide
assurance in this regard.





Our cash
and cash equivalent balance decreased by $59.7 million to $37.7 million at March
31, 2009, as compared to $97.4 million at March 31, 2008.


61


The
following table sets forth, for the periods indicated, certain information
relating to our cash flows:




Fiscal Years Ended
                    March 31,2009
                  
                  
                  2008
                  
                  
                  2007(in
      thousands)Net
      cash provided by (used in) operating activities
                  
                  $
                  (109,488
                  )
                  
                  $
                  38,229
                  
                  
                  $
                  14,766Net
      cash used in investing activities
                  
                  
                  (127,287
                  )
                  
                  
                  (33,096
                  )
                  
                  
                  (17,908
                  )Net
      cash provided by financing activities
                  
                  
                  174,871
                  
                  
                  
                  64,731
                  
                  
                  
                  16,425Effect
      of foreign currency translation on cash and cash
    equivalents
                  
                  
                  2,215
                  
                  
                  
                  6,725
                  
                  
                  
                  1,876Net
      cash flow
                  
                  $
                  (59,689
                  )
                  
                  $
                  76,589
                  
                  
                  $
                  15,159





Cash
Flows from Operating Activities





Net cash
used in operating activities was $109.5 million for the fiscal year ended March
31, 2009, as compared to net cash provided by operating activities of
$38.2 million for the prior fiscal year. Net cash used in operating
activities for the fiscal year ended March 31, 2009 was mainly due to net loss
of $100.5 million, non-cash items not affecting 2009 cash flows of $20.0
million, and an $11.1 million increase in working capital. The changes in
working capital for the fiscal year ended March 31, 2009, were primarily related
to a $50.9 million increase in inventories due to the increase in
goods-in-transit for imported milk powder, a $77.0 million increase in accounts
payable due to delayed payment to our suppliers resulting from our tightened
liquidity position and payable for goods-in-transit for imported milk powder, a
$13.4 million increase in accounts receivable due to our extended credit term to
certain distributors, a $5.6 million increase in income tax receivable due to
overpaid income tax before the melamine incident, and a $4.5 million increase in
product recall provision. In the fiscal year ended March 31, 2009, we spent
$238.8 million in purchasing raw materials and other production materials, $33.0
million in staff compensation and social welfare, $33.8 million in other taxes,
$197.1 million in selling and distribution, advertising and promotion, and
general and administrative expenses, and received $403.8 million from our
customers.





Net cash
provided by operating activities was $38.2 million for the fiscal year ended
March 31, 2008, as compared to net cash provided by operating activities of
$14.8 million for the prior fiscal year. Net cash provided by operating
activities for the fiscal year ended March 31, 2008 was mainly due to net
income of $45.7 million, non-cash items not affecting 2008 cash flows of $5.6
million, partially offset by $13.0 million of negative changes in working
capital. The changes in working capital for the year ended March 31, 2008,
were primarily related to a $39.1 million increase in inventory, a $5.7 million
increase in prepaid expense and other current assets, and a $4.1 million
increase in accounts receivable, partially offset by a $9.4 million decrease in
due from related parties, a $6.8 million increase in accounts payable, and a
$8.1 million increase in other liabilities. The increase in inventory was due to
several factors: our increased production and sales, the acquisition of
Baoquanling and its inventory, and direct whey protein purchase from Eurosérum
in France. Due to the distance of Eurosérum and the longer delivery time, we
kept more whey protein inventory in our warehouse and had more whey protein
in-transit as our inventory. There were no material policy changes in our credit
terms to customers and payment terms to suppliers for the fiscal year ended
March 31, 2008. In the fiscal year ended March 31, 2008, we spent $198.4
million in purchasing raw materials and other production materials, $21.7
million in staff compensation and social welfare, $19.7 million in other taxes,
$143.5 million in selling and distribution, advertising and promotion, and
general and administrative expenses, and received $431.5 million from our
customers.





Net cash
provided by operating activities was $14.8 million for the fiscal year ended
March 31, 2007, mainly due to net income of $19.9 million, non-cash items
not affecting 2007 cash flows of $1.9 million, partially offset by $7.1 million
of negative changes in working capital. The changes in working capital for the
fiscal year ended March 31, 2007 were primarily related to a $3.3 million
increase in advances from customers, a $4.1 million increase in deferred
revenue, partially offset by a $4.6 million increase in inventory, a $4.0
million increase in accounts receivable, and a $3.1 million increase in amounts
due from related parties. The increases in inventory, accounts receivable, and
advances from customers primarily resulted from the increase in our sales. The
increase in amounts due from related parties primarily resulted from increased
prepayment to Honnete for the purchase of whey protein.


62


Cash
Flows from Investing Activities





Net cash
used in investing activities was $127.3 million for the fiscal year ended
March 31, 2009, as compared to $33.1 million for the prior fiscal year.
Cash invested in purchases of property and equipment was $44.9 million and
$36.4 million for the fiscal year ended March 31, 2009 and 2008,
respectively. This increase in net cash used in investing activities is
primarily due to our plant expansion to increase our production capacity prior
to the melamine contamination incident, partially offset by the suspension of
major investing projects in the aftermath of such event. We expect the
suspension will slow down our expansion into the nutritional snack business
which we expect to launch in late 2009, but it will not materially affect our
production capacity to fulfill our customers’ order requirements. Restricted
cash increased by $73.9 million for the fiscal year ended March 31, 2009,
as compared to a decrease of $4.2 million for the prior fiscal year due to
a significant increase in our bank borrowings. Restricted cash represents cash
deposited with banks as security against the issuance of letters of credit for
the import of machinery and raw materials and as pledges for certain short-term
borrowings.





Net cash
used in investing activities was $33.1 million for the fiscal year ended
March 31, 2008, as compared to $17.9 million for the prior fiscal year.
This was due primarily to our plant expansion to increase our production
capacities. Cash invested in purchases of property and equipment was
$36.5 million and $21.6 million for the fiscal years ended March 31,
2008, and 2007, respectively. Restricted cash decreased by $4.2 million for the
fiscal year ended March 31, 2008, as compared to a decrease of
$3.5 million for the prior fiscal year. Restricted cash represents cash
deposited with banks as security against the issuance of letters of
credit.





Cash
Flows from Financing Activities





Net cash
provided by financing activities was $174.9 million for the fiscal year ended
March 31, 2009. Cash provided by financing activities during the fiscal
year ended March 31, 2009 was primarily related to $238.2 million
short-term loans from PRC banks in China, $7.5 million loan from related
parties, $8.8 million long-term loans from domestic banks in China, offset by
$77.3 million repayment of short-term loans from PRC banks and $1.9 million
repayment of long-term loans from PRC banks.





Net cash
provided by financing activities was $64.7 million for the fiscal year ended
March 31, 2008. Cash provided by financing activities during the fiscal
year ended March 31, 2008 was primarily related to $65.8 million in the
proceeds from the issuance of common stock to Warburg, $60.2 million short-term
loans from domestic banks in China and ABN, and a $35.0 million long-term loan
from ABN, offset by the repayment of $96.2 million in short-term borrowings from
domestic banks in China and ABN.





Net cash
provided by financing activities for the fiscal year ended March 31, 2007
was $16.4 million, primarily related to the proceeds from bank loans of $32.6
million, partially offset by the repayment of short-term borrowings of $16.2
million.


63


Outstanding
Indebtedness





On
April 19, 2007, the Company entered into a bridge loan agreement with ABN
AMRO Bank N.V., Hong Kong branch (“ABN”), in the amount of $35.0 million (the
“Bridge Loan Agreement”). The Loan bore interest at the one-month London
interbank offered rate for deposits in US dollars plus 2.5% with interest
payable on the last day of each month. The Company was required to pay to ABN a
commitment fee of 1% on the daily amount of the unused Commitment Amount. The
Loans were secured by a pledge of 25,000,000 shares of the Company’s Common
Stock owned by Beams Power Investment Limited, a British Virgin Islands company,
the capital stock of which is beneficially owned by Liang Zhang, the Chief
Executive Officer of the Company. Pursuant to the Loan Agreement, Liang Zhang
and Xiuqing Meng, Mr. Zhang’s wife, guaranteed the Company’s obligations
thereunder. The principal amount and unpaid accrued interest under the Bridge
Loan Agreement were repaid on October 18, 2007.





In
addition, pursuant to a USD facility side letter and warrant agreement dated
April 19, 2007 between the Company and ABN, the Company was obligated to
issue warrants to ABN to purchase up to 400,000 shares of the Company’s common
stock (the “Warrant Agreement”). On April 19, 2007 and October 11,
2007, respectively, the Company issued warrants to purchase 200,000 shares
of its common stock at $8.84 per share and the remaining 200,000 shares at the
same price. All of the warrants may be exercised up to the third anniversary of
the completion of a “Qualified Public Offering”, as defined in the Warrant
Agreement.





On
October 11, 2007, ABN and another lender provided a three year term loan,
or the New ABN Loan, to the Company in the aggregate amount of $35 million. The
principal amount, and any unpaid accrued interest on the New ABN Loan, will be
due on October 11, 2010 and may be prepaid without penalty. The proceeds of
the New ABN Loan were used to pay the outstanding principal and accrued interest
of a six-month term loan provided to the Company by ABN on April 19, 2007,
or the Original ABN Loan. The New ABN Loan bears interest at LIBOR for deposits
in U.S. dollars plus 3.5% with interest payable on the last day of each
three-month period. The loan is secured by a pledge of 10,000 shares of common
stock, or 100% of the outstanding common stock of Synutra Illinois.





The loan
agreement for the New ABN Loan provides for mandatory prepayment upon the
occurrence of certain events, and contains customary covenants for financings of
this type, including restrictions on the incurrence of liens, payment of
dividends, and disposition of properties. The loan agreement for the New ABN
Loan also contains certain financial covenants, including a requirement to
maintain specified leverage and interest coverage ratio, tangible net worth, and
indebtedness to tangible net worth ratio. The Company has performed an analysis
of the relevant ratios and found that due to the net loss which resulted from
the significant costs of the product recall, including inventory write-down and
write-off, the Company was not able to meet any of the financial covenant
requirements as of March 31, 2009. Further, the Company anticipates that it may
have difficulty meeting these financial covenant requirements for the next
several fiscal quarters. The Company has requested the lenders to waive these
financial covenants for the next several fiscal quarters. The lenders have
proposed waiver fee which equals to 0.75% of the aggregate principal amount
outstanding and an increase in the interest rate of 200 basis points to LIBOR
for deposits in U.S. dollars plus 5.5%. The lenders have also proposed a revised
repayment schedule of quarterly amortizations commencing in October 2009 with
$5.0 million in October 2009, $5.0 million in January 2010, $10 .0 million in
April 2010, $10.0 million in July 2010, and $5.0 million on maturity. Any
non-payment would constitute a default, for which the banks have rights to
enforce on the existing share pledge. As of the date of the filing of this 10-K,
the waiver has not been granted. The Company is currently in discussions with
the lenders on the waiver and is unable to predict when, or if the waiver will
be granted. Accordingly, the Company has reclassified the outstanding balance of
$34.5 million under the loan to current liabilities since the Company considers
this debt callable by the bank. The Company may also incur additional expenses
in connection with the modification of loan arrangements.





In
addition to the New ABN Loan, as of March 31, 2009 and March 31, 2008, the
Company had short-term loans from PRC banks in the amount of $182.6 million and
$21.2 million, respectively.  The maturity dates of the short term
loans outstanding from PRC banks at March 31, 2009 range from April 2009 to
March 2010. As of the date of the filing of this 10-K, all outstanding
short-term loans that have become due have been repaid. The weighted average
interest rate on short-term loans from PRC banks outstanding at March 31, 2009
and March 31, 2008 was 4.1% and 7.08%, respectively. The loans at March 31,
2009 were secured by the pledge of certain fixed assets held by the Company and
its subsidiaries, a pledge of the Company’s land use right and pledge of cash
deposits. The value of fixed assets pledged was $34.2 million and $18.1
million as of March 31, 2009 and March 31, 2008,
respectively.  The value of land use right pledged was $3.4 million
and nil as of March 31, 2009 and March 31, 2008, respectively. The value of cash
pledged was $66.1million which was recorded in restricted cash and nil as of
March 31, 2009 and March 31, 2008, respectively.





As of
March 31, 2009 and 2008, the Company had long-term loans which are unsecured
debt, from PRC banks in the amount of $8.8 million and $1.9 million,
respectively. The maturity date of the loan term loans outstanding from PRC
banks at March 31, 2009 is in March 2011. The weighted average interest rate on
outstanding long-term loans at March 31, 2009 and 2008 was 5.4% and 3.2%,
respectively.





Apart
from the short-term loans and long-term loans from banks, the Company also had
short term loans from related parties in the amount of $7.5 million and nil as
of March 31, 2009 and March 31, 2008 respectively. The maturity dates of the
short term loans outstanding from related parties at March 31, 2009 are in
October 2010. The balance as of March 31, 2009 included a US dollar loan of $3.9
million and a RMB loan of $3.6 million, and the interest rates were 10.0% and
5.5% respectively. The interest rate of the US dollar loan is benched mark to
that of US dollar borrowing from third parties. The outstanding amount under
these loans from related parties was $6.6 million as of June 12,
2009.


64





Tabular
Disclosure of Contractual Obligations





Our cash
flows from operations are dependent on a number of factors, including
fluctuations in our operating results, accounts receivable collections,
inventory management, and the timing and amount of tax and other payments. As a
result, the impact of contractual obligations on our liquidity and capital
resources in future periods should be analyzed in conjunction with such factors.
In addition, we plan for and measure our liquidity and capital resources through
an annual budgeting process.





Below is
a table setting forth our contractual obligations as of March 31,
2009:




Total
                          
                          
                          Less
      than 1 year
                          
                          
                          1-3
      years
                          
                          
                          3-5
      years
                          
                          
                          More
      than 5 years(in
      thousands)Long-term
      debt and related interest payment obligations
                          
                          $
                          9,719
                          
                          
                          $
                          474
                          
                          
                          $
                          9,245
                          
                          
                          $
                          —
                          
                          
                          $
                          —Capital
      lease obligations
                          
                          
                          18,038
                          
                          
                          
                          —
                          
                          
                          
                          857
                          
                          
                          
                          946
                          
                          
                          
                          16,235Operating
      lease obligations
                          
                          
                          66,880
                          
                          
                          
                          650
                          
                          
                          
                          3,368
                          
                          
                          
                          3,606
                          
                          
                          
                          59,256Advertising
      and purchase of raw materials commitments
                          
                          
                          19,211
                          
                          
                          
                          19,211
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —Capital
      expenditure commitments
                          
                          
                          6,004
                          
                          
                          
                          6,004
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —Total
                          
                          $
                          119,852
                          
                          
                          $
                          26,339
                          
                          
                          $
                          13,470
                          
                          
                          $
                          4,552
                          
                          
                          $
                          75,491





We
computed the long-term debt-related interest based on the interest rate as of
March 31, 2009.




As of
March 31, 2009, our FIN 48 liability was $964,000. We are unable to reasonably
estimate the timing of the effective settlement of this tax
position.





Capital
Expenditures





Our
capital expenditures were $44.8 million, $36.4 million and $21.6 million for the
fiscal years ended March 31, 2009, 2008 and 2007, respectively. Our capital
expenditures were mainly used for the expansion of our production plants. In
order to meet our immediate working capital needs in the aftermath of the
melamine contamination incident, we decided to temporarily postpone projects
that were not urgently needed for our operations, such as our baby beverage
project and the furnishing of our head office building. Our capital expenditure
increased for the fiscal year ended March 31, 2009 due to projects we were
undertaking to expand our production capacity prior to the melamine
contamination incident. We do not anticipate significant capital expenditure in
the next several fiscal quarters. All future capital expenditure plans will be
dependent upon our cash position and operating status.


65


Off-Balance
Sheet Arrangements





We have
not entered into any guarantee contract or commitments to guarantee the payment
obligations of any third parties except for the guarantee issued to the Zhangbei
Branch of the Agricultural Bank of China related to various bank loans of $1.1
million to 104 dairy farmers in the Zhangbei area of Hebei Province in China,
which was recorded as contingent liability of $0.4 million. Such loans matured
on December 15, 2007 but as of March 31, 2009, none of these loans have been
repaid. We do not have any retained or contingent interest in assets transferred
to an unconsolidated entity or similar arrangement that serves as credit,
liquidity or market risk support to such entity for such assets. We do not have
any obligation, including a contingent obligation, under a contract that would
be accounted for as a derivative instrument, except that it is both indexed to
the registrant's own stock and classified in stockholders' equity in the
registrant's statement of financial position, and therefore excluded from the
scope of FASB Statement of Financial Accounting Standards No. 133, Accounting for Derivative
Instruments and Hedging Activities. We do not have any obligation,
including a contingent obligation, arising out of a variable interest in an
unconsolidated entity that is held by and material to us where such entity
provides financing, liquidity, market risk or credit risk support to, or engages
in leasing, hedging or research and development services with us.





Recent
Accounting Pronouncements





In
December 2007, the FASB issued SFAS No. 141 (R), “Business Combinations” (“SFAS
No. 141(R)”). SFAS No. 141(R) requires an entity to recognize the assets
acquired, liabilities assumed, contractual contingencies, and contingent
consideration at their fair value on the acquisition date. Subsequent changes to
the estimated fair value of contingent consideration will be reflected in
earnings until the contingency is settled. SFAS No. 141(R) also requires
acquisition-related costs and restructuring costs to be expensed as incurred
rather than treated as part of the purchase price. The adoption of SFAS No.
141(R) will change our accounting treatment for business combinations for which
the acquisition date is on or after April 1, 2009. SFAS 141R amends SFAS 109,
“Accounting for Income Taxes,” such that adjustments made to valuation
allowances on deferred taxes and acquired tax contingencies associated with
acquisitions that closed prior to the effective date of SFAS 141R would also
apply the provisions of SFAS 141R.





In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements” to improve the relevance, comparability, and
transparency of financial information provided to investors by requiring all
entities to report noncontrolling (minority) interests in subsidiaries in the
same way as required in the consolidated financial statements. Moreover, SFAS
No. 160 eliminates the diversity that currently exists in accounting for
transactions between an entity and noncontrolling interests by requiring they be
treated as equity transactions. SFAS No. 160 is effective for fiscal years, and
interim periods within those fiscal years, beginning on or after December 15,
2008. Earlier adoption is prohibited. We are currently evaluating whether the
adoption of SFAS No. 160 will have a significant effect on its consolidated
financial position, results of operations or cash flows.


In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments
and Hedging Activities - an Amendment of FASB Statement 133.” SFAS No. 161
provides new disclosure requirements for an entity’s derivative and hedging
activities. SFAS No. 161 is effective for periods beginning after November 15,
2008. We have not yet determined the impact on its consolidated financial
statements of adopting SFAS No. 161.





In April
2008, the FASB issued Staff Position No. FAS 142-3, “Determination of the Useful
Life of Intangible Assets” (FSP FAS 142-3). This position amends the factors an
entity should consider when developing renewal or extension assumptions used in
determining the useful life over which to amortize the cost of a recognized
intangible asset under SFAS No. 142, “Goodwill and Other Intangible Assets.” FSP
FAS 142-3 requires an entity to consider its own historical experience in
renewing or extending similar arrangements in determining the amortizable useful
life. Additionally, this position requires expanded disclosures related to the
determination of intangible asset useful lives. FSP FAS 142-3 is effective for
fiscal years beginning after December 15, 2008, and may impact any intangible
assets the Company acquires in future transactions. The guidance for determining
the useful life of a recognized intangible asset must be applied prospectively
to intangible assets acquired after the effective date. The disclosure
requirements, though, shall be applied prospectively to all intangible assets
recognized as of the effective date. Early adoption is prohibited. We expect to
adopt FSP FAS 142-3 as of April 1, 2009.





In May
2008, the FASB issued SFAS No. 162, "The Hierarchy of Generally Accepted
Accounting Principles" (FAS 162). FAS 162 identifies the sources of accounting
principles and the framework for selecting the principles used in the
preparation of financial statements. FAS 162 is effective 60 days following SEC
approval.


66


In June
2008, the FASB ratified EITF Issue 07-5, “Determining Whether an Instrument (or
Embedded Feature) Is Indexed to an Entity’s Own Stock” (“EITF 07-5”). This Issue
addresses the determination of whether an instrument (or an embedded feature) is
indexed to an entity’s own stock. The EITF will be effective for years beginning
after December 15, 2008. We are currently evaluating whether the adoption of
EITF Issue 07-5 will have a significant effect on its consolidated financial
position, results of operations or cash flows.




At the
November 24, 2008 meeting, the FASB ratified the consensus reached by the Task
Force in Issue No. 08-7: Accounting for Defensive Intangible Assets (EITF 08-7).
EITF 08-7 requires entities that will acquire a defensive intangible asset after
the effective date of Statement 141(R), to account for the acquired intangible
asset as a separate unit of accounting and amortize the acquired intangible
asset over the period during which the asset would diminish in value. EITF 08-7
is effective for defensive intangible assets acquired in fiscal years beginning
on or after December 15, 2008. We are currently evaluating the impact of this
statement on our consolidated financial statements.





In May
2009, the FASB issued Statement of Financial Accounting Standards No. 165, "Subsequent Events" (SFAS
No.165). SFAS 165 establishes 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. Specifically,
SFAS 165 provides (i) the period after the balance sheet date during which
management of a reporting entity should evaluate events or transactions that may
occur for potential recognition or disclosure in the financial statements; (ii)
the circumstances under which an entity should recognize events or transactions
occurring after the balance sheet date in its financial statements; and (iii)
the disclosures that an entity should make about events or transactions that
occurred after the balance sheet date. SFAS 165 is effective for interim or
annual financial periods ending after June 15, 2009 and shall be applied
prospectively.


67





ITEM
      7A.
            QUANTITATIVE
      AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK





The
objective of our policies is to mitigate potential income statement, cash flow
and fair value exposures resulting from possible future adverse fluctuations in
rates. We evaluate our exposure to market risk by assessing the anticipated
near-term and long-term fluctuations in interest rates and foreign exchange
rates. This evaluation includes the review of leading market indicators,
discussions with financial analysts and investment bankers regarding current and
future economic conditions and the review of market projections as to expected
future rates.





Foreign
Exchange Risk





The value
of the Renminbi against the U.S. dollar and other currencies is affected by,
among other things, changes in China’s political and economic conditions. Since
July 2005, the Renminbi has no longer been pegged to the U.S. dollar. Although
the PBOC regularly intervenes in the foreign exchange market to prevent
significant short-term fluctuations in the exchange rate, the Renminbi may
appreciate or depreciate significantly in value against the U.S. dollar in the
medium to long term. Moreover, it is possible that in the future, PRC
authorities may lift restrictions on fluctuations in the Renminbi exchange rate
and lessen intervention in the foreign exchange market.





Because
substantially all of our earnings and cash assets are denominated in Renminbi,
appreciation or depreciation in the value of the Renminbi relative to the U.S.
dollar would affect our financial results reported in U.S. dollar terms without
giving effect to any underlying change in our business or results of operations.
As a result, we face exposure to adverse movements in currency exchange rates as
the financial results of our Chinese operations are translated from local
currency into U.S. dollars upon consolidation. If the U.S. dollar weakens
against the Renminbi, the translation of our foreign-currency-denominated
balances will result in increased net assets, net revenues, operating expenses,
and net income or loss. Similarly, our net assets, net revenues, operating
expenses, and net income or loss will decrease if the U.S. dollar strengthens
against the Renminbi. Additionally, foreign exchange rate fluctuations on
transactions denominated in Renminbi other than the functional currency result
in gains and losses that are reflected in our Consolidated Statement of Income.
Our operations are subject to risks typical of international business,
including, but not limited to, differing economic conditions, changes in
political climate, differing tax structures, other regulations and restrictions,
and foreign exchange rate volatility.





Considering
the RMB balance of our cash and cash equivalents as of March 31, 2009, which
amounted to $37.7 million, a 1.0% change in the exchange rates between the
Renminbi and the U.S. dollar would result in an increase or decrease of
approximately $0.4 million of the balance.





Very
limited hedging transactions are available in China to reduce our exposure to
exchange rate fluctuations. To date, we have not entered into any hedging
transactions in an effort to reduce our exposure to foreign currency exchange
risk. While we may enter into hedging transactions in the future, the
availability and effectiveness of these transactions may be limited, and we may
not be able to successfully hedge our exposure at all. In addition, our foreign
currency exchange losses may be magnified by PRC exchange control regulations
that restrict our ability to convert Renminbi into foreign
currencies.


68


Inflation





Inflationary
factors, such as increases in the cost of our products and overhead costs, could
impair our operating results. Although we do not believe that inflation has had
a material impact on our financial position or results of operations to date, a
high rate of inflation in the future may have an adverse effect on our ability
to maintain current levels of gross margin and selling, general and
administrative expenses as a percentage of sales revenue if the selling prices
of our products do not increase with these increased costs.





Interest
Rate Risk





We did
not experience any material changes in interest rate exposures during the fiscal
year ended March 31, 2009. Based upon economic conditions and leading market
indicators at March 31, 2009, we do not foresee a significant adverse change in
interest rates in the near future and do not use interest rate derivatives to
manage exposure to interest rate changes.





Currently,
we are exposed to interest rate risk primarily associated with: the New ABN
Loan, a variable-rate debt obligation based on LIBOR, with the carrying value of
$35.0 million which approximates its fair value at March 31, 2009.





Concentration
of Credit Risk





We are
subject to concentrations of credit risk consisting primarily of accounts
receivable. We perform ongoing credit evaluations with respect to the financial
condition of our debtors, but do not require collateral. In order to determine
the value of our accounts receivable, we record a provision for doubtful
accounts to cover probable credit losses. Our management reviews and adjusts
this allowance periodically based on historical experience and its evaluation of
the collectibility of outstanding accounts receivable.





Commodities
Risk





Raw milk,
imported milk powder and whey protein are the principal raw materials in the
Company’s business, accounting for over 70% of the Company’s cost of sales.
Domestically produced milk powder and other dairy based ancillary products are
also the Company’s products for commercial sales. As such, the Company’s is
exposed to the fluctuations in the price of raw milk, milk powder and whey
protein. During the past two years, the rise and fall in the prices of these
commodities have significantly affected the Company’s business operations and
profitability. A significant rise in the prices of these raw materials will
adversely affect the gross margin of the Company’s powdered formula products. In
the meantime, a significant decrease in the price of milk powder may also
adversely affect the gross margin of domestically produced milk powder and other
dairy based ancillary products for commercial sales.


69





ITEM
      8.
            FINANCIAL
      STATEMENTS AND SUPPLEMENTARY DATA




INDEX
TO CONSOLIDATED FINANCIAL STATEMENTS




Reports
      of Independent Registered Public Accounting Firms
                
                71Consolidated
      Balance Sheets as of March 31, 2009 and 2008
                
                73Consolidated
      Statements of Income for the fiscal years ended March 31, 2009, 2008 and
      2007
                
                74Consolidated
      Statements of Shareholders’ Equity for the fiscal years ended March 31,
      2009, 2008 and 2007
                
                75Consolidated
      Statements of Cash Flows for the fiscal years ended March 31, 2009, 2008
      and 2007
                
                76Notes
      to Consolidated Financial Statements
                
                77Financial
      Statement Schedules
                
                125


70




REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To the
Board of Directors and Stockholders of


Synutra
International, Inc.


Rockville,
Maryland





We have
audited the accompanying consolidated balance sheets of Synutra International,
Inc. and subsidiaries (the “Company”) as of March 31, 2009 and 2008, and the
related consolidated statements of income and comprehensive income (loss),
shareholders’ equity, and cash flows for each of the two years in the period
ended March 31, 2009 and related financial statement schedules. These financial
statements and financial statement schedules are the responsibility of the
Company’s management. Our responsibility is to express an opinion on these
financial statements and financial statement schedules based on our
audits.





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





In our
opinion, such consolidated financial statements present fairly, in all material
respects, the financial position of Synutra International, Inc. and subsidiaries
at March 31, 2009 and 2008, and the results of their operations and their cash
flows for each of the two years in the period ended March 31, 2009, in
conformity with accounting principles generally accepted in the United States of
America. Also, in our opinion, such financial statement schedules, when
considered in relation to the basic consolidated financial statements taken as a
whole, present fairly, in all material respect, the information set forth
therein.




The
accompanying consolidated financial statements have been prepared assuming that
the Company will continue as a going concern.  As discussed in Note
2(A) to the consolidated financial statements, the Company's losses from
operations, negative working capital and non-compliance with certain debt
covenants raise substantial doubt about its ability to continue as a going
concern.  Management's plans concerning these matters are also
discussed in Note 11 to the financial statements.  The financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.




As
discussed in Note 14 to the consolidated financial statements, effective April
1, 2007, the Company adopted Financial Accounting Standards Board Interpretation
No. 48 “Accounting for Uncertainty in Income Taxes – an Interpretation of FASB
Statement No. 109”.





We have
also audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the Company’s internal control over financial
reporting as of March 31, 2009, based on the criteria established in Internal Control — Integrated
Frameworkissued by the Committee of Sponsoring Organizations of the
Treadway Commission and our report dated June 15, 2009 expressed an unqualified
opinion on the Company’s internal control over financial reporting.





/s/
Deloitte Touche Tohmatsu CPA Ltd.


Shanghai,
China


June 15,
2009


71


REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To the
Board of Directors


and
Stockholders


Synutra
International, Inc. and Subsidiaries


Rockville,
Maryland


We have
audited the accompanying consolidated statements of income, changes in
shareholders' equity, cash flows, and related financial statement schedules
included in Schedule I and II of Synutra International, Inc. and Subsidiaries
for the year ended March 31, 2007.  These consolidated financial
statements and related financial statement schedules are the responsibility of
the Company's management.  Our responsibility is to express an opinion
on these consolidated financial statements based on our audit.
 
 We conducted our audit in accordance
with the standards of the Public Company Accounting Oversight Board (United
States).  Those standards require that we plan and perform the audits
to obtain reasonable assurance about whether the consolidated financial
statements are free of material misstatement.  An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the consolidated financial statements.  An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall consolidated financial statement
presentation.  We believe that our audit provide a reasonable basis
for our opinion.
 
 In our opinion, the consolidated
financial statements referred to above present fairly, in all material respects,
the results of its operations and its cash flows of Synutra International, Inc.
and Subsidiaries for the year ended March 31, 2007, in conformity with
accounting principles generally accepted in the United States of
America.  Also, in our opinion, the related financial statement
schedules, when considered in relation to the basic consolidated financial
statements taken as a whole, present fairly in all material respects, the
information set forth therein.
 
 As described more fully in Note 17, the
segment information disclosure for the year ended March 31, 2007 has been
restated to reflect three reporting segments.
 
 
 /s/
Rotenberg & Co., LLP
 
 Rotenberg
& Co., LLP
 Rochester,
New York
 June 26,
2007 (June 11, 2009 as to the segment information restatement discussed in
Note 17)







72


SYNUTRA
INTERNATIONAL, INC.


CONSOLIDATED
BALANCE SHEETS


(in
thousands, except share par value)




March 31,
                                              
                                              
                                              March 31,2009
                                              
                                              
                                              2008ASSETSCurrent
      Assets:Cash
      and cash equivalents
                                              
                                              $
                                              37,736
                                              
                                              
                                              $
                                              97,425Restricted
      cash
                                              
                                              
                                              84,338
                                              
                                              
                                              
                                              9,744Accounts
      receivable, net of allowance of $1,452 and $185,
    respectively
                                              
                                              
                                              23,826
                                              
                                              
                                              
                                              11,325Inventories
                                              
                                              
                                              114,724
                                              
                                              
                                              
                                              61,853Due
      from related parties
                                              
                                              
                                              2,463
                                              
                                              
                                              
                                              —Deferred
      tax assets
                                              
                                              
                                              16,276
                                              
                                              
                                              
                                              1,448Income
      tax receivable
                                              
                                              
                                              1,476
                                              
                                              
                                              
                                              —Prepaid
      expenses and other current assets
                                              
                                              
                                              13,436
                                              
                                              
                                              
                                              10,800Assets
      held for sale
                                              
                                              
                                              —
                                              
                                              
                                              
                                              1,316Total
      current assets
                                              
                                              
                                              294,275
                                              
                                              
                                              
                                              193,911Property,
      plant and equipment, net
                                              
                                              
                                              144,481
                                              
                                              
                                              
                                              85,719Land
      use rights, net
                                              
                                              
                                              6,374
                                              
                                              
                                              
                                              4,496Intangible
      assets, net
                                              
                                              
                                              3,136
                                              
                                              
                                              
                                              —Goodwill
                                              
                                              
                                              1,435
                                              
                                              
                                              
                                              —Deferred
      tax assets
                                              
                                              
                                              18,464
                                              
                                              
                                              
                                              2,077Other
      assets
                                              
                                              
                                              4,406
                                              
                                              
                                              
                                              8,115TOTAL
      ASSETS
                                              
                                              $
                                              472,571
                                              
                                              
                                              $
                                              294,318LIABILITIES
      AND SHAREHOLDERS’ EQUITYCurrent
      Liabilities:Short-term
      loans
                                              
                                              $
                                              224,647
                                              
                                              
                                              $
                                              21,228Long-term
      debt-current portion
                                              
                                              
                                              —
                                              
                                              
                                              
                                              1,923Accounts
      payable
                                              
                                              
                                              112,968
                                              
                                              
                                              
                                              26,438Due
      to related parties
                                              
                                              
                                              5,172
                                              
                                              
                                              
                                              2,970Advances
      from customers
                                              
                                              
                                              5,448
                                              
                                              
                                              
                                              9,465Income
      tax payable
                                              
                                              
                                              —
                                              
                                              
                                              
                                              4,168Product
      recall provision
                                              
                                              
                                              4,547
                                              
                                              
                                              
                                              —Other
      current liabilities
                                              
                                              
                                              21,925
                                              
                                              
                                              
                                              16,489Total
      current liabilities
                                              
                                              
                                              374,707
                                              
                                              
                                              
                                              82,681Long-term
      debt
                                              
                                              
                                              8,777
                                              
                                              
                                              
                                              34,184Deferred
      revenue
                                              
                                              
                                              4,681
                                              
                                              
                                              
                                              4,559Capital
      lease obligations
                                              
                                              
                                              5,254
                                              
                                              
                                              
                                              —Other
      long term liabilities
                                              
                                              
                                              1,756
                                              
                                              
                                              
                                              1,250Total
      liabilities
                                              
                                              
                                              395,175
                                              
                                              
                                              
                                              122,674Minority
      interest
                                              
                                              
                                              537
                                              
                                              
                                              
                                              385Shareholders’
      equity:Common
      stock, $.0001 par value: 250,000 authorized; 54,001 and 54,001 issued and
      outstanding at March 31, 2009 and 2008, respectively
                                              
                                              
                                              5
                                              
                                              
                                              
                                              5Additional
      paid-in capital
                                              
                                              
                                              76,607
                                              
                                              
                                              
                                              76,607Retained
      earnings (Accumulated deficit)
                                              
                                              
                                              (23,674
                                              )
                                              
                                              
                                              76,875Accumulated
      other comprehensive income
                                              
                                              
                                              23,921
                                              
                                              
                                              
                                              17,772Total
      shareholders’ equity
                                              
                                              
                                              76,859
                                              
                                              
                                              
                                              171,259TOTAL
      LIABILITIES AND SHAREHOLDERS’ EQUITY
                                              
                                              $
                                              472,571
                                              
                                              
                                              $
                                              294,318




The
accompanying notes are an integral part of the consolidated financial
statements.


73


SYNUTRA
INTERNATIONAL, INC.


CONSOLIDATED
STATEMENTS OF INCOME


AND
COMPREHENSIVE INCOME


(in
thousands except earnings per share data)




Year Ended March 31,2009
                                                                      
                                                                      
                                                                      2008
                                                                      
                                                                      
                                                                      2007Net
      sales
                                                                      
                                                                      $
                                                                      312,528
                                                                      
                                                                      
                                                                      $
                                                                      362,090
                                                                      
                                                                      
                                                                      $
                                                                      216,605Cost
      of sales
                                                                      
                                                                      
                                                                      259,086
                                                                      
                                                                      
                                                                      
                                                                      175,568
                                                                      
                                                                      
                                                                      
                                                                      109,900Gross
      profit
                                                                      
                                                                      
                                                                      53,442
                                                                      
                                                                      
                                                                      
                                                                      186,522
                                                                      
                                                                      
                                                                      
                                                                      106,705Selling
      and distribution expenses
                                                                      
                                                                      
                                                                      44,178
                                                                      
                                                                      
                                                                      
                                                                      34,449
                                                                      
                                                                      
                                                                      
                                                                      25,561Advertising
      and promotion expenses
                                                                      
                                                                      
                                                                      115,478
                                                                      
                                                                      
                                                                      
                                                                      76,388
                                                                      
                                                                      
                                                                      
                                                                      52,322General
      and administrative expenses
                                                                      
                                                                      
                                                                      25,455
                                                                      
                                                                      
                                                                      
                                                                      16,013
                                                                      
                                                                      
                                                                      
                                                                      7,031Other
      operating income, net
                                                                      
                                                                      
                                                                      5,790
                                                                      
                                                                      
                                                                      
                                                                      1,492
                                                                      
                                                                      
                                                                      
                                                                      1,109Income
      (loss) from operations
                                                                      
                                                                      
                                                                      (125,879
                                                                      )
                                                                      
                                                                      
                                                                      61,164
                                                                      
                                                                      
                                                                      
                                                                      22,900Interest
      expense
                                                                      
                                                                      
                                                                      4,857
                                                                      
                                                                      
                                                                      
                                                                      6,354
                                                                      
                                                                      
                                                                      
                                                                      1,896Interest
      income
                                                                      
                                                                      
                                                                      341
                                                                      
                                                                      
                                                                      
                                                                      1,801
                                                                      
                                                                      
                                                                      
                                                                      356Other
      income (expense), net
                                                                      
                                                                      
                                                                      (580
                                                                      )
                                                                      
                                                                      
                                                                      (3,084
                                                                      )
                                                                      
                                                                      
                                                                      110Income
      (loss) before provision for income tax
                                                                      
                                                                      (130,975
                                                                      )
                                                                      
                                                                      
                                                                      53,527
                                                                      
                                                                      
                                                                      
                                                                      21,470Provision
      (benefit) for income tax
                                                                      
                                                                      
                                                                      (30,386
                                                                      )
                                                                      
                                                                      
                                                                      7,855
                                                                      
                                                                      
                                                                      
                                                                      1,596Net
      income (loss) before minority interests
                                                                      
                                                                      
                                                                      (100,589
                                                                      )
                                                                      
                                                                      
                                                                      45,672
                                                                      
                                                                      
                                                                      
                                                                      19,874Minority
      interests
                                                                      
                                                                      
                                                                      (40
                                                                      )
                                                                      
                                                                      
                                                                      11
                                                                      
                                                                      
                                                                      
                                                                      —Net
      income (loss) attributable to shareholders
                                                                      
                                                                      $
                                                                      (100,549
                                                                      )
                                                                      
                                                                      $
                                                                      45,661
                                                                      
                                                                      
                                                                      $
                                                                      19,874Other
      comprehensive income
                                                                      
                                                                      
                                                                      6,149
                                                                      
                                                                      
                                                                      
                                                                      14,840
                                                                      
                                                                      
                                                                      
                                                                      1,876Total
      comprehensive income (loss)
                                                                      
                                                                      $
                                                                      (94,400
                                                                      )
                                                                      
                                                                      $
                                                                      60,501
                                                                      
                                                                      
                                                                      $
                                                                      21,750Earnings
      (loss) per share - basic
                                                                      
                                                                      $
                                                                      (1.86
                                                                      )
                                                                      
                                                                      $
                                                                      0.86
                                                                      
                                                                      
                                                                      $
                                                                      0.40Earnings
      (loss) per share - diluted
                                                                      
                                                                      $
                                                                      (1.86
                                                                      )
                                                                      
                                                                      $
                                                                      0.85
                                                                      
                                                                      
                                                                      $
                                                                      0.40Weighted
      average common share outstanding - basic
                                                                      
                                                                      
                                                                      54,001
                                                                      
                                                                      
                                                                      
                                                                      53,170
                                                                      
                                                                      
                                                                      
                                                                      50,001Weighted
      average common share outstanding - diluted
                                                                      
                                                                      
                                                                      54,001
                                                                      
                                                                      
                                                                      
                                                                      53,476
                                                                      
                                                                      
                                                                      
                                                                      50,001




The
accompanying notes are an integral part of the consolidated financial
statement.


74


SYNUTRA
INTERNATIONAL, INC.


CONSOLIDATED
STATEMENTS OF SHAREHOLDERS’ EQUITY


(in
thousands)




Common Stock
                          
                          
                          Additional
                            paid-in
                            capital
                          
                          
                          Retained
                            earnings
                            (Accumulated
                            deficit)
                          
                          
                          Accumulated
                            other
                            comprehensive
                            income
                          
                          
                          Total
                            shareholders’
                            equityShares
                          
                          
                          AmountBalance,
      March 31, 2006
                          
                          
                          50,001
                          
                          
                          $
                          5
                          
                          
                          $
                          8,226
                          
                          
                          $
                          11,664
                          
                          
                          $
                          1,056
                          
                          
                          $
                          20,951Net
      income
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          19,874
                          
                          
                          
                          —
                          
                          
                          
                          19,874Currency
      translation adjustment
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          1,876
                          
                          
                          
                          1,876Balance,
      March 31,2007
                          
                          
                          50,001
                          
                          
                          $
                          5
                          
                          
                          $
                          8,226
                          
                          
                          $
                          31,538
                          
                          
                          $
                          2,932
                          
                          
                          $
                          42,701Issuance
      of common stock, net of issuance costs of $206
                          
                          
                          4,000
                          
                          
                          
                          —
                          
                          
                          
                          65,794
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          65,794Issuance
      of warrants
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          2,587
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          2,587Adoption
      of FIN 48
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          (375
                          )
                          
                          
                          —
                          
                          
                          
                          (375
                          )Acquisition
      of a subsidiary
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          51
                          
                          
                          
                          —
                          
                          
                          
                          51Net
      income
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          45,661
                          
                          
                          
                          —
                          
                          
                          
                          45,661Currency
      translation adjustment
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          14,840
                          
                          
                          
                          14,840Balance,
      March 31,2008
                          
                          
                          54,001
                          
                          
                          $
                          5
                          
                          
                          $
                          76,607
                          
                          
                          $
                          76,875
                          
                          
                          $
                          17,772
                          
                          
                          $
                          171,259Net
      loss
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          (100,549
                          )
                          
                          
                          —
                          
                          
                          
                          (100,549
                          )Currency
      translation adjustment
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          6,149
                          
                          
                          
                          6,149Balance,
      March 31,2009
                          
                          
                          54,001
                          
                          
                          $
                          5
                          
                          
                          $
                          76,607
                          
                          
                          $
                          (23,674
                          )
                          
                          $
                          23,921
                          
                          
                          $
                          76,859




The
accompanying notes are an integral part of the consolidated financial
statements.




75




SYNUTRA
INTERNATIONAL, INC.


CONSOLIDATED
STATEMENTS OF CASH FLOWS


(in
thousands)




Year
      Ended March 31,2009
                                              
                                              
                                              2008
                                              
                                              
                                              2007Cash
      flow from operating activities:Net
      income (loss)
                                              
                                              $
                                              (100,549
                                              )
                                              
                                              $
                                              45,661
                                              
                                              
                                              $
                                              19,874Adjustments
      to reconcile net income to net cash provided by operating
      activities:Amortization
      of debt discount
                                              
                                              
                                              —
                                              
                                              
                                              
                                              2,733
                                              
                                              
                                              
                                              —Amortization
      of debt issuance costs
                                              
                                              
                                              321
                                              
                                              
                                              
                                              539
                                              
                                              
                                              
                                              —Depreciation
      and amortization
                                              
                                              
                                              7,649
                                              
                                              
                                              
                                              4,646
                                              
                                              
                                              
                                              2,057Write
      down of intangible asset
                                              
                                              
                                              880
                                              
                                              
                                              
                                              —
                                              
                                              
                                              
                                              —Bad
      debt expense
                                              
                                              
                                              2,138
                                              
                                              
                                              
                                              (47
                                              )
                                              
                                              
                                              397(Gain)/loss
      on short term investment
                                              
                                              
                                              —
                                              
                                              
                                              
                                              —
                                              
                                              
                                              
                                              (77
                                              )(Gain)/
      Loss on disposal of property, plant and equipment
                                              
                                              
                                              (20
                                              )
                                              
                                              
                                              249
                                              
                                              
                                              
                                              —Impairment
      of property, plant and equipment
                                              
                                              
                                              —
                                              
                                              
                                              
                                              175
                                              
                                              
                                              
                                              —Deferred
      income tax
                                              
                                              
                                              (31,124
                                              )
                                              
                                              
                                              (2,695
                                              )
                                              
                                              
                                              (432
                                              )Minority
      interest
                                              
                                              
                                              152
                                              
                                              
                                              
                                              11
                                              
                                              
                                              
                                              —Changes
      in assets and liabilities:Accounts
      receivable
                                              
                                              
                                              (13,399
                                              )
                                              
                                              
                                              (4,149
                                              )
                                              
                                              
                                              (4,044
                                              )Inventories
                                              
                                              
                                              (50,940
                                              )
                                              
                                              
                                              (39,066
                                              )
                                              
                                              
                                              (4,616
                                              )Due
      from related parties
                                              
                                              
                                              (3,557
                                              )
                                              
                                              
                                              9,400
                                              
                                              
                                              
                                              (3,139
                                              )Prepaid
      expenses and other current assets
                                              
                                              
                                              (2,691
                                              )
                                              
                                              
                                              (5,676
                                              )
                                              
                                              
                                              (1,341
                                              )Accounts
      payable
                                              
                                              
                                              76,975
                                              
                                              
                                              
                                              6,831
                                              
                                              
                                              
                                              (994
                                              )Due
      to related parties
                                              
                                              
                                              4,880
                                              
                                              
                                              
                                              1,909
                                              
                                              
                                              
                                              (1,366
                                              )Advances
      from customers
                                              
                                              
                                              (4,248
                                              )
                                              
                                              
                                              4,606
                                              
                                              
                                              
                                              3,330Income
      tax receivable
                                              
                                              
                                              (5,636
                                              )
                                              
                                              
                                              —
                                              
                                              
                                              
                                              —Income
      tax payable
                                              
                                              
                                              —
                                              
                                              
                                              
                                              5,037
                                              
                                              
                                              
                                              (668
                                              )Deferred
      revenue
                                              
                                              
                                              986
                                              
                                              
                                              
                                              —
                                              
                                              
                                              
                                              4,138Product
      recall provision
                                              
                                              
                                              4,547
                                              
                                              
                                              
                                              —
                                              
                                              
                                              
                                              —Other
      liabilities
                                              
                                              
                                              4,148
                                              
                                              
                                              
                                              8,065
                                              
                                              
                                              
                                              1,647Net
      cash provided by (used in) operating activities
                                              
                                              
                                              (109,488
                                              )
                                              
                                              
                                              38,229
                                              
                                              
                                              
                                              14,766Cash
      flow from investing activities:Acquisition
      of property, plant and equipment
                                              
                                              
                                              (44,827
                                              )
                                              
                                              
                                              (36,453
                                              )
                                              
                                              
                                              (21,584
                                              )Acquisition
      of intangible assets
                                              
                                              
                                              (2,474
                                              )
                                              
                                              
                                              —
                                              
                                              
                                              
                                              —Disposal
      of investment in a subsidiary
                                              
                                              
                                              —
                                              
                                              
                                              
                                              (1,046
                                              )
                                              
                                              
                                              —Proceeds
      from sales of short term investment
                                              
                                              
                                              —
                                              
                                              
                                              
                                              —
                                              
                                              
                                              
                                              120Change
      in restricted cash
                                              
                                              
                                              (73,934
                                              )
                                              
                                              
                                              4,213
                                              
                                              
                                              
                                              3,527Business
      acquisitions
                                              
                                              
                                              (6,052
                                              )
                                              
                                              
                                              190
                                              
                                              
                                              
                                              —Proceeds
      from disposal of property, plant and equipment
                                              
                                              
                                              —
                                              
                                              
                                              
                                              —
                                              
                                              
                                              
                                              29Advance
      to related companies
                                              
                                              
                                              —
                                              
                                              
                                              
                                              (3,324
                                              )
                                              
                                              
                                              —Repayment
      of advance to related companies
                                              
                                              
                                              —
                                              
                                              
                                              
                                              3,324
                                              
                                              
                                              
                                              —Net
      cash used in investing activities
                                              
                                              
                                              (127,287
                                              )
                                              
                                              
                                              (33,096
                                              )
                                              
                                              
                                              (17,908
                                              )Cash
      flow from financing activities:Proceeds
      from short-term loans
                                              
                                              
                                              245,710
                                              
                                              
                                              
                                              60,179
                                              
                                              
                                              
                                              32,625Repayment
      of short-term loans
                                              
                                              
                                              (77,314
                                              )
                                              
                                              
                                              (96,242
                                              )
                                              
                                              
                                              (16,200
                                              )Proceeds
      from long-term loans
                                              
                                              
                                              8,777
                                              
                                              
                                              
                                              35,000
                                              
                                              
                                              
                                              —Repayment
      of long-term loans
                                              
                                              
                                              (1,923
                                              )
                                              
                                              
                                              —
                                              
                                              
                                              
                                              —Payments
      on capital lease obligations
                                              
                                              
                                              (379
                                              )
                                              
                                              
                                              —
                                              
                                              
                                              
                                              —Proceeds
      from issuance of common stock, net of issuance costs
                                              
                                              
                                              —
                                              
                                              
                                              
                                              65,794
                                              
                                              
                                              
                                              —Net
      cash provided by financing activities
                                              
                                              
                                              174,871
                                              
                                              
                                              
                                              64,731
                                              
                                              
                                              
                                              16,425Effect
      of exchange rate changes on cash and cash equivalents
                                              
                                              
                                              2,215
                                              
                                              
                                              
                                              6,725
                                              
                                              
                                              
                                              1,876Net
      change in cash and cash equivalents
                                              
                                              
                                              (59,689
                                              )
                                              
                                              
                                              76,589
                                              
                                              
                                              
                                              15,159Cash
      and cash equivalents, beginning of year
                                              
                                              
                                              97,425
                                              
                                              
                                              
                                              20,836
                                              
                                              
                                              
                                              5,677Cash
      and cash equivalents, end of year
                                              
                                              $
                                              37,736
                                              
                                              
                                              $
                                              97,425
                                              
                                              
                                              $
                                              20,836Supplemental
      cash flow information:Interest
      paid
                                              
                                              $
                                              5,718
                                              
                                              
                                              $
                                              3,769
                                              
                                              
                                              $
                                              2,119Income
      tax paid
                                              
                                              $
                                              6,443
                                              
                                              
                                              $
                                              6,486
                                              
                                              
                                              $
                                              2,714Non-cash
      investing and financing activities:Purchase
      of property, plant and equipment by accounts payable
                                              
                                              $
                                              7,501
                                              
                                              
                                              $
                                              4,149
                                              
                                              
                                              $
                                              —Issuance
      of warrant in relation to the long-term debt
                                              
                                              $
                                              —
                                              
                                              
                                              $
                                              2,733
                                              
                                              
                                              $
                                              —Assets
      acquired under capital lease
                                              
                                              $
                                              5,336
                                              
                                              
                                              $
                                              —
                                              
                                              
                                              $
                                              —Business
      acquisitions by accounts payable
                                              
                                              $
                                              1,521
                                              
                                              
                                              $
                                              —
                                              
                                              
                                              $
                                              —Disposal
      of property by due from related parties
                                              
                                              $
                                              1,726
                                              
                                              
                                              $
                                              —
                                              
                                              
                                              $
                                              —




The
accompanying notes are an integral part of the consolidated financial
statements


76





SYNUTRA
INTERNATIONAL, INC.


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FISCAL
YEARS ENDED MARCH 31, 2009 AND 2008




1.
            ORGANIZATION
      AND PRINCIPAL ACTIVITIES





Directly
or through its wholly owned subsidiary, Synutra Inc., an Illinois corporation
(“Synutra Illinois”), Synutra International, Inc. (collectively with
its subsidiaries, the “Company” or “Synutra”) owns all or majority of the
equity interests of the entities in the People’s Republic of China (“China” or
“PRC”) that are principally engaged in the production, marketing and
distribution of dairy based nutritional products under the Company’s own
brands in China. The Company is a leader in sales of infant formula products in
China.





The
Company produces, markets and sells nutritional products under “Shengyuan”, or
“Synutra”, name, together with other complementary brands. The Company
focuses on selling premium infant formula products, which are supplemented by
more affordable infant formula products targeting the mass market as
well as other nutritional products, such as adult powdered formula and prepared
baby food, and certain nutritional ingredients and supplements.





2.
            SUMMARY
      OF SIGNIFICANT ACCOUNTING POLICIES





A.
            Basis
      of presentation





The
consolidated financial statements of the Company have been prepared in
accordance with accounting principles generally accepted in the United States of
America (“US GAAP”). The
accompanying consolidated financial statements have been prepared assuming the
Company will continue as a going concern. Under that assumption, it is expected
that assets will be realized and liabilities will be satisfied in the normal
course of business. Following the government announcement in mid September 2008
that formula products of the Company and 21 other manufacturers had been
contaminated with melamine, the Company conducted a compulsory recall of certain
lots of U-Smart products and a voluntary recall of all other products produced
before September 16, 2008 at the same facilities, where the Company believed the
contaminated milk supplies originated.  As a direct result of the
incident, the Company has experienced significant operating losses and negative
cash flows from operations for the fiscal year ended March 31, 2009 and, as of
March 31, 2009, has a working capital deficit of approximately $80.4 million
caused primarily by the product recall costs including cost of replacing
products, shipping charges and inventory write down/ write off, and subsequent
loss of sales. As discussed in Note 11 to the financial statements, at March 31,
2009, the Company was not in compliance with certain covenants of its loan
agreement due to the losses suffered as a result of the melamine
issue.  The occurrence of these recent economic events, the ensuing
operating losses and negative cash flows and the failure of the Company to meet
its debt covenants raise substantial doubt as to the Company's ability to
continue as a going concern.  Management is attempting to renegotiate
the terms and covenants of the loan agreement and is in the process of
evaluating funding alternatives including seeking refinance of certain
short-term loans from PRC banks. The accompanying consolidated financial
statements do not reflect any adjustments relating to the recoverability and
reclassification of assets and liabilities as that might be necessary if the
Company is unable to continue as a going concern.





B.
            Basis
      of consolidation





The
consolidated financial statements include the financial statements of Synutra
International, Inc. and its subsidiaries, its variable interest entity and its
subsidiaries. All significant inter-company accounts and transactions have been
eliminated in consolidation. The variable interest entity and its subsidiaries
have not commenced their planned operations as of March 31, 2009.





C.
            Use
      of estimates





The
preparation of financial statements in conformity with generally accepted
accounting principles in the United States of America requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements, and the reported amounts of revenue and expenses
during the reporting period. Actual results may differ from those
estimates.





D.
            Cash
      and cash equivalents





Cash and
cash equivalents consist of cash on hand and highly liquid investments which are
unrestricted as to withdrawal or use, and which have original maturities of
three months or less when purchased.





E.
            Restricted
      cash





Restricted
cash are bank demand deposits used as security against letter of credits and
short-term borrowings. This is used by the Company as a short term instrument to
reduce financing cost.


77





F.
            Account
      receivables





Trade
receivables are recognized and carried at the original invoice amount less
allowance for any uncollectible amounts. An estimate for doubtful accounts is
made when collection of the full amount is no longer probable. Bad debts are
written off as incurred.





G.
            Inventories





Inventories
are stated at the lower of cost or market. Cost is calculated on the
moving-average basis and includes all costs to acquire and other costs incurred
in bringing the inventories to their present location and condition. The Company
evaluates market of its inventories on a regular basis and records a provision
for loss to reduce the computed weighted-average cost if it exceeds market.
Potential losses from obsolete and slow-moving inventories are recorded when
identified. Market is current replacement cost, which does not exceed the net
realizable value, that is, estimated selling price in the ordinary course of
business less reasonable predictable cost of completion and disposal, and is not
less than net realizable value reduced by an allowance for normal profit
margin.





H.
            Land
      use rights, net





There is
no private land ownership in China. Companies or individuals are authorized to
possess and use the land only through land use rights granted by the PRC
government. Land use rights are amortized using the straight-line method over
the lease term of 20 to 50 years.





I.
            Property,
      plant and equipment, net





Property,
plant and equipment are carried at cost. The cost of repairs and maintenance is
expensed as incurred; major replacements and improvements are
capitalized.





When
assets are retired or disposed of, the cost and accumulated depreciation are
removed from the accounts, and any resulting gains or losses are included in
income in the year of disposition.





Depreciation
is calculated on a straight-line basis over the estimated useful lives of the
assets or, when applicable, the life of the lease, whichever is shorter. The
useful lives for property, plant and equipment are as follows:




Buildings
                20
      - 40 yearsPlant
      and machinery
                5 - 10 yearsOffice
      equipment and furnishings
                3 -
      5 yearsMotor
      vehicles
                5
      yearsOthers
                5
      years





J.
            Leases





Leases
are classified as capital or operating leases. A lease that transfers to the
lessee substantially all the benefits and risks incidental to ownership is
classified as a capital lease. At inception, a capital lease is recorded at
present value of minimum lease payments or the fair value of the asset,
whichever is less. Assets under capital leases are amortized on a basis
consistent with that of similar fixed assets or the lease term, whichever is
less. Operating lease costs are recognized on a straight-line basis over the
lease term.





K.
            Construction
      in progress





Construction
in progress represents direct costs of construction or acquisition and design
fees incurred. Capitalization of these costs ceases and the construction in
progress is transferred to plant and equipment when substantially all the
activities necessary to prepare the assets for their intended use are completed.
No depreciation is provided until it is completed and ready for intended
use.





The
capitalized interest recognized up to March 31, 2009, 2008 and 2007 was
$1.4 million, $848,000 and $726,000 respectively, associated with construction
in progress.


78





L.
            Impairment
      of long-lived assets





The
Company evaluates its long-lived assets for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset may not
be recoverable. When these events occur, the Company measures impairment by
comparing the carrying amount of the assets to future undiscounted net cash
flows expected to result from the use of the assets and their eventual
disposition. If the sum of the expected undiscounted cash flow is less than the
carrying amount of the assets, the Company would recognize an impairment loss
based on the fair value of the assets.





M.
            Impairment
      of goodwill and indefinite lived intangible
  assets





SFAS
No. 142 requires the Company to complete a two-step goodwill impairment
test. The first step compares the fair value of each reporting unit to its
carrying amount, including goodwill and indefinite lived intangible assets. If
the fair value of each reporting unit exceeds its carrying amount, goodwill is
not considered to be impaired and the second step will not be required. If the
carrying amount of a reporting unit exceeds its fair value, the second step
compares the implied fair value of goodwill and indefinite lived intangible
assets to the carrying value of a reporting unit’s goodwill. The implied fair
value of goodwill is determined in a manner similar to accounting for a business
combination with the allocation of the assessed fair value determined in the
first step to the assets and liabilities of the reporting unit. The excess of
the fair value of the reporting unit over the amounts assigned to the assets and
liabilities is the implied fair value of goodwill. This allocation process is
only performed for purposes of evaluating goodwill impairment and does not
result in an entry to adjust the value of any assets or liabilities. An
impairment loss is recognized for any excess in the carrying value of goodwill
over the implied fair value of goodwill.





Intangible
assets with an indefinite life are tested for impairment annually or more
frequently if events or changes in circumstances indicate that the asset might
be impaired. The impairment test consists of a comparison of the fair value of
the intangible asset to its carrying amount. If the carrying amount exceeds the
fair value, an impairment loss is recognized equal in amount to that
excess.





Management
performs its annual goodwill impairment test on March 31. No goodwill or
indefinite lived intangible assets have been impaired during any of the periods
presented.





N.
            Related
      parties





Parties
are considered to be related if one party has the ability, directly or
indirectly, to control the other party or exercise significant influence over
the other party in making financial and operational decisions. Parties are also
considered to be related if they are subject to common control or common
significant influence. Related parties may be individuals or corporate
entities.





The
following entities are considered to be related parties to the Company because
they are affiliates of the Company under the common control of the Company’s
major shareholder. These related parties act only as the Company’s suppliers or
distributors and there are no other relationships wherein the Company has the
ability to exercise significant influence over the operating and financial
policies of these parties. The Company is not obligated to provide any type of
financial support to these related parties. The related parties were excluded
from consolidation due to equity structure and other business reasons. The
economic substance of each entity apart from its relationship with the Company
is discussed in the table below:




Related
      Party
                
                Economic
      SubstanceSheng
      Zhi Da Dairy Group Corporation (“Sheng Zhi Da”)
                
                Engages
      in buying and selling packaging materials, vitamin and mineral pre-mixes,
      and other food ingredients.Beijing
      Kelqin Dairy Co. Ltd. (“Kelqin”)
                
                Produces
      and distributes retail-packaged yogurt products in
  Beijing.St.
      Angel (Beijing) Business Service Co., Ltd. (“St. Angel”)
                
                Publishes
      catalogues and engages in advertising and direct marketing of consumer
      products featured in catalogues.Beijing
      Honnete Dairy Co., Ltd. (“Honnete”)
                
                Engages
      in importing and distributing whey protein products to commercial
      customers.Beijing
      Ao Naier Feed Stuff LLC (“Ao Naier”)
                
                Engages
      in buying and selling whey protein and other protein substitutes. Ao Naier
      became an unrelated party since January 2008.Beijing
      Luding Xueyuan Trading Co., Ltd. (“Luding Xueyuan”)
                
                Operates
      retail shelf spaces in supermarkets in Beijing. Luding Xueyuan became an
      unrelated party since January 2008.Qingdao
      Luyin Waste Disposal Investment Management Co., Ltd.
    (“Luyin”)
                
                Engages
      in waste disposal and sewage treatmentactivities.




79





O.
            Income
      taxes





The
Company accounts for income taxes in accordance with SFAS No. 109,
“Accounting for Income Taxes,” which requires recognition of deferred tax
liabilities and assets for the expected future tax consequences of events that
have been included in the financial statements or tax returns. Under this
method, deferred tax liabilities and assets are determined based on the
temporary difference between the financial statement and tax basis of assets and
liabilities using presently enacted tax rates in effect. Valuation allowances
are established when necessary to reduce deferred tax assets to the amounts
expected to be realized.





In July
2006, the Financial Accounting Standard Board (“FASB”) issued Financial
Interpretation (“FIN”) No. 48, “Accounting for Uncertainty in Income
Taxes,” which clarifies the accounting for uncertainty in income taxes
recognized in the financial statements in accordance with
SFAS No. 109, “Accounting for Income Taxes.” FIN No. 48
provides that a tax benefit from an uncertain tax position may be recognized
when it is more likely than not that the position will be sustained upon
examination, including resolutions of any related appeals or litigation
processes, based on the technical merits. Income tax positions must meet a
more-likely-than-not recognition threshold at the effective date to be
recognized upon the adoption of FIN 48 and in subsequent periods. This
interpretation also provides guidance on measurement, derecognition,
classification, interest and penalties, accounting in interim periods,
disclosure and transition. FIN 48 is effective for fiscal years beginning
after December 15, 2006.





The
Company adopted the provisions of FASB Interpretation No. 48, Accounting
for Uncertainty in Income Taxes, on April 1, 2007. As a result of the
implementation of Interpretation 48, the Company recognized approximately a
$375,000 increase in the liability for unrecognized tax benefits, which was
accounted for as a reduction to the April 1, 2007 balance of retained
earnings. Note 14 further describes the impact of the adoption of
FIN No. 48 - an interpretation of FASB Statement
No. 109.





The
Company recognizes interest and penalties related to unrecognized tax benefits
within the income tax expense line in the accompanying consolidated statement of
operations. Accrued interest and penalties are included within the related tax
liability line in the consolidated balance sheet.





P.
            Foreign
      currency translation





The
functional currency and reporting currency of Synutra International Inc. and
Synutra Illinois are United States Dollar (“US Dollar”). Monetary assets and
liabilities denominated in currencies other than the US dollar are translated
into US dollar at the rates of exchange ruling at the balance sheet date.
Transactions in currencies other than the US dollar during the year are
converted into the US dollar at the applicable rates of exchange prevailing on
the day transactions occurred. Transaction gains and losses are recognized in
the statements of operations.





The
financial records of the Company’s PRC subsidiaries are maintained in Renminbi
(“RMB”) which are their functional currency. Assets and liabilities are
translated at the exchange rates at the balance sheet date, equity accounts are
translated at historical exchange rates and revenues, expenses, gains and losses
are translated using the average rate for the year. Translation adjustments are
reported as cumulative translation adjustments and are shown as a separate
component of accumulated other comprehensive income in the statement of
shareholders’ equity.





In July
2005, the PRC began to value the RMB against a basket of currencies of its major
trading partners, including the U.S. This measure has allowed the RMB to
fluctuate within a narrow band vis a vis the U.S. dollar. Since the adoption of
this managed flexible exchange rate policy, the RMB has been under pressure to
appreciate against the U.S. dollar. This has affected the changes in the foreign
currency translation gain (loss) as reflected in other income (expense),
net of $(252,000), $(1,110,000) and $38,000 for the fiscal years ended
March 31, 2009, 2008 and 2007, respectively.








80




Q.
            Revenue
      recognition





The
Company recognizes revenue when title and risk and rewards for the products are
transferred to the customer, price is fixed or determinable, and collectibility
is reasonably assured. At the time of sale, the Company also records estimates
for a variety of sales deductions, including value added taxes, rebates,
discounts and incentives, trade promotions and product returns. Sales deductions
are reported as a reduction of revenue. Most of the Company’s nutritional
product sales are made through distributors. The Company’s revenue arrangement
with most of its distributors requires distributor advance payment prior to any
shipment and delivery of goods by the Company to such distributors. Under this
distributor arrangement, evidenced by purchase order together with advance
payment, sales revenue is realized and earned upon acceptance of delivery of
products by the distributors. The Company applies this revenue recognition
policy uniformly to all nutritional products, including all dairy-based
pediatric and adult nutritional products.





A small
fraction of the Company’s nutritional product sales are through supermarket
retailers directly. The Company’s revenue arrangement with some of these
retailers includes right of return clause. The Company’s price to the
supermarkets is fixed. The supermarkets’ obligation to the Company would not be
changed in the event of theft or physical destruction or damage of the product.
The Company recognizes revenue when the supermarkets have paid the Company, or
the supermarkets are obligated to pay the Company and the obligation is not
contingent on resale of the product. The amount of future returns are estimated
and recognized in the current period.





The
Company’s gross sales are subject to various deductions, primarily comprised of
rebates and discounts to distributors and retailers. These deductions represent
estimates of the related obligations, requiring the use of judgment when
estimating the impact of these sales deductions on gross sales for a reporting
period. The Company reports these adjustments as a reduction of gross sales to
arrive at net sales.




•
              The
      Company offers rebates to distributors and supermarket retailers to
      sustain and increase the Company’s product market share. These rebate
      programs provide that distributors and supermarket retailers receive a
      rebate after attaining certain performance parameters relating to product
      purchases, formulary status and/or pre-established market share milestones
      relative to competitors. Since rebates are contractually agreed upon, the
      Company estimate rebates based on the specific terms in each agreement,
      historical experience, anticipated reimbursement channel mix and product
      growth rates. The Company considers the sales performance of products
      subject to rebates and other contract discounts and adjusts the provision
      periodically to reflect actual experience. Actual amount may differ if the
      level of redemption rates and performance vary from estimates. The Company
      records rebates as a reduction of revenues in the year in which these
      programs are offered.
  •
              The Company records a provision for estimated
      sales returns due to package damage, merchandise slow moving at certain
      retail customer shelf, and termination of distributorships, which the
      Company estimates through a comparison of historical return data to
      related sales. The Company uses historical rates of return and adjusts for
      known or expected changes in the marketplace when appropriate. The sales
      return amount represents management’s best estimates based on the
      available information at the time of estimate is
    made.
  •
              For product sales and promotions at
      supermarkets and shopping malls, certain expenses in relation to shelf
      display, end-cap placement, bar-coding, banner advertising, etc. are paid
      to supermarkets and shopping mall operators. These expenses are deducted
      from revenues in accordance with EITF 01-9 “Accounting for Consideration
      Given by a Vendor to a Customer (Including a Reseller of the Vendor’s
      Product)”.




R.
            Shipping
      and handling costs





All
shipping and handling costs are expensed as incurred and outbound freight is not
billed to customers. Shipping and handling costs are included in selling and
distribution expenses. The expenses were $7.4 million, $6.7 million and $4.0
million for the fiscal years ended March 31, 2009, 2008 and 2007,
respectively.





S.
            Advertising
      and promotion expenses





Advertising
and promotion expenses include advertising expenses, promotion staff salaries
and promotion product expenses. Advertising expenses were $72.8 million,
$30.3 million and $16.4 million for the fiscal years ended March 31, 2009,
2008 and 2007, respectively.


81





T.
            Government
      subsidies





Government
grants for revenue and/or expenses should be recognized in income when the
related revenue and/or expense are recorded. Government grants related to
property, plant, and equipment should be netted against the depreciation expense
of the related assets over the useful lives of these assets. Government
subsidies relating to specific borrowings are recorded as an offset to the
interest expense over the term of these borrowings. Unrestricted government
subsidies from local governmental agencies allowing the Company full discretion
in the fund utilization were $5.8 million, $1.5 million and $1.1 million for the
fiscal years ended March 31, 2009, 2008 and 2007, respectively, which was
recorded in other operating income in the consolidated statements of income. In
addition, the Company received $4.6 million (RMB 32.0 million) of government
subsidy in fiscal year 2007 which was directly related to the manufacturing
facility construction. Such subsidy was recorded in deferred revenue and will be
amortized to offset the depreciation expenses associated with the underlining
property.





U.
            Employee’s
      benefits





Mandatory
contributions are made to the Government’s health, retirement benefit and
unemployment schemes at the statutory rates in force during the period, based on
gross salary payments. The cost of these payments is charged to the statement of
income in the same period as the related salary cost.





V.
            Comprehensive
      income (loss)





The
Company has adopted the provisions of Statement of Financial Accounting
Standards No. 130, “Reporting Comprehensive Income” (“SFAS No. 130”).
SFAS No. 130 establishes standards for the reporting and display of
comprehensive income, its components and accumulated balances in a full set of
general-purpose financial statements. SFAS No. 130 defines comprehensive
income to include all changes in equity except those resulting from investments
by owners and distributions to owners, including adjustments to accumulated
foreign currency translation.





W.
            Fair
      value of financial instruments





The
carrying value of financial instruments including cash, receivables, accounts
payable, accrued expenses and debt, approximates their fair value at
March 31, 2009 and 2008 due to the relatively short-term nature of these
instruments. The carrying value of long-term debt approximates its fair value as
it bears variable interest rate which reflects the current market yield level
for comparable loans. The carrying value of long term receivable approximates
its fair value as it represents the present value of future payments to be
received.





On April
1, 2008, the Company adopted SFAS No. 157, Fair Value Measurements (“SFAS 157”)
that was not delayed by FASB Staff Position FAS 157-2 (“FSP FAS 157-2”). FSP FAS
157-2 delays the effective date of SFAS 157 as it applies to non-financial
assets and liabilities that are not required to be measured at fair value on a
recurring (at least annual) basis. As a result of the delay, SFAS 157 will be
applied to the Company’s non-financial assets and liabilities effective on April
1, 2009. SFAS 157 defines fair value as the price that would be received to sell
an asset or paid to transfer a liability in an orderly transaction between
market participants at the measurement date (also referred to as an exit price).
SFAS 157 also establishes a three-level fair value hierarchy for classifying
financial instruments that is based on whether the inputs to the valuation
techniques used to measure fair value are observable or unobservable. The three
levels of the SFAS 157 fair value hierarchy are described below:





Level
      1:
              Quoted
      prices (unadjusted) in active markets for identical assets or
      liabilities.





Level
      2:
              Observable
      market-based inputs, other than quoted prices in active markets for
      identical assetsor
liabilities.





Level
      3:
              Unobservable
      inputs.





As of
March 31, 2009, the Company did not have any financial assets or liabilities
that were measured at fair value on a recurring basis subsequent to initial
recognition.





X.
            Concentration
      of credit risk





Financial
instruments that potentially subject the Company to significant concentrations
of credit risk consist primarily of trade accounts receivable. The Company
performs ongoing credit evaluations with respect to the financial condition of
its creditors, but does not require collateral. In order to determine the value
of the Company’s accounts receivable, the Company records a provision for
doubtful accounts to cover probable credit losses. Management reviews and
adjusts this allowance periodically based on historical experience and its
evaluation of the collectibility of outstanding accounts
receivable.





Y.
            Segment
      reporting





The
Company expanded the number of reportable segments from one to three in order to
better reflect the manner in which management analyzes the Company’s performance
including powdered formula, baby food, and nutritional ingredients and
supplements. For more information, see Note 17 to these Consolidated
Financial Statements.




82





Z.
            Recently
      issued accounting pronouncements





In
December 2007, the FASB issued SFAS No. 141, “Business Combinations: (Revised
2007)” (“SFAS 141R”). SFAS 141R is relevant to all transactions or events in
which one entity obtains control over one or more other businesses. SFAS 141R
requires an acquirer to recognize any assets and noncontrolling interest
acquired and liabilities assumed to be measured at fair value as of the
acquisition date. Liabilities related to contingent consideration are recognized
and measured at fair value on the date of acquisition rather than at a later
date when the amount of the consideration may be resolved beyond a reasonable
doubt. This revised approach replaces SFAS 141, “Business Combinations” (“SFAS
141”) cost allocation process in which the cost of an acquisition was allocated
to the individual assets acquired and liabilities assumed based on their
respective fair value. SFAS 141R requires any acquisition-related costs and
restructuring costs to be expensed as incurred as opposed to allocating such
costs to the assets acquired and liabilities assumed as previously required by
SFAS 141. Under SFAS 141R, an acquirer recognizes liabilities for a
restructuring plan in purchase accounting only if the requirements of SFAS No.
146, “Accounting for Costs Associated with Exit or Disposal Activities”, are
met. SFAS 141R allows for the recognition of pre-acquisition contingencies at
fair value only if these contingencies are likely to materialize. If this
criterion is not met at the acquisition date, then the acquirer accounts for the
non-contractual contingency in accordance with recognition criteria set forth
under SFAS No. 5, “Accounting for Contingencies”, in which case no amount should
be recognized in purchase accounting. SFAS 141R is effective as of the beginning
of an entity’s first fiscal year that begins after December 15, 2008 with the
exception of the accounting for valuation allowances on deferred taxes and
acquired tax contingencies. SFAS 141R amends SFAS 109, “Accounting for Income
Taxes,” such that adjustments made to valuation allowances on deferred taxes and
acquired tax contingencies associated with acquisitions that closed prior to the
effective date of SFAS 141R would also apply the provisions of SFAS 141R. The
Company is currently evaluating the impact, if any, of this statement on its
consolidated financial statements.





In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements” to improve the relevance, comparability, and
transparency of financial information provided to investors by requiring all
entities to report noncontrolling (minority) interests in subsidiaries in the
same way as required in the consolidated financial statements. Moreover, SFAS
No. 160 eliminates the diversity that currently exists in accounting for
transactions between an entity and noncontrolling interests by requiring they be
treated as equity transactions. SFAS No. 160 is effective for fiscal years, and
interim periods within those fiscal years, beginning on or after December 15,
2008. Earlier adoption is prohibited. The Company is currently evaluating
whether the adoption of SFAS No. 160 will have a significant effect on its
consolidated financial position, results of operations or cash
flows.





In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments
and Hedging Activities - an Amendment of FASB Statement 133.” SFAS No. 161
provides new disclosure requirements for an entity’s derivative and hedging
activities. SFAS No. 161 is effective for periods beginning after November 15,
2008. The Company has not yet determined the impact on its consolidated
financial statements of adopting SFAS No. 161.





In April
2008, the FASB issued Staff Position No. FAS 142-3, “Determination of the Useful
Life of Intangible Assets” (FSP FAS 142-3). This position amends the factors an
entity should consider when developing renewal or extension assumptions used in
determining the useful life over which to amortize the cost of a recognized
intangible asset under SFAS No. 142, “Goodwill and Other Intangible Assets.” FSP
FAS 142-3 requires an entity to consider its own historical experience in
renewing or extending similar arrangements in determining the amortizable useful
life. Additionally, this position requires expanded disclosures related to the
determination of intangible asset useful lives. FSP FAS 142-3 is effective for
fiscal years beginning after December 15, 2008, and may impact any intangible
assets the Company acquires in future transactions. The guidance for determining
the useful life of a recognized intangible asset must be applied prospectively
to intangible assets acquired after the effective date. The disclosure
requirements, though, shall be applied prospectively to all intangible assets
recognized as of the effective date. Early adoption is prohibited. The Company
expects to adopt FSP FAS 142-3 as of April 1, 2009.





In May
2008, the FASB issued SFAS No. 162, "The Hierarchy of Generally Accepted
Accounting Principles" (FAS 162). FAS 162 identifies the sources of accounting
principles and the framework for selecting the principles used in the
preparation of financial statements. FAS 162 is effective 60 days following SEC
approval.





In June
2008, the FASB ratified EITF Issue 07-5, “Determining Whether an Instrument (or
Embedded Feature) Is Indexed to an Entity’s Own Stock” (“EITF 07-5”). This Issue
addresses the determination of whether an instrument (or an embedded feature) is
indexed to an entity’s own stock. The EITF will be effective for years beginning
after December 15, 2008. The Company is currently evaluating whether the
adoption of EITF Issue 07-5 will have a significant effect on its consolidated
financial position, results of operations or cash flows.


83


At the
November 24, 2008 meeting, the FASB ratified the reached in EITF Issue
No. 08-7, “Accounting for Defensive Intangible Assets” (“EITF 08-7”).
EITF 08-7 requires entities that will acquire a defensive intangible asset
after the effective date of Statement 141(R), to account for the acquired
intangible asset as a separate unit of accounting and amortize the acquired
intangible asset over the period during which the asset would diminish in value.
EITF 08-7 is effective for defensive intangible assets acquired in fiscal
years beginning on or after December 15, 2008. The Company is currently
evaluating the impact of this statement on its consolidated financial
statements.





On April
1, 2009, the FASB issued FASB Staff Position ("FSP") No. 141(R)-1, Accounting
for Assets Acquired and Liabilities Assumed in a Business Combination That Arise
from Contingencies (“FSP 141(R)-1”), which amends the guidance in SFAS 141R to
establish a model for pre-acquisition contingencies that is similar to the one
entities used under SFAS 141. Under the FSP, an acquirer is required to
recognize at fair value an asset acquired or a liability assumed in a business
combination that arises from a contingency if the acquisition-date fair value of
that asset or liability can be determined during the measurement period. If the
acquisition-date fair value cannot be determined, then the acquirer follows the
recognition criteria in SFAS 5 Accounting for Contingencies and FIN 14
Reasonable Estimation of the Amount of a Loss—an interpretation of FASB
Statement No. 5 to determine whether the contingency should be recognized as of
the acquisition date or after it. The FSP is effective for business combinations
whose acquisition date is on or after the beginning of the first annual
reporting period beginning on or after December 15, 2008. The adoption of FSP
141(R)-1 will change the Company’s accounting treatment for business
combinations on a prospective basis beginning on April 1, 2009.





On April
9, 2009, the FASB issued FSP FAS 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 ("FSP 157-4"). FSP 157-4
provides additional guidance for estimating fair value in accordance with FASB
157 when the volume and level of activity for the asset or liability have
significantly decreased. This FSP also includes guidance on identifying
circumstances that indicate a transaction is not orderly. The FSP will be
effective for the Company for interim and annual periods beginning July 1, 2009.
The Company does not expect the adoption of FSP 157-4 to have a material impact
on the Company's consolidated financial statements or the fair values of its
financial assets and liabilities.





On April
9, 2009, the FASB issued FASB Staff Position No. FAS 107-1 and APB 28-1, Interim
Disclosures about Fair Value of Financial Instruments (“FSP FAS 107-1 and APB
28-1”), to require disclosures about fair value of financial instruments for
interim reporting periods of publicly traded companies as well as in annual
financial statements. This FSP also amends APB Opinion No. 28, Interim Financial
Reporting, to require those disclosures in summarized financial information at
interim reporting periods. The FSP will be effective for the Company for interim
and annual periods beginning July 1, 2009.





In May
2009, the FASB issued Statement of Financial Accounting Standards No. 165, "Subsequent Events" (SFAS
No.165).  SFAS 165 establishes 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. Specifically,
SFAS 165 provides (i) the period after the balance sheet date during which
management of a reporting entity should evaluate events or transactions that may
occur for potential recognition or disclosure in the financial statements; (ii)
the circumstances under which an entity should recognize events or transactions
occurring after the balance sheet date in its financial statements; and (iii)
the disclosures that an entity should make about events or transactions that
occurred after the balance sheet date. SFAS 165 is effective for interim or
annual financial periods ending after June 15, 2009 and shall be applied
prospectively.





AA.
            Changes
      in Presentation





Certain
prior year amounts have been reclassified to conform to the current year
presentation.


84





3.
            BUSINESS
      COMBINATION





On
October 8, 2008, the Company acquired certain assets from Beijing Huilian Food
Co., Ltd. (“Huilian”) which is a provider of prepared baby food in mainland
China, with total consideration of RMB 45 million (approximately US$ 6.6
million). As a result of the acquisition, the Company has expanded into the
production of prepared baby food beginning with the fiscal quarter ended March
31, 2009. For accounting purposes, the acquisition has been accounted for as a
business combination in accordance with SFAS No. 141. Under the purchase method
of accounting, the assets acquired and liabilities assumed from Huilian are
recorded at the date of acquisition at their respective fair values. Financial
statements and reported results of operations of the company have reflected
these values, with the results of Huilian included from October 8, 2008, in the
consolidated statements of income.





The
following table summarizes the estimated fair values of the assets acquired and
liabilities assumed at the date of acquisition.




(In thousands)Property,
      plant and equipment
                      
                      $
                      1,870Land
      use right
                      
                      
                      1,697Intangible
      assets
                      
                      
                      1,582Goodwill
                      
                      
                      1,435Total
                      
                      $
                      6,584





Of the
$1.6 million of intangible assets acquired, $0.3 million was assigned to
registered trademarks that are not subject to amortization; $0.4 million was
assigned to know-how that have a useful life of approximately 5 years; $0.9
million was assigned to a customer relationship that was written off at the date
of acquisition as the Company did not intend to utilize such asset and the
write-off was included in selling and distribution expense. Acquired
identifiable intangible assets have been allocated to the Baby Food reporting
segment.





Goodwill
of $1.4 million arising from this acquisition was assigned to the Baby Food
segment. The impairment test of goodwill will be performed at the last day of
each fiscal year or upon the occurrence of certain events and change in
circumstances as required by SFAS 142.





4.
            PRODUCT
      RECALL





On
September 16, 2008, the Company announced a compulsory recall on certain lots of
U-Smart products and a voluntary recall of other products that were contaminated
or suspected to be contaminated by melamine, a substance not approved for use in
food and linked to recent illnesses among infants and children in China. The
cost of this action during the year ended March 31, 2009 was $101.5 million,
including the cost of product replacement of $48.1 million in cost of sales, the
write-down and write-off of affected inventory of $48.5 million in cost of
sales, the net amount of $2.3 million to a compensation fund set up by China
Dairy Industry Association to settle existing and potential claims arising in
China from families of infants affected by melamine contamination in general and
administrative expenses, and freight charges of $2.6 million in selling and
distribution expenses, of which $4.5 million was recorded as a product recall
provision in the consolidated balance sheet as of March 31, 2009. These costs
represent the Company’s estimate of probable costs based on available data and
take into account factors such as expected return rates for the affected units,
unit replacement costs, logistical expenses and expenses relating to the hiring
of temporary contractors to assist with the Company’s recall
efforts.





Should
actual product recall costs differ from the estimated costs, the Company would
have to reassess the impact of the product recall on the Company’s financial
results and revise the estimated product recall accrual accordingly. Following
is a summary of the liabilities related to the product recall that were recorded
during the fiscal year ended March 31, 2009:




(In thousands)Balance
      at April 1, 2008
                    
                    $
                    —Product
      recall expenses
                    
                    
                    53,038Replacement
      of products
                    
                    
                    (44,002
                    )Payment
      of cash, net
                    
                    
                    (4,395
                    )Foreign
      currency translation
                    
                    
                    (94
                    )Balance
      at March 31, 2009
                    
                    $
                    4,547


85





5.
            INVENTORIES





The
Company’s inventories at March 31, 2009 and 2008 are summarized as
follows:




March 31,
                              2009
                            
                            
                            March 31,
                              2008(In
      thousands)Raw
      materials
                            
                            $
                            96,361
                            
                            
                            $
                            30,550Work-in-progress
                            
                            
                            11,739
                            
                            
                            
                            16,786Finished
      goods
                            
                            
                            6,624
                            
                            
                            
                            14,517Total
      Inventories
                            
                            $
                            114,724
                            
                            
                            $
                            61,853


6.
            DUE
      FROM (TO) RELATED PARTIES AND RELATED PARTY
  TRANSACTIONS





A.
            Classification
      of related party balances by name


a.
            Due
      from related parties




March 31,
                              2009
                            
                            March 31,
                              2008(In
      thousands)Sheng
      Zhi Da Dairy Group Corporation
                            
                            $
                            1,726
                            
                            
                            $
                            —Beijing
      Honnete Dairy Co., Ltd.
                            
                            
                            737
                            
                            
                            
                            —Total
      Due from Related Companies
                            
                            $
                            2,463
                            
                            
                            $
                            —




In June
2008, the Company sold two commercial buildings, one of which was classified as
assets held for sale as of March 31, 2008, to Sheng Zhi Da Dairy Group
Corporation, an entity 100% controlled by the Company’s CEO, at the carrying
value of $1.7 million. The amount represents the balance due from Sheng Zhi Da
Dairy Group Corporation as of March 31, 2009.





b.
            Due
      to related parties




March 31,
                              2009
                            
                            
                            March 31,
                              2008(In
      thousands)Sheng
      Zhi Da Dairy Group Corporation
                            
                            
                            2,113
                            
                            
                            
                            2,404St.
      Angel (Beijing) Business Service Co., Ltd.
                            
                            
                            2
                            
                            
                            
                            4Beijing
      Honnete Dairy Co., Ltd.
                            
                            
                            3,057
                            
                            
                            
                            562Total
      Due to Related Companies
                            
                            $
                            5,172
                            
                            
                            $
                            2,970




The
Company had certain related party borrowings. See Note 11. Except for the
related party borrowings, the amount due to and due from related parties were
unsecured and interest free.


86





B.
            Sales
      to related parties





In the
fiscal years ended March 31, 2009, 2008 and 2007, the Company’s sales to the
related parties mainly included industrial milk powder to Kelqin, Luding Xueyuan
and Baoquanling; whey protein to Honnete; milk fat and non-fat dry milk to
Kelqin and Honnete; formulation ingredients to Ao Naier, BQL and Luding
Xueyuan.





The
following tables categorize sales to related companies as main product sales and
ancillary product sales as presented in the income statements:





a.
            Main
      product sales to related parties




Year
      Ended March 31,2009
                          
                          2008
                          
                          2007(In
      thousands)Beijing
      Kelqin Dairy Co., Ltd.
                          
                          $
                          —
                          
                          
                          $
                          —
                          
                          
                          $
                          5,230Beijing
      Luding Xueyuan Trading Co., Ltd.
                          
                          
                          —
                          
                          
                          
                          1,497
                          
                          
                          
                          686Heilongjiang
      Baoquanling Shengyuan Dairy Co., Ltd.
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          637Total
                          
                          $
                          —
                          
                          
                          $
                          1,497
                          
                          
                          $
                          6,553


b.
            Ancillary
      product sales to related parties




Year
      Ended March 31,2009
            
            
            2008
            
            
            2007(In
      thousands)Beijing
      Honnete Dairy Co., Ltd.
            
            $
            2,255
            
            
            $
            —
            
            
            $
            6,128Beijing
      Kelqin Dairy Co., Ltd.
            
            
            —
            
            
            
            143
            
            
            
            311Heilongjiang
      Baoquanling Shengyuan Dairy Co., Ltd.
            
            
            —
            
            
            
            —
            
            
            
            3,401Beijing
      Ao Naier Feed Stuff LLC
            
            
            —
            
            
            
            —
            
            
            
            130Beijing
      Luding Xueyuan Trading Co., Ltd.
            
            
            —
            
            
            
            —
            
            
            
            260St.Angel
      (Beijing) Business Service Co., Ltd.
            
            
            —
            
            
            
            —
            
            
            
            32Total
            
            $
            2,255
            
            
            $
            143
            
            
            $
            10,262Total
      of main product and ancillary product sales to related
      companies
            
            $
            2,255
            
            
            $
            1,640
            
            
            $
            16,815




C.
            Purchases
      from related parties





In the
fiscal year ended March 31, 2009, 2008 and 2007, the Company’s purchases from
related parties included whey protein powders from Kelqin and Honnete,
spray-dried milk powder from BQL, and catalogues, brochures, and marketing
materials from St. Angel.




Year
      Ended March 31,2009
                          
                          2008
                          
                          2007(In
      thousands)Beijing
      Honnete Dairy Co., Ltd.
                          
                          $
                          10,376
                          
                          
                          $
                          17,862
                          
                          
                          $
                          11,460St.
      Angel (Beijing) Business Service Co., Ltd.
                          
                          
                          1,639
                          
                          
                          
                          988
                          
                          
                          
                          19Beijing
      Kelqin Dairy Co., Ltd.
                          
                          
                          154
                          
                          
                          
                          3,286
                          
                          
                          
                          3,033Heilongjiang
      Baoquanling Shengyuan Dairy Co., Ltd.
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          15,139Total
                          
                          $
                          12,169
                          
                          
                          $
                          22,136
                          
                          
                          $
                          29,651




87





7.
            PREPAID
      EXPENSES AND OTHER CURRENT ASSETS




March 31,
                            2009
                          
                          
                          March 31,
                            2008(In
      thousands)Staff
      advance
                          
                          $
                          —
                          
                          
                          $
                          96Advance
      to suppliers
                          
                          
                          584
                          
                          
                          
                          2,338Prepaid
      advertising expense
                          
                          
                          535
                          
                          
                          
                          5,656Receivable
      due to disposal of a subsidiary
                          
                          
                          870
                          
                          
                          
                          972Other
      tax receivable
                          
                          
                          3,148
                          
                          
                          
                          —Subsidy
      receivable
                          
                          
                          5,060
                          
                          
                          
                          —Others
                          
                          
                          3,239
                          
                          
                          
                          1,738Total
                          
                          $
                          13,436
                          
                          
                          $
                          10,800


8.
            PROPERTY,
      PLANT AND EQUIPMENT, NET




March 31,
                                    2009
                                  
                                  
                                  March 31,
                                    2008(In
      thousands)Property,
      plant and equipment, cost:Buildings
                                  
                                  $
                                  51,693
                                  
                                  
                                  $
                                  27,004Plant
      and machinery
                                  
                                  
                                  65,020
                                  
                                  
                                  
                                  38,430Office
      equipment and furnishings
                                  
                                  
                                  3,076
                                  
                                  
                                  
                                  2,534Motor
      vehicles
                                  
                                  
                                  2,963
                                  
                                  
                                  
                                  1,340Others
                                  
                                  
                                  543
                                  
                                  
                                  
                                  348Total
      cost
                                  
                                  $
                                  123,295
                                  
                                  
                                  $
                                  69,656Less:
      Accumulated depreciation:Buildings
                                  
                                  
                                  4,472
                                  
                                  
                                  
                                  2,831Plant
      and machinery
                                  
                                  
                                  11,804
                                  
                                  
                                  
                                  6,933Office
      equipment and furnishings
                                  
                                  
                                  1,183
                                  
                                  
                                  
                                  705Motor
      vehicles
                                  
                                  
                                  885
                                  
                                  
                                  
                                  545Others
                                  
                                  
                                  273
                                  
                                  
                                  
                                  197Total
      accumulated depreciation
                                  
                                  
                                  18,617
                                  
                                  
                                  
                                  11,211Construction
      in progress
                                  
                                  
                                  39,803
                                  
                                  
                                  
                                  27,274Property,
      plant and equipment, net
                                  
                                  $
                                  144,481
                                  
                                  
                                  $
                                  85,719




Construction
in progress primarily represents the construction of manufacturing facilities
and related equipment, and administrative buildings.




The
Company recorded depreciation expense of $7.5 million, $4.6 million and $1.8
million for the fiscal years ended March 31, 2009, 2008 and 2007,
respectively.





9.
            LAND
      USE RIGHTS, NET




March 31,
                            2009
                          
                          
                          March 31,
                            2008(In
      thousands)Land
      use rights, cost
                          
                          $
                          6,757
                          
                          
                          $
                          4,744Less:
      Accumulated amortization
                          
                          
                          383
                          
                          
                          
                          248Land
      use rights, net
                          
                          $
                          6,374
                          
                          
                          $
                          4,496




The
Company recorded amortization expense of $128,000, $80,000 and $40,000 for the
fiscal years ended March 31, 2009, 2008 and 2007,
respectively.


88





10.
            INTANGIBLE
      ASSETS, NET





March 31, 2009*Gross
                            Carrying
                            Amount
                          
                          
                          Accumulated
                            Amortization
                          
                          
                          Write-off
                          
                          
                          Net Carrying
                            Amount(In thousands)Know-how
      (5-year useful life)
                          
                          $
                          398
                          
                          
                          $
                          40
                          
                          
                          $
                          —
                          
                          
                          $
                          358Customer
      relationship
                          
                          
                          880
                          
                          
                          
                          —
                          
                          
                          
                          880
                          
                          
                          
                          —Registered
      trademark (indefinite life)
                          
                          
                          2,778
                          
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          2,778$
                          4,056
                          
                          
                          $
                          40
                          
                          
                          $
                          880
                          
                          
                          $
                          3,136


* Nil
figures for the comparable periods in fiscal year 2008.





The
intangible assets acquired in the fiscal year ended March 31, 2009 included the
know-how, customer relationship and registered trademarks arising from the
acquisition of Huilian’s prepared baby food business discussed in Note 3,
and the registered trademarks of Helanruniu, or Holsteina, that are being used
for the Company’s powdered adult formula products.





Amortization
expense was $40,000 for the fiscal year ended March 31, 2009.





11.
            DEBT
      AND WARRANTS





On
April 19, 2007, the Company entered into a bridge loan agreement with ABN
AMRO Bank N.V., Hong Kong branch (“ABN”), in the amount of $35.0 million (the
“Bridge Loan Agreement”). The Loan bore interest at the one-month London
interbank offered rate for deposits in US dollars plus 2.5% with interest
payable on the last day of each month. The Company was required to pay to ABN a
commitment fee of 1% on the daily amount of the unused Commitment Amount. The
Loans were secured by a pledge of 25,000,000 shares of the Company’s Common
Stock owned by Beams Power Investment Limited, a British Virgin Islands company,
the capital stock of which is beneficially owned by Liang Zhang, the Chief
Executive Officer of the Company. Pursuant to the Loan Agreement, Liang Zhang
and Xiuqing Meng, Mr. Zhang’s wife, guaranteed the Company’s obligations
thereunder. The principal amount and unpaid accrued interest under the Bridge
Loan Agreement were repaid on October 18, 2007.





In
addition, pursuant to a USD facility side letter and warrant agreement dated
April 19, 2007 between the Company and ABN, the Company was obligated to
issue warrants to ABN to purchase up to 400,000 shares of the Company’s common
stock (the “Warrant Agreement”). On April 19, 2007 and October 11,
2007, respectively, the Company issued warrants to purchase 200,000 shares
of its common stock at $8.84 per share and the remaining 200,000 shares at the
same price. All of the warrants may be exercised up to the third anniversary of
the completion of a “Qualified Public Offering”, as defined in the warrant
agreement.





The fair
value of the warrants was $2.7 million at the grant date, estimated on the basis
of the Black-Scholes-Merton option-pricing formula with the following
assumptions:


Expected
      volatility
                    
                    
                    43.86
                    %Risk-free
      interest rate
                    
                    
                    4.66
                    %Expected
      dividend yield
                    
                    
                    0.00
                    %Contractual
      life of the warrant (years)
                    
                    
                    4.2





The
proceeds of the 2007 loan were allocated to the debt and the warrants based on
their relative values, resulting in $32.4 million and $2.6 million being
allocated to the debt and warrants, respectively. This amount has been recorded
as an increase to additional paid in capital with a corresponding debt discount,
which was fully amortized as of March 31, 2008.





On
October 11, 2007, ABN and another lender provided a three year term loan,
or the New ABN Loan, to the Company in the aggregate amount of $35 million. The
principal amount, and any unpaid accrued interest on the New ABN Loan, will be
due on October 11, 2010 and may be prepaid without penalty. The proceeds of
the New ABN Loan were used to pay the outstanding principal and accrued interest
of a six-month term loan provided to the Company by ABN on April 19, 2007,
or the Original ABN Loan. The New ABN Loan bears interest at LIBOR for deposits
in U.S. dollars plus 3.5% with interest payable on the last day of each
three-month period. The loan is secured by a pledge of 10,000 shares of common
stock, or 100% of the outstanding common stock of Synutra
Illinois.


89


The loan
agreement for the New ABN Loan provides for mandatory prepayment upon the
occurrence of certain events, and contains customary covenants for financings of
this type, including restrictions on the incurrence of liens, payment of
dividends, and disposition of properties. The loan agreement for the New ABN
Loan also contains certain financial covenants, including a requirement to
maintain specified leverage and interest coverage ratio, tangible net worth, and
indebtedness to tangible net worth ratio. The Company has performed an analysis
of the relevant ratios and found that due to the net loss which resulted from
the significant costs of the product recall, including inventory write-down and
write-off, the Company was not able to meet any of the financial covenant
requirements as of March 31, 2009. Further, the Company anticipates that it may
have difficulty meeting these financial covenant requirements for the next
several fiscal quarters. The Company has requested the lenders to waive these
financial covenants for the next several fiscal quarters. The lenders have
proposed waiver fee which equals to 0.75% of the aggregate principal amount
outstanding and an increase in the interest rate of 200 basis points to LIBOR
for deposits in U.S. dollars plus 5.5%. The lenders have also proposed a revised
repayment schedule of quarterly amortizations commencing in October 2009 with
$5.0 million in October 2009, $5.0 million in January 2010, $10.0 million in
April 2010, $10.0 million in July 2010, and $5.0 million on maturity. Any
non-payment would constitute a default, for which the banks have rights to
enforce on the existing share pledge. As of the issuance date of consolidated
financial statement, the waiver has not been granted. The Company is currently
in discussions with the lenders on the waiver and is unable to predict when, or
if the waiver will be granted. Accordingly, the Company has reclassified the
outstanding balance of $34.5 million under the loan to current liabilities since
the Company considers this debt callable by the bank. The Company may also incur
additional expenses in connection with the modification of loan
arrangements.





In
addition to the New ABN Loan, as of March 31, 2009 and March 31, 2008, the
Company had short-term loans from PRC banks in the amount of $182.6 million and
$21.2 million, respectively.  The maturity dates of the short term
loans outstanding from PRC banks at March 31, 2009 range from April 2009 to
March 2010. The weighted average interest rate on short-term loans from PRC
banks outstanding at March 31, 2009 and March 31, 2008 was 4.1% and 7.08%,
respectively. The loans at March 31, 2009 were secured by the pledge of certain
fixed assets held by the Company and its subsidiaries, a pledge of the Company’s
land use right and pledge of cash deposits. The value of fixed assets pledged
was $34.2 million and $18.1 million as of March 31, 2009 and March 31,
2008, respectively.  The value of land use right pledged was $3.4
million and nil as of March 31, 2009 and March 31, 2008, respectively. The value
of cash pledged was $66.1 million which was recorded in restricted cash and nil
as of March 31, 2009 and March 31, 2008, respectively.





As of
March 31, 2009 and 2008, the Company had long-term loans which are unsecured
debt, from PRC banks in the amount of $8.8 million and $1.9 million,
respectively. The maturity date of the loan term loans outstanding from PRC
banks at March 31, 2009 is in March 2011. The weighted average interest rate of
outstanding long-term loans at March 31, 2009 and March 31, 2008 was 5.4%
and 3.2%, respectively.





Apart
from the short-term loans and long-term loans from banks, the Company also had
short term loans from related parties in the amount of $7.5 million and nil as
of March 31, 2009 and March 31, 2008 respectively. The maturity dates of the
short term loans outstanding from related parties at March 31, 2009 are in
October 2010. The balance as of March 31, 2009 included a US dollar loan of $3.9
million and a RMB loan of $3.6 million, and the interest rates were 10.0% and
5.5% respectively. The interest rate of the US dollar loan is benched mark to
that of US dollar borrowing from third parties.




90





12.
            OTHER
      CURRENT LIABILITIES





March 31,
                        2009
                      
                      
                      March 31,
                        2008(In
      thousands)Other
      tax payables
                      
                      
                      —
                      
                      
                      
                      2,661Accrued
      freight charges
                      
                      $
                      434
                      
                      
                      $
                      837Accrued
      rebate and slotting fee
                      
                      
                      844
                      
                      
                      
                      371Deferred
      government subsidies
                      
                      
                      991
                      
                      
                      
                      —Accrued
      professional service fees
                      
                      
                      1,046
                      
                      
                      
                      1,240Payroll
      and bonus payables
                      
                      
                      3,615
                      
                      
                      
                      1,852Accrued
      selling and marketing expenses
                      
                      
                      4,118
                      
                      
                      
                      3,627Accrued
      advertising and promotion expenses
                      
                      
                      5,984
                      
                      
                      
                      3,140Others
                      
                      
                      4,893
                      
                      
                      
                      2,761Total
                      
                      $
                      21,925
                      
                      
                      $
                      16,489





13.
            OBLIGATIONS
      UNDER CAPITAL LEASES





Future
minimum capital lease payments at March 31, 2009 are as follows:





Year EndingMarch 31,(In thousands)2010
                          
                          $
                          —2011
                          
                          
                          3842012
                          
                          
                          4732013
                          
                          
                          4732014
                          
                          
                          4732015
      and thereafter
                          
                          
                          16,235Total
      minimum lease payments
                          
                          $
                          18,038Less:  Amount
      representing interest
                          
                          
                          12,784Present
      value of minimum lease payments
                          
                          
                          5,254Current
                          
                          
                          —Long-term
                          
                          
                          5,254Total
                          
                          
                          5,254





The
interest rate associated with the capital leases is 7.8% per
annum.


91




14.
            INCOME
      TAXES





A.
            Tax
      law of each tax jurisdictions





United
States





Under the
federal and state income tax laws of United States, the Company is subject to
tax on its income or capital gains. As at March 31, 2009, the Company’s
subsidiary in United States does not have any assessable profit and accordingly,
no provision for federal and state income taxes have been provided
thereon.





China





On
March 16, 2007, the National People’s Congress of the PRC approved and
promulgated the new Enterprise Income Tax Law ("new EIT Law"), which took effect
beginning January 1, 2008. Under the new EIT law, foreign investment
enterprises and domestic companies are subject to a uniform tax rate of 25%. The
new tax law provides a five-year transition period from its effective date for
certain qualifying enterprises which were established before the promulgation
date of the new tax law and which were entitled to a preferential lower tax rate
or tax holiday under the then effective tax laws or regulations.





Some of
the Company's PRC subsidiaries are eligible under the transition rules to
continue enjoying tax holidays or reduced tax rate until expiration. The
following table illustrates the applicable tax rate and tax holidays of major
PRC subsidiaries under the new EIT Law:




Statutory Tax RateName of Subsidiaries
                    
                    
                    Beginning
                      January 1, 2008
                    
                    
                    Tax Holiday (based on
                      calendar year)Shengyuan
      Nutritional Food Co., Ltd.
                    
                    
                    25
                    %
                    
                    2
      years tax free (2004, 2005); 12% (2006, 2007); 12.5%
  (2008)Qingdao
      Shengyuan Dairy Co., Ltd.
                    
                    
                    25
                    %
                    
                    No
      tax holidayHeilongjiang
      Mingshan Dairy Co., Ltd.
                    
                    
                    25
                    %
                    
                    2
      years tax free (2006, 2007); 3 years tax at 12.5%
  (2008-10)Zhangjiakou
      Shengyuan Dairy Co., Ltd.
                    
                    
                    25
                    %
                    
                    2
      years tax free (2006, 2007); 3 years tax at 12.5%
  (2008-10)Inner
      Mongolia Shengyuan Food Co., Ltd.
                    
                    
                    25
                    %
                    
                    2
      years tax free (2008, 2009); 3 years tax at 12.5%
  (2010-12)Inner
      Mongolia Mengyuan Food Co., Ltd.
                    
                    
                    25
                    %
                    
                    No
      tax holidayMeitek
      Technology (Qingdao) Co., Ltd.
                    
                    
                    25
                    %
                    
                    2
      years tax free (2008, 2009); 3 years tax at 12.5%
  (2010-12)Heilongjiang
      Baoquanling Shengyuan Dairy Co., Ltd.
                    
                    
                    25
                    %
                    
                    No
      tax holidayBeijing
      Shengyuan Huiliduo Food Technology Co., Ltd.
                    
                    
                    25
                    %
                    
                    No
      tax holiday




B.
            Components
      of income (loss) before income
taxes





For
financial reporting purposes, income (loss) before income taxes includes
the following components:




Year Ended March 31,2009
                      
                      
                      2008
                      
                      
                      2007(In thousands)United
      States
                      
                      $
                      (3,320
                      )
                      
                      $
                      (7,235
                      )
                      
                      $
                      (126
                      )PRC
                      
                      
                      (127,655
                      )
                      
                      
                      60,762
                      
                      
                      
                      21,596$
                      (130,975
                      )
                      
                      $
                      53,527
                      
                      
                      $
                      21,470






92





C.
            Reconciliation
      from income tax at statutory rate to reported amount of income tax
      expense





The
income tax expense reconciled to the tax expense computed at the US statutory
rate was approximately as follows for the years ended March 31, 2009, 2008
and 2007:




Year Ended March 31,2009
                      
                      
                      2008
                      
                      
                      2007(In thousands)Income
      tax provision at US federal statutory rate of 34%
                      
                      $
                      (44,531
                      )
                      
                      $
                      18,199
                      
                      
                      $
                      7,300Foreign
      tax rate differential
                      
                      
                      11,489
                      
                      
                      
                      (2,393
                      )
                      
                      
                      (215
                      )PRC
      tax holiday effect
                      
                      
                      (3,228
                      )
                      
                      
                      (13,978
                      )
                      
                      
                      (5,231
                      )Change
      in valuation allowance
                      
                      
                      3,072
                      
                      
                      
                      2,135
                      
                      
                      
                      —FIN
      48 unrecognized tax benefits
                      
                      
                      81
                      
                      
                      
                      508
                      
                      
                      
                      —Nondeductible
      (nontaxable) items
                      
                      
                      2,731
                      
                      
                      
                      3,384
                      
                      
                      
                      (258
                      )Total
      income tax expenses
                      
                      $
                      (30,386
                      )
                      
                      $
                      7,855
                      
                      
                      $
                      1,596





Certain
Company’s PRC subsidiaries are eligible for tax holidays. The impact of these
tax holidays decreased/(increased)PRC taxes by $(3.2) million, $14.0 million and
$5.2 million for the fiscal year ended March 31, 2009, 2008 and 2007,
respectively. The benefit/(expense) of the tax holidays on earnings per share
was $0.06, $0.26 and $0.10 for the fiscal year ended March 31, 2009, 2008 and
2007, respectively.





D.
            Deferred
      tax assets by type of temporary difference, credits and change in
      valuation allowance





Deferred
income taxes reflect the net tax effects of temporary differences between the
carrying amounts of assets and liabilities for financial reporting purposes and
the amounts used for income tax purposes. Significant components of the
Company’s net deferred tax assets are as follows:




March 31,
                                        2009
                                      
                                      March 31,
                                        2008(In thousands)Deferred
      tax assets - currentInventory
      write-down
                                      
                                      
                                      $
                                      8,005
                                      
                                      
                                      $
                                      —Promotional
      expenses carried forward
                                      
                                      
                                      
                                      7,367
                                      
                                      
                                      
                                      —Net
      operating loss
                                      
                                      
                                      
                                      151
                                      
                                      
                                      
                                      287Accrued
      expenses
                                      
                                      
                                      
                                      88
                                      
                                      
                                      
                                      1,210Others
                                      
                                      
                                      
                                      909
                                      
                                      
                                      
                                      227Subtotal
                                      
                                      
                                      
                                      16,520
                                      
                                      
                                      
                                      1,724Less:
      valuation allowance
                                      
                                      
                                      
                                      (244
                                      )
                                      
                                      
                                      (276
                                      )Total
      current deferred tax assets
                                      
                                      
                                      $
                                      16,276
                                      
                                      
                                      $
                                      1,448Deferred
      tax assets – non currentNet
      operating loss
                                      
                                      
                                      $
                                      20,988
                                      
                                      
                                      $
                                      1,462Tax
      credit carryforward for PRC equipment purchasing
                                      
                                      
                                      
                                      2,083
                                      
                                      
                                      
                                      2,028Fixed
      assets
                                      
                                      
                                      
                                      278
                                      
                                      
                                      
                                      320Others
                                      
                                      
                                      
                                      78
                                      
                                      
                                      
                                      126Subtotal
                                      
                                      
                                      
                                      23,427
                                      
                                      
                                      
                                      3,936Less:
      valuation allowance
                                      
                                      
                                      
                                      (4,963
                                      )
                                      
                                      
                                      (1,859
                                      )Total
      non-current deferred tax assets
                                      
                                      
                                      $
                                      18,464
                                      
                                      
                                      $
                                      2,077


93


The net
change during the year in the total valuation allowance is as
follows:




March 31,
                        2009
                      
                      
                      March 31,
                        2008(In thousands)Balance
      at beginning of year
                      
                      $
                      2,135
                      
                      
                      $
                      —Additions
      during the year
                      
                      
                      3,072
                      
                      
                      
                      2,135Balance
      at end of year
                      
                      $
                      5,207
                      
                      
                      $
                      2,135





At
March 31, 2009, net operating loss carryforward of Synutra Illinois and
Synutra International, Inc., who file consolidated tax return, is approximately
$13.8 million, which expires through 2029. Subject to the federal income tax
rate of 34%, the tax benefit is $4.7 million as of March 31, 2009. Synutra
Illinois and Synutra International, Inc. do not have enough profit in the
foreseeable future to realize the tax benefit. The Company believes that it is
more likely than not that the benefit from the net operating loss carryforward
will not be realized. In recognizing this risk, the Company has fully provided a
valuation allowance on the deferred tax assets relating to these operating loss
carryforward. If or when recognized, the tax benefits relating to any reversal
of the valuation allowance on deferred tax assets at March 31, 2009 will be
recognized as a reduction of income tax expense. At March 31, 2009,
deductible net operating loss carryforwards of PRC subsidiaries were $69.2
million, which expires through 2014. Subject to the PRC income tax rate of 25%
and applicable tax holidays, the tax benefit is $16.5 million as of
March 31, 2009.. The Company believes that it is more likely than not that
the benefit from the net operating loss carryforward relating to its PRC
subsidiaries will be realized through future profits. The amount of the deferred
tax assets considered realizable, however, could be reduced in the near term if
estimates of future taxable income during the carry forward periods are
reduced.





E.
            Significant
      components of income tax expense





Income
taxes for the PRC subsidiaries are calculated on a separate entity basis. Each
of the Company’s PRC subsidiaries files stand-alone tax returns. The provisions
for the Company’s income taxes for the fiscal years ended March 31, 2009,
2008 and 2007, respectively, are summarized as follows:




Year Ended March 31,2009
                                                                                                            
                                                                                                            
                                                                                                            2008
                                                                                                            
                                                                                                            
                                                                                                            2007(In thousands)Current
      taxUS
                                                                                                            
                                                                                                            $
                                                                                                            —
                                                                                                            
                                                                                                            
                                                                                                            $
                                                                                                            —
                                                                                                            
                                                                                                            
                                                                                                            $
                                                                                                            —PRC
                                                                                                            
                                                                                                            
                                                                                                            738
                                                                                                            
                                                                                                            
                                                                                                            
                                                                                                            10,550
                                                                                                            
                                                                                                            
                                                                                                            
                                                                                                            2,028738
                                                                                                            
                                                                                                            
                                                                                                            
                                                                                                            10,550
                                                                                                            
                                                                                                            
                                                                                                            
                                                                                                            2,028Deferred
      taxDeferred
      tax-benefit-US
                                                                                                            
                                                                                                            
                                                                                                            —
                                                                                                            
                                                                                                            
                                                                                                            
                                                                                                            218
                                                                                                            
                                                                                                            
                                                                                                            
                                                                                                            (218
                                                                                                            )Deferred
      tax-benefit-PRC
                                                                                                            
                                                                                                            
                                                                                                            (31,124
                                                                                                            )
                                                                                                            
                                                                                                            
                                                                                                            (2,913
                                                                                                            )
                                                                                                            
                                                                                                            
                                                                                                            (214
                                                                                                            )(31,124
                                                                                                            )
                                                                                                            
                                                                                                            
                                                                                                            (2,695
                                                                                                            )
                                                                                                            
                                                                                                            
                                                                                                            (432
                                                                                                            )Total
                                                                                                            
                                                                                                            $
                                                                                                            (30,386
                                                                                                            )
                                                                                                            
                                                                                                            $
                                                                                                            7,855
                                                                                                            
                                                                                                            
                                                                                                            $
                                                                                                            1,596


94





F.
            Uncertainty
      in income tax





Effective
April 1, 2007, the Company adopted FIN 48, which prescribes a
more-likely-than-not threshold for financial statement recognition and
measurement of a tax position taken in the tax return. This interpretation also
provides guidance on de-recognition of income tax assets and liabilities,
classification of current and deferred income tax assets and liabilities,
accounting for interest and penalties associated with tax positions, accounting
for income taxes in interim periods and income tax disclosures.





The
adoption of FIN 48 has reduced the retained earnings as of April 1,
2007, by $375,000, including interest and penalties amounting to $55,000, with a
corresponding increase in the liability for uncertain tax positions. The above
mentioned liability is recorded in other long term liabilities in the
consolidated balance sheet. In accordance with the Company’s policies, it
accrued and classified interest and penalties related to unrecognized tax
benefits as a component of income tax provision. For the year ended March 31,
2009, the Company assessed its FIN 48 provisions and has recognized an
additional net liability (including adjustments of interest) of $81,000. The
Company does not anticipate any significant increases or decreases to its
liability for unrecognized tax benefits within the next
12 months.





The
following is a tabular reconciliation of the total amounts of unrecognized tax
benefits for the year:




March 31,
                              2009
                            
                            
                            March 31,
                              2008(In thousands)Balance
      at beginning of year
                            
                            $
                            883
                            
                            
                            $
                            375Additions
      based on tax positions related to the current year
                            
                            
                            343
                            
                            
                            
                            508Reductions
      for tax positions of prior years
                            
                            
                            (262
                            )
                            
                            
                            —Balance
      at end of year
                            
                            $
                            964
                            
                            
                            $
                            883




The
balance of unrecognized tax benefits at March 31, 2009, if recognized,
would affect the effective tax rate.





According
to PRC Tax Administration and Collection Law, the statute of limitations is
three years if the underpayment of taxes is due to computational errors made by
the taxpayer or withholding agent. The statute of limitations will be extended
to five years under special circumstances, which are not clearly defined (but an
underpayment of tax liability exceeding RMB100,000 is specifically listed as a
special circumstance). In the case of a related party transaction, the statute
of limitations is 10 years. There is no statute of limitations in the case
of tax evasion. The Company is subject to taxation in the US and the PRC. The
statute of limitations in the US is three years.





As of
March 31, 2008, the Company's foreign subsidiaries had approximately
$74.1million of undistributed earnings which were considered to be indefinitely
reinvested, and accordingly, no provision for income taxes has been provided
thereon.  Upon distribution of those earnings in the form of dividends
or otherwise, the Company would be subject to withholding taxes payable to
various foreign countries.  For the fiscal year ended March 31, 2009,
the Company's foreign subsidiaries did not generate any distributable
earnings.


95





15.
            EARNINGS
      PER SHARE (EPS)





For
purposes of calculating basic and diluted earnings per share, the Company used
the following weighted average common shares outstanding:




Year Ended March 31,2009
                              
                              
                              2008
                              
                              
                              2007(In thousands except for per share data)Net
      income (loss) attributable to common shareholders
                              
                              $
                              (100,549
                              )
                              
                              $
                              45,661
                              
                              
                              $
                              19,874Basic
      weighted average common shares outstanding
                              
                              
                              54,001
                              
                              
                              
                              53,170
                              
                              
                              
                              50,001Dilutive
      potential common shares from warrants
                              
                              
                              —
                              
                              
                              
                              306
                              
                              
                              
                              —Diluted
      weighted average shares outstanding
                              
                              
                              54,001
                              
                              
                              
                              53,476
                              
                              
                              
                              50,001Earnings
      (loss) per share-basic
                              
                              $
                              (1.86
                              )
                              
                              $
                              0.86
                              
                              
                              $
                              0.40Earnings
      (loss) per share-diluted
                              
                              $
                              (1.86
                              )
                              
                              $
                              0.85
                              
                              
                              $
                              0.40





The
warrants to purchase 400,000 shares of common stock granted to ABN in connection
with the Original ABN Loan were excluded from the computation of diluted
earnings per share for the fiscal year ended March 31, 2009 as they would be
anti-dilutive. There were no anti-dilutive warrants excluded from the
computation of diluted earnings per share for the fiscal years ended March 31,
2008 and 2007.





16.
            COMMITMENTS
      AND CONTINGENCIES





A.
            Purchase
      commitments





As of
March 31, 2009, the Company had outstanding commitments in the amount of
$19.2million for advertising and raw materials purchase within the next twelve
months.





B.
            Capital
      commitments





As of
March 31, 2009, the Company’s capital commitments amounted to $6.0 million
in relation to asset improvement and plant expansion within the next twelve
months.





C.
            Operating
      lease commitments





The
Company leases certain office facilities and certain warehouses under
non-cancellable operating leases. The operating lease commitments of the Company
at March 31, 2009 are as follows:




Year EndingMarch 31,(In thousands)2010
                              
                              $
                              6502011
                              
                              
                              1,5322012
                              
                              
                              1,8362013
                              
                              
                              1,8362014
                              
                              
                              1,7702015
      and thereafter
                              
                              
                              59,256Total
                              
                              $
                              66,880


96





D.
            Legal
      proceedings





As of
March 31, 2009, the end of the period covered by this report, the Company
was subject to  various legal proceedings and claims discussed below,
as well as certain other legal proceedings and claims that have not been fully
resolved and that have arisen in the ordinary course of business. Other than as
discussed below, in the opinion of management, the Company does not have a
potential liability related to any current legal proceedings and claims that
would individually or in the aggregate have a material adverse effect on its
financial condition or operating results. However, the results of legal
proceedings cannot be predicted with certainty. The Company intends to contest
each lawsuit vigorously but should the Company fail to prevail in any of these
legal matters or should several of these legal matters be resolved against the
Company in the same reporting period, the operating results of a particular
reporting period could be materially adversely affected.Management continues to
evaluate the lawsuits discussed below and based on the stage of these
proceedings, management is unable to reasonably estimate the likelihood of any
loss or the amount or range of any potential loss that could result from the
litigation. Therefore, no accrual has been established for any potential loss in
connection with these lawsuits.





On
January 15, 2009, a lawsuit was filed in the U.S. on behalf of 54 Chinese
families alleged to be affected by melamine contamination, against Synutra
International, Inc. and Synutra Inc. in the U.S. District Court for the District
of Maryland, alleging negligent or intentional infliction of personal injury,
negligent or intentional infliction of emotional distress, battery, breach of
warranty, fraudulent or negligent misrepresentation, seeking compensation for
punitive damages in the amount of US$500 million, together with any compensatory
damages. The Company filed a motion in April to dismiss the case on grounds of
"Forum Non-Convenience” and the opposition filed a Memorandum of Opposition to
Motion to Dismiss on May 20, 2009. The Company had been given time to respond to
the Opposition, and we will do so on or before June 15, 2009 with an additional
filing. After June 15, 2009, the presiding Judge of the Court will decide, with
no time limit, if the Court will take the case or render its dismissal. At this
stage, the management is unable to predict the outcome of such
lawsuit.





On March
2, 2009, a lawsuit was filed in China on behalf of 54 Chinese families alleged
to be affected by melamine contamination against a subsidiary, Shengyuan
Nutritional Food Co., Ltd. at Qingdao Intermediate People’s Court, seeking
compensation for damages, including medical and other expenses, emotional harm
and punitive damages, for an aggregate amount over US$1.0 million (RMB6.9
million). Further, on April 14, 2009, a lawsuit was filed on behalf of 73
families (including the original 54 families) against a subsidiary, Shengyuan
Nutritional Food Co., Ltd. at Shandong Higher People’s Court on April 14, 2009,
seeking compensation for damages of over US$1.7 million (RMB11.3 million). To
date, the Company has not been notified by either court of acceptance of any
case against the Company in China.





E.
            Guarantees





As at
March 31, 2009, the Company had an outstanding guarantee issued to the
Zhangbei Branch of the Agricultural Bank of China related to various bank loans
totaling $1.1 million to 104 dairy farmers in the Zhangbei Area (the
“Guarantee”). Such loans matured on December 25, 2007, but as of
March 31, 2009, none of the loans had been repaid and the total outstanding
loan amount remained $1.1 million. The Company has prepared its best estimate of
possible losses related to these loans based on a weighed average range of
likely probabilities and potential payments that would be required under the
Guarantee, and estimated a potential loss of $367,000 related to the
Guarantee.


97





17.
            SEGMENT
      REPORTING AND GEOGRAPHIC
INFORMATION





During
the fiscal year ended March 31, 2009, Meitek, a PRC subsidiary of the Company
which is engaged in the production of nutritional ingredients and supplements
such as chondroitin sulphate, microencapsulated Docosahexanoic Acid (“DHA”) and
Arachidonic Acid (“ARA”), completed its construction process and began its
operations. In the same fiscal year, the Company acquired the prepared baby food
business from Huilian which had begun operation by March 31, 2009.
Historically the Company reported results as a single reporting segment in the
financial statements since operating segments such as nutritional ingredients
and supplements were under construction with minor operating expenses and had
not met the quantitative threshold as described under SFAS 131 "Disclosure about
Segments of an Enterprise and Related Information". The chief operating decision
maker manages the business, including making operating decisions (such as
allocating resources) and evaluating operating performance, on a gross profit
(loss) basis. The Company expanded the number of reportable segments from one to
three in order to better reflect the manner in which management analyzes the
Company’s performance including powdered formula, baby food, and nutritional
ingredients and supplements. All prior period segment information has been
recast to reflect the current period presentation. The Company accounts for
inter-segment sales and transfers as if the sales or transfers were to third
parties, that is, at current market prices. The activities of each segment are
as follows:





Powdered Formula- Sales of
powdered infant and adult formula products.





Baby Food - Sales of prepared
baby food and nutritional snacks for babies and children.





Nutritional Ingredients and
Supplements - Sales of nutritional ingredients and supplements such as
chondroitin sulphate, and microencapsulated DHA and ARA.





"All
Other" includes non-core businesses such as toll packaging, toll drying service
and sales of ingredients and materials to industrial customers.





The
Company’s underlying accounting records are maintained on a legal entity basis
for government and public reporting requirements. Segment disclosures are on a
performance basis consistent with internal management reporting. The intangible
assets which were recognized upon the acquisition of the prepared baby food
business from Huilian in the fiscal year ended March 31, 2009 and related
amortization are allocated to the baby food segment. The following segment
information has been prepared in accordance with the internal accounting
policies of the Company, as described above.


98





Year Ended March 31,2009
                          
                          
                          2008
                          
                          
                          2007(In thousands)NET
      SALESPowdered
      formula
                          
                          $
                          284,818
                          
                          
                          $
                          321,130
                          
                          
                          $
                          167,499Baby
      food
                          
                          
                          271
                          
                          
                          
                          —
                          
                          
                          
                          —Nutritional
      ingredients and supplements
                          
                          
                          3,367
                          
                          
                          
                          —
                          
                          
                          
                          —All
      other
                          
                          
                          27,439
                          
                          
                          
                          40,960
                          
                          
                          
                          49,106Intersegment
      sales elimination
                          
                          
                          (3,367
                          )
                          
                          
                          —
                          
                          
                          
                          —Net
      sales
                          
                          $
                          312,528
                          
                          
                          $
                          362,090
                          
                          
                          $
                          216,605GROSS
      PROFITPowdered
      formula
                          
                          $
                          50,336
                          
                          
                          $
                          178,728
                          
                          
                          $
                          102,282Baby
      food
                          
                          
                          150
                          
                          
                          
                          —
                          
                          
                          
                          —Nutritional
      ingredients and supplements
                          
                          
                          —
                          
                          
                          
                          —
                          
                          
                          
                          —All
      other
                          
                          
                          2,956
                          
                          
                          
                          7,794
                          
                          
                          
                          4,423Intersegment
      profit elimination
                          
                          
                          —Gross
      profit
                          
                          $
                          53,442
                          
                          
                          $
                          186,522
                          
                          
                          $
                          106,705Selling
      and distribution expenses
                          
                          
                          44,178
                          
                          
                          
                          34,449
                          
                          
                          
                          25,561Advertising
      and promotion expenses
                          
                          
                          115,478
                          
                          
                          
                          76,388
                          
                          
                          
                          52,322General
      and administrative expenses
                          
                          
                          25,455
                          
                          
                          
                          16,013
                          
                          
                          
                          7,031Other
      operating income, net
                          
                          
                          5,790
                          
                          
                          
                          1,492
                          
                          
                          
                          1,109Income
      (loss) from operations
                          
                          
                          (125,879
                          )
                          
                          
                          61,164
                          
                          
                          
                          22,900Interest
      expense
                          
                          
                          4,857
                          
                          
                          
                          6,354
                          
                          
                          
                          1,896Interest
      income
                          
                          
                          341
                          
                          
                          
                          1,801
                          
                          
                          
                          356Other
      income (expense), net
                          
                          
                          (580
                          )
                          
                          
                          (3,084
                          )
                          
                          
                          110Income
      (loss) before provision (benefit) for income tax and minority
      interests
                          
                          $
                          (130,975
                          )
                          
                          $
                          53,527
                          
                          
                          $
                          21,470CAPITAL
      EXPENDITUREPowdered
      formula
                          
                          $
                          45,492
                          
                          
                          $
                          24,567
                          
                          
                          $
                          14,462Baby
      food
                          
                          
                          4,389
                          
                          
                          
                          6,088
                          
                          
                          
                          6,349Nutritional
      ingredients and supplements
                          
                          
                          8,929
                          
                          
                          
                          10,853
                          
                          
                          
                          772All
      other
                          
                          
                          3,231
                          
                          
                          
                          1
                          
                          
                          
                          1Total
                          
                          $
                          62,041
                          
                          
                          $
                          41,509
                          
                          
                          $
                          21,584DEPRECIATION
      AND AMORTIZATIONPowdered
      formula
                          
                          $
                          6,686
                          
                          
                          $
                          4,558
                          
                          
                          $
                          2,056Baby
      food
                          
                          
                          351
                          
                          
                          
                          61
                          
                          
                          
                          —Nutritional
      ingredients and supplements
                          
                          
                          608
                          
                          
                          
                          26
                          
                          
                          
                          —All
      other
                          
                          
                          4
                          
                          
                          
                          1
                          
                          
                          
                          1Total
                          
                          $
                          7,649
                          
                          
                          $
                          4,646
                          
                          
                          $
                          2,057





March31,
                                2009
                              
                              
                              March31,
                                2008(In thousands)TOTAL
      ASSETSPowdered
      formula
                              
                              $
                              443,946
                              
                              
                              $
                              271,114Baby
      food
                              
                              
                              30,291
                              
                              
                              
                              19,200Nutritional
      ingredients and supplements
                              
                              
                              49,611
                              
                              
                              
                              11,835All
      other
                              
                              
                              115,923
                              
                              
                              
                              119,580Intersegment
      elimination
                              
                              
                              (167,200
                              )
                              
                              
                              (127,411
                              )Total
                              
                              $
                              472,571
                              
                              
                              $
                              294,318LONG
      LIVED ASSETSPowdered
      formula
                              
                              $
                              106,726
                              
                              
                              $
                              68,932Baby
      food
                              
                              
                              21,223
                              
                              
                              
                              12,441Nutritional
      ingredients and supplements
                              
                              
                              22,630
                              
                              
                              
                              8,839All
      other
                              
                              
                              276
                              
                              
                              
                              3Total
                              
                              $
                              150,855
                              
                              
                              $
                              90,215




99


Consolidated
revenue is generated from sales in the following areas:




Year Ended March 31,2009
                  
                  
                  2008
                  
                  
                  2007Sales
      in Mainland China
                  
                  
                  98.9
                  %
                  
                  
                  94.8
                  %
                  
                  
                  92.4
                  %Sales
      to United States
                  
                  
                  1.1
                  %
                  
                  
                  5.2
                  %
                  
                  
                  7.6
                  %





Only one
customer in the U.S. accounted for more than 5% of the Company’s total sales in
fiscal year 2008 and 2007





All of
the Company’s long-lived assets are located in China.





18.
            MAINLAND
      CHINA CONTRIBUTION PLAN AND RESTRICTED NET
  ASSETS





A.
            China
      Contribution Plan





Full time
employees of the Company in the PRC participate in a government-mandated
multi-employer defined contribution plan pursuant to which certain pension
benefits, medical care, unemployment insurance and other welfare benefits are
provided to employees. PRC labor regulations require the Company to accrue for
these benefits based on certain percentage of the employees’ salaries. The total
contribution for such employee benefits were $4.9 million, $2.7 million and $1.2
million for the fiscal years ended March 31, 2009, 2008 and 2007,
respectively.





B.
            Restricted
      Net Assets





Relevant
PRC statutory laws and regulations permit payments of dividends by the Company’s
PRC subsidiaries only out of their retained earnings, if any, as determined in
accordance with PRC accounting standards and regulations. PRC laws and
regulations require that annual appropriations of 10% of after-tax income should
be set aside prior to payment of dividends as a general reserve fund. In
addition, there are restrictions on the distribution of share capital from the
Company’s PRC subsidiaries. As a result of these PRC laws and regulations, the
Company’s PRC subsidiaries and PRC affiliates are restricted in their ability to
transfer a portion of their net assets to the Company in the form of dividends,
loans or advances. Such restricted portions amounted to approximately $76.9
million and $128.7 million as of March 31, 2009 and 2008,
respectively.





19.
            QUARTERLY
      FINANCIAL DATA (UNAUDITED)





Summarized
quarterly financial information in fiscal years ended March 31, 2009 and
2008 is as follows:




Fiscal Year 2009
                        
                        
                        Fiscal Year 2008First
                        
                        
                        Second
                        
                        
                        Third
                        
                        
                        Fourth
                        
                        
                        First
                        
                        
                        Second
                        
                        
                        Third
                        
                        
                        Fourth(In thousands except per share data)Revenue
                        
                        $
                        127,380
                        
                        
                        $
                        94,791
                        
                        
                        $
                        17,658
                        
                        
                        $
                        72,699
                        
                        
                        $
                        67,492
                        
                        
                        $
                        86,202
                        
                        
                        $
                        100,205
                        
                        
                        $
                        108,191Gross
      Profit (loss)
                        
                        
                        66,895
                        
                        
                        
                        (26,723
                        )
                        
                        
                        (9,760
                        )
                        
                        
                        23,030
                        
                        
                        
                        37,062
                        
                        
                        
                        46,626
                        
                        
                        
                        50,578
                        
                        
                        
                        52,256Net
      Income (loss)
                        
                        
                        15,644
                        
                        
                        
                        (49,680
                        )
                        
                        
                        (49,342
                        )
                        
                        
                        (17,171
                        )
                        
                        
                        5,340
                        
                        
                        
                        9,772
                        
                        
                        
                        11,203
                        
                        
                        
                        19,346Weighted
      average common share outstanding, basic
                        
                        
                        54,001
                        
                        
                        
                        54,001
                        
                        
                        
                        54,001
                        
                        
                        
                        54,001
                        
                        
                        
                        50,667
                        
                        
                        
                        54,001
                        
                        
                        
                        54,001
                        
                        
                        
                        54,001Weighted
      average common share outstanding, diluted
                        
                        
                        54,291
                        
                        
                        
                        54,001
                        
                        
                        
                        54,001
                        
                        
                        
                        54,001
                        
                        
                        
                        50,786
                        
                        
                        
                        54,132
                        
                        
                        
                        54,304
                        
                        
                        
                        54,682Earnings
      per share, basic
                        
                        $
                        0.29
                        
                        
                        $
                        (0.92
                        )
                        
                        $
                        (0.91
                        )
                        
                        $
                        (0.32
                        )
                        
                        $
                        0.11
                        
                        
                        $
                        0.18
                        
                        
                        $
                        0.21
                        
                        
                        $
                        0.36Earnings
      per share, diluted
                        
                        $
                        0.29
                        
                        
                        $
                        (0.92
                        )
                        
                        $
                        (0.91
                        )
                        
                        $
                        (0.32
                        )
                        
                        $
                        0.11
                        
                        
                        $
                        0.18
                        
                        
                        $
                        0.21
                        
                        
                        $
                        0.35


100


SYNUTRA
INTERNATIONAL, INC.


ADDITIONAL
INFORMATION - FINANCIAL STATEMENT SCHEDULE I


Financial
information of parent company


BALANCE
SHEETS


(in
thousands, except share par value)




March 31,
                                    2009
                                  
                                  March 31,
                                    2008ASSETSCurrent
      Assets:Cash
      and cash equivalents
                                  
                                  
                                  $
                                  441
                                  
                                  
                                  $
                                  2,174Prepaid
      expenses and other current assets
                                  
                                  
                                  
                                  1
                                  
                                  
                                  
                                  171Total
      current assets
                                  
                                  
                                  
                                  442
                                  
                                  
                                  
                                  2,345Due
      from subsidiaries
                                  
                                  
                                  
                                  39,540
                                  
                                  
                                  
                                  40,318Investments
      in subsidiaries
                                  
                                  
                                  
                                  73,098
                                  
                                  
                                  
                                  164,569Other
      assets
                                  
                                  
                                  
                                  4,153
                                  
                                  
                                  
                                  788TOTAL
      ASSETS
                                  
                                  
                                  $
                                  117,233
                                  
                                  
                                  $
                                  208,020LIABILITIES
      AND SHAREHOLDERS’ EQUITYCurrent
      Liabilities:Short
      term loan
                                  
                                  
                                  
                                  38,364
                                  
                                  
                                  
                                  —Other
      current liabilities
                                  
                                  
                                  
                                  1,166
                                  
                                  
                                  
                                  1,615Total
      current liabilities
                                  
                                  
                                  
                                  39,530
                                  
                                  
                                  
                                  1,615Due
      to subsidiaries
                                  
                                  
                                  
                                  307
                                  
                                  
                                  
                                  577Long
      term loans
                                  
                                  
                                  
                                  —
                                  
                                  
                                  
                                  34,184Total
      liabilities
                                  
                                  
                                  
                                  39,837
                                  
                                  
                                  
                                  36,376Minority
      interest
                                  
                                  
                                  
                                  537
                                  
                                  
                                  
                                  385Shareholders’
      equity:Common
      stock, $.0001 par value: 250,000 authorized; 54,001 and 54,001 issued and
      outstanding, respectively
                                  
                                  
                                  
                                  5
                                  
                                  
                                  
                                  5Additional
      paid-in capital
                                  
                                  
                                  
                                  76,607
                                  
                                  
                                  
                                  76,607Retained
      earnings (Accumulated deficit)
                                  
                                  
                                  
                                  (23,674
                                  )
                                  
                                  
                                  76,875Accumulated
      other comprehensive income
                                  
                                  
                                  
                                  23,921
                                  
                                  
                                  
                                  17,772Total
      shareholders’ equity
                                  
                                  
                                  
                                  76,859
                                  
                                  
                                  
                                  171,259TOTAL
      LIABILITIES AND SHAREHOLDERS’ EQUITY
                                  
                                  
                                  $
                                  117,233
                                  
                                  
                                  $
                                  208,020




101


Financial
Information of parent company


STATEMENTS
OF INCOME


(in
thousands except earnings per share data)




Year Ended March 31,2009
                                      
                                      
                                      2008
                                      
                                      
                                      2007Operating
      expenses:General
      and administrative expenses
                                      
                                      $
                                      2,605
                                      
                                      
                                      $
                                      3,073
                                      
                                      
                                      $
                                      —Loss
      from operations
                                      
                                      
                                      2,605
                                      
                                      
                                      
                                      3,073
                                      
                                      
                                      
                                      —Interest
      expense
                                      
                                      
                                      1,342
                                      
                                      
                                      
                                      4,466
                                      
                                      
                                      
                                      —Interest
      income
                                      
                                      
                                      (13
                                      )
                                      
                                      
                                      (1,064
                                      )
                                      
                                      
                                      (4
                                      )Other
      income, net
                                      
                                      
                                      (1,000
                                      )
                                      
                                      
                                      —
                                      
                                      
                                      
                                      —Equity
      in earnings (losses) of subsidiaries
                                      
                                      
                                      (97,615
                                      )
                                      
                                      
                                      52,136
                                      
                                      
                                      
                                      19,870Net
      income (loss) attributable to shareholders
                                      
                                      $
                                      (100,549
                                      )
                                      
                                      $
                                      45,661
                                      
                                      
                                      $
                                      19,874Earnings
      (loss) per share-basic
                                      
                                      $
                                      (1.86
                                      )
                                      
                                      $
                                      0.86
                                      
                                      
                                      $
                                      0.40Earnings
      (loss) per share-diluted
                                      
                                      $
                                      (1.86
                                      )
                                      
                                      $
                                      0.85
                                      
                                      
                                      $
                                      0.40Weighted
      average common share outstanding-basic
                                      
                                      
                                      54,001
                                      
                                      
                                      
                                      53,170
                                      
                                      
                                      
                                      50,001Weighted
      average common share outstanding-diluted
                                      
                                      
                                      54,001
                                      
                                      
                                      
                                      53,476
                                      
                                      
                                      
                                      50,001


102


Financial
Information of parent company


STATEMENTS
OF CASH FLOWS


(in
thousands)




Year Ended March 31,2009
                                  
                                  
                                  2008
                                  
                                  
                                  2007Cash
      flow from operating activities:Net
      income
                                  
                                  $
                                  (100,549
                                  )
                                  
                                  $
                                  45,661
                                  
                                  
                                  $
                                  19,874Adjustments
      to reconcile net income to net cash provided by operating
      activities:Equity
      in (earnings) losses of subsidiaries
                                  
                                  
                                  97,615
                                  
                                  
                                  
                                  (52,136
                                  )
                                  
                                  
                                  (19,870
                                  )Amortization
      of debt discount
                                  
                                  
                                  —
                                  
                                  
                                  
                                  2,733
                                  
                                  
                                  
                                  —Amortization
      of debt issuance costs
                                  
                                  
                                  321
                                  
                                  
                                  
                                  539
                                  
                                  
                                  
                                  —Changes
      in assets and liabilities:Due
      from subsidiaries
                                  
                                  
                                  778
                                  
                                  
                                  
                                  (40,318)
                                  
                                  
                                  
                                  —Prepaid
      expenses and other current assets
                                  
                                  
                                  (1,855
                                  )
                                  
                                  
                                  (710)
                                  
                                  
                                  
                                  —Due
      to subsidiaries
                                  
                                  
                                  110
                                  
                                  
                                  
                                  172
                                  
                                  
                                  
                                  405Other
      current liabilities
                                  
                                  
                                  3,730
                                  
                                  
                                  
                                  799
                                  
                                  
                                  
                                  —Other
      assets
                                  
                                  
                                  (1,658
                                  )
                                  
                                  
                                  (788)
                                  
                                  
                                  
                                  —Net
      cash provided by (used in) operating activities
                                  
                                  
                                  (1,508
                                  )
                                  
                                  
                                  (44,048)
                                  
                                  
                                  
                                  409Cash
      flow from investing activities:Capital
      injection at subsidiaries
                                  
                                  
                                  (225
                                  )
                                  
                                  
                                  (54,981)
                                  
                                  
                                  
                                  —Net
      cash used in investing activities
                                  
                                  
                                  (225
                                  )
                                  
                                  
                                  (54,981)
                                  
                                  
                                  
                                  —Cash
      flow from financing activities:Proceeds
      from bridge loan
                                  
                                  
                                  —
                                  
                                  
                                  
                                  35,000
                                  
                                  
                                  
                                  —Repayment
      of bridge loan
                                  
                                  
                                  —
                                  
                                  
                                  
                                  (35,000)
                                  
                                  
                                  
                                  —Proceeds
      from long-term loan
                                  
                                  
                                  —
                                  
                                  
                                  
                                  35,000
                                  
                                  
                                  
                                  —Proceeds
      from issuance of common stock, net of issuance costs
                                  
                                  
                                  —
                                  
                                  
                                  
                                  65,794
                                  
                                  
                                  
                                  —Net
      cash provided by financing activities
                                  
                                  
                                  —
                                  
                                  
                                  
                                  100,794
                                  
                                  
                                  
                                  —Net
      change in cash and cash equivalents
                                  
                                  
                                  (1,733
                                  )
                                  
                                  
                                  1,765
                                  
                                  
                                  
                                  409Cash
      and cash equivalents, beginning of year
                                  
                                  
                                  2,174
                                  
                                  
                                  
                                  409
                                  
                                  
                                  
                                  —Cash
      and cash equivalents, end of year
                                  
                                  $
                                  441
                                  
                                  
                                  $
                                  2,174
                                  
                                  
                                  $
                                  409




103




Note
to Schedule I





The
parent company financial statements have been prepared using the same accounting
principles and policies described in the notes to the consolidated financial
statements, with the only exception being that the company accounts for its
subsidiaries using the equity method. Please refer to the notes to the
consolidated financial statements presented above for additional information and
disclosures with respect to these financial statements.




Schedule
I has been provided pursuant to the requirements of Rule 12-04(a) and 5-04(c) of
Regulation S-X, which require condensed financial information as to the
financial position, changes in financial position and results of operations of a
parent company as of the same dates and for the same periods for which audited
consolidated financial statements have been presented when the restricted net
assets of consolidated subsidiaries exceed 25 percent of consolidated net assets
as of the end of the most recently completed fiscal year.




104


SYNUTRA
INTERNATIONAL, INC.


SCHEDULE
II


VALUATION
AND QUALIFYING ACCOUNTS


(In
thousands)




Description
              
              Balance at
                Beginning
                of Year
              
              
              Charged to
                Costs and
                Expenses
              
              
              Charged
                to Other
                Accounts
              
              
              Balance
                at End
                of YearAllowance
      for accounts receivable-
      2009
              
              $
              185
              
              
              $
              1,267
              
              
              $
              —
              
              
              $
              1,452-
      2008
              
              $
              241
              
              
              $
              (56
              )
              
              $
              —
              
              
              $
              185-
      2007
              
              $
              417
              
              
              $
              —
              
              
              $
              (176
              )
              
              $
              241Allowance
      for other receivables-
      2009
              
              $
              585
              
              
              $
              887
              
              
              $
              —
              
              
              $
              1,472-
      2008
              
              $
              576
              
              
              $
              9
              
              
              $
              
              
              
              $
              585-
      2007
              
              $
              3
              
              
              $
              573
              
              
              $
              —
              
              
              $
              576Allowance
      for deferred tax assets-
      2009
              
              $
              2,135
              
              
              $
              3,072
              
              
              $
              —
              
              
              $
              5,207-
      2008
              
              $
              —
              
              
              $
              2,135
              
              
              $
              —
              
              
              $
              2,135-
      2007
              
              $
              —
              
              
              $
              —
              
              
              $
              —
              
              
              $
              —


105





ITEM 9.
            CHANGES
      IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
      DISCLOSURE.





On
July 27, 2007, we dismissed Rotenberg Co., or Rotenberg, our then
independent registered public accounting firm, who was engaged to audit our
financial statements. We dismissed Rotenberg because the growth and size of our
operations required us to select an accountant with greater resources and a more
global scale. The dismissal was effective immediately and was approved by the
audit committee of our board of directors.





Rotenberg’s
audit reports on our consolidated financial statements for the year ended
March 31, 2007 did not contain any adverse opinion or disclaimer of
opinion, nor were they qualified or modified as to uncertainty, audit scope, or
accounting principles.





In
connection with the audits of our financial statements for the fiscal year ended
March 31, 2007, there were no disagreements between Rotenberg and us on any
matter of accounting principles or practices, financial statement disclosure, or
auditing scope or procedure which, if not resolved to Rotenberg’s satisfaction,
would have caused Rotenberg to make reference to the subject matter in their
report on our consolidated financial statements for such years; and there were
no reportable events, as listed in Item 304(a)(1)(v) of Regulation
S-K.





On
July 27, 2007, we engaged Deloitte Touche Tohmatsu CPA Ltd., or Deloitte,
as our new independent registered public accounting firm. The engagement was
approved by the audit committee of our board of directors. No relationship
existed in any manner between Deloitte and us prior to the date we engaged
Deloitte.


106




ITEM 9A.
            CONTROLS
      AND PROCEDURES





Management,
including our Chief Executive Officer and Chief Financial Officer, does not
expect that its disclosure controls and procedures or its internal control over
financial reporting will prevent all errors and all fraud. A control system, no
matter how well conceived and operated, can provide only reasonable, not
absolute, assurance that the objectives of the control system are met. Further,
the design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their
costs. Because of the inherent limitations in all control systems, no evaluation
of controls can provide absolute assurance that all control issues and instances
of fraud, if any, within the Company have been detected. Also, projections of
any evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions, or that the
degree of compliance with the policies or procedures may
deteriorate.





Conclusion Regarding Effectiveness
of Disclosure Controls and Procedures





The
Company’s management, with the participation of the Company’s Chief Executive
Officer and Chief Financial Officer, has evaluated the effectiveness of the
Company’s disclosure controls and procedures (as such term is defined in
Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as
amended, or the Exchange Act) as of the end of the period covered by this
report. Based on such evaluation, the Company’s Chief Executive Officer and
Chief Financial Officer have concluded that, as of March 31, 2009, the
Company’s disclosure controls and procedures were effective to ensure that the
information required to be disclosed by the Company in the reports that it files
or submits under the Exchange Act is (a) recorded, processed,
summarized, and reported within the time periods specified in the SEC’s
rules and forms and (b) accumulated and communicated to the Company’s
management, including its Chief Executive Officer and Chief Financial Officer,
or persons performing similar functions, as appropriate to allow timely
decisions regarding required disclosure.




Management’s Report on Internal
Control Over Financial Reporting





The
Company’s management is responsible for establishing and maintaining adequate
internal control over financial reporting (as defined in Rule 13a-15(f) under
the Exchange Act). The Company’s internal control system was designed to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of its consolidated financial statements for external purposes
in accordance with generally accepted accounting principles. The Company’s
management assessed the effectiveness of the Company’s internal control over
financial reporting as of March 31, 2009. In making this assessment, the
Company’s management used the criteria set forth by the Committee of Sponsoring
Organizations of the Treadway Commission (“COSO”) in Internal Control —
Integrated Framework. The Company’s management concluded that, as of
March 31, 2009, the Company’s internal control over financial reporting was
effective based on these criteria.





Our
independent registered public accounting firm, Deloitte Touche Tohmatsu CPA
Ltd., has audited the effectiveness of our internal control over financial
reporting as of March 31, 2009, as stated in its report, which appears on
page 109 of this annual report on Form 10-K.


107


Remediation and Changes in Internal
Control over Financial Reporting





As
previously reported in the Company’s Annual Report on Form 10-K for the year
ended March 31, 2008, management had concluded that as of March 31, 2008, the
Company’s internal control over financial reporting was not effective.
Management’s conclusion that the Company’s internal control over financial
reporting was not effective was based on management’s identification of one
material weakness and four deficiencies in the Company’s internal control over
financial reporting, as defined in Auditing Standard No. 5, “An Audit of
Internal Control Over Financial Reporting That Is Integrated with An Audit of
Financial Statements.”





Our
material weakness related to:




•
            
            (i)
      an insufficient complement of personnel in our corporate accounting and
      financial reporting function with an appropriate level of technical
      accounting knowledge, experience, and training in the application of
      generally accepted accounting principles commensurate with the Company’s
      complex financial accounting and reporting requirements and materiality
      thresholds; and (ii) an inadequacy of competent staff in our internal
      audit function to effectively monitor the Company’s operational, financial
      and compliance-oriented controls, including controls over the financial
      closing and reporting process.





Our
deficiencies related to:




•
            
            inadequate
      training of employees, especially new hires, on our antifraud programs and
      code of ethics;




•
            
            inadequate
      segregation of duties related to our stock count process and lack of
      controls to regularly monitor, document and determine the value of certain
      inventories on a timely basis;




•
            
            inadequate
      controls related to managing staff cash advances;
  and




•
            
            failure
      to maintain an appropriate level of security within our computer operating
      systems and applications.





The
Company discussed the material weakness and deficiencies in its internal control
over financial reporting with the Audit Committee of the Board of Directors. The
following specific remedial actions were initiated and completed during the
Company’s most recent fiscal year to address the material weakness in our
internal control over financial reporting:




•
            
            Reorganize
      and restructure the Company’s corporate accounting staff (“Corporate
      Accounting”) by (1) revising the reporting structure and establishing
      clear roles, responsibilities, and accountability, (2) hiring
      additional technical accounting personnel to address the Company’s complex
      accounting and financial reporting requirements; (3) assessing the
      technical accounting capabilities at our subsidiaries to ensure the right
      complement of knowledge, skills, and training; (4) hiring an experienced
      internal audit manager to lead the Company’s independent internal audit
      function; (5) conducting formal training sessions for accounting personnel
      to improve their familiarity with U.S. generally accepted accounting
      principles including any recent accounting pronouncements;
      (6) restaffing the internal audit personnel to improve the efficiency of
      the internal audit function; and (7) having our internal audit play a more
      active role in our internal control by conducting more audit planning,
      tests and implementing remediation steps at our
      subsidiaries.




•
            
            Improve
      period-end closing procedures by (1) ensuring that account
      reconciliations and analyses for significant financial statement accounts
      are reviewed for completeness and accuracy by qualified accounting
      personnel, (2) implementing a process that ensures the timely review
      and approval of complex accounting estimates by qualified accounting
      personnel and subject matter experts, where appropriate, and
      (3) developing better monitoring controls at Corporate Accounting and
      at our subsidiaries and (4) documenting and implementing antifraud
      programs and controls as well as comprehensive risk assessment of
      procedures, programs and controls.





As a
result of the remediation steps above, which were completed in the fourth
quarter of the fiscal year ended March 31, 2009, management believes that the
material weakness has been remediated.





The
Company has also taken the following specific remedial actions to address the
deficiencies in our internal control over financial reporting:





•
            
            Providing
      training programs for new hires and continuing training programs for
      current employees on our antifraud programs, corporate governance
      guidelines and code of ethics, including enhancing policies and procedures
      for detecting and preventing fraud;•
            
            Reorganizing
      the stock count process by including staff from different departments to
      ensure adequate segregation of
duties;





•
            
            Implementing
      procedures for monitoring staff cash advances including introducing
      tighter controls which include regular checks and alerts to manage staff
      cash advances; and





•
            
            Increasing
      the level of security within our computer operating system and
      applications through keeping a record of audit logs and performing regular
      review of such audit logs and implementing adequate password
      controls.





As a
result of these remedial actions, management believes that our deficiencies
identified above have been remediated. However, as of March 31, 2009, management
concluded that we still have one significant deficiency and four deficiencies as
set forth below:





Our
significant deficiency related to:





·
            an
      inadequate control over cutoff of certain marketing expenses, primarily in
      the category of slotting fees, which could result in a material impact on
      our financial statements.





Our
deficiencies related to:





·
            an
      incomplete stock count of inventory at certain
  warehouses;





·
            a
      malfunction of our anti-fraud hotline which may lead to ineffective
      monitoring over fraud risk;





·
            recording
      of investments outside of the months in which they occurred;
      and





·
            an
      inappropriate delegation of authority in the financial reporting process
      of certain subsidiaries.





The
Company has discussed the significant deficiency and deficiencies identified
above with the Audit Committee, and is in the process of developing and
implementing remediation plans to address these deficiencies. These plans which
are currently being implemented include improving the cutoff procedures for
marketing expenses despite our largely dispersed sales network, implementing
stricter controls to ensure complete coverage of the inventory stock-taking
process, clarifying the instructions on how to use our anti-fraud hotline,
implementing controls to ensure that all investments are accurately calculated
and recorded in the appropriate months, and revisiting certain job allocations
to ensure proper segregation of duties.





Other
than as described above, management does not believe that there have been any
other changes in the Company’s internal control over financial reporting during
the Company’s most recent fiscal quarter, which have materially affected, or are
reasonably likely to materially affect, the Company’s internal control over
financial reporting.




108




REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To the
Board of Directors and Stockholders of


Synutra
International Inc.


Rockville,
Maryland





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





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





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





Because
of the inherent limitations of internal control over financial reporting,
including the possibility of collusion or improper management override of
controls, material misstatements due to error or fraud may not be prevented or
detected on a timely basis. Also, projections of any evaluation of the
effectiveness of the internal control over financial reporting to future periods
are subject to the risk that the controls may become inadequate because of
changes in conditions, or that the degree of compliance with the policies or
procedures may deteriorate.





In our
opinion, the Company maintained, in all material respects, effective internal
control over financial reporting as of March 31, 2009, based on the criteria
established in Internal
Control — Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission.





We have
also audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated financial statements and
financial statement schedules as of and for the year ended March 31, 2009, of
the Company and our report dated June 15, 2009 expressed an unqualified opinion
on those financial statements and financial statement schedules and included
explanatory paragraphs regarding the Company’s going concern and the adoption of
FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes – an
Interpretation of FASB Statement No. 109”, effective April 1, 2007.





/s/
Deloitte Touche Tohmatsu CPA Ltd.


Shanghai,
China


June 15,
2009





ITEM 9B.
            OTHER
      INFORMATION


None.


109


PART
III




ITEM 10.
            DIRECTORS,
      EXECUTIVE OFFICERS AND CORPORATE
GOVERNANCE




EXECUTIVE
OFFICERS, DIRECTORS AND SIGNIFICANT EMPLOYEES




The
following sets forth information about our directors and executive officers as
of March 31, 2009:





Name
            
            Age
            
            PositionDirectors
      and Executive OfficersLiang
      Zhang
            
            49
            
            Chairman
      of the Board of Directors and Chief Executive OfficerJinrong
      Chen
            
            49
            
            Director(1)(2)(3)Yiu-Chun
      Chan
            
            56
            
            Director(1)(2)(3)Lei
      Lin
            
            41
            
            Director(1)(2)(3)William
      W. Wu
            
            47
            
            Director
      and President—Marketing and SalesWeiguo
      Zhang
            
            51
            
            President
      and Chief Operating OfficerLawrence
      Lee
            
            44
            
            Chief
      Financial OfficerXisen
      Mu
            
            51
            
            President—Production







(1)
            Member
      of Audit Committee.(2)
            Member
      of Compensation Committee.(3)
            Member
      of Nominating Committee.




Liang Zhang. Liang Zhang is
our founder and has served as the chairman of our board of directors and chief
executive officer since we became a public company in 2005. Mr. Zhang has worked
in the food ingredients industry since the 1980s and founded his first
entrepreneurial venture, Honnete, in the early 1990s. Honnete has since become
the dominant supplier of whey protein products in China. Mr. Zhang has been
recognized as a business leader in the dairy industry in China, serving as
vice-chairman of the China Dairy Industry Association. Mr. Zhang received a
bachelor’s degree in French language and literature from Nanjing International
Relations Institute of China.





Jinrong Chen. Jinrong Chen
has served as a director of our board of directors since June 27, 2006.
Ms. Chen has served as associate professor at the School of Economics and
Management of Tsinghua University in Beijing since 2001, specializing in
corporate finance management, securities analysis, financial operations,
corporate governance and controls. In addition to her academic career with top
business schools in China, Ms. Chen also advises public companies and
private businesses in China. Ms. Chen received her bachelor’s degree in
accounting from Beijing Institute of Electronics & Information and her
MBA degree from Renmin University of China.





Yiu-Chun Chan. Yiu-Chun Chan
has served as a director of our board of directors since December 3, 2006.
Mr. Chan has over 30 years of experience in marketing agricultural and food
products in the Greater China area, and is the chief executive officer and
founder of P R Consultants Limited. Previously, he served as an Executive
Director of Lintas Hong Kong Limited and a partner of Times Direct Marketing
Asia—the largest privately held direct marketing company in South East Asia. Mr.
Chan began his career marketing agricultural products at Sunkist Growers, where
he was responsible for the advertising and promotion activities in the Hong Kong
market. Mr. Chan received his Diploma in communications from Hong Kong Baptist
University.





Lei Lin. Lei Lin has served
as a director of our board of directors since October 1, 2007. Mr. Lin is
president and co-chief executive officer of Sinotrust, a leading consulting
company in China which Mr. Lin founded in 1992. Mr. Lin received his bachelor’s
degree in applied economic mathematics from Renmin University of
China.





Weiguo Zhang. Weiguo Zhang
has been our chief operating officer and president since 2005 and is primarily
responsible for our financial market operations, including investor relations,
corporate development, and international strategic development. Mr. Zhang first
joined us as president of Synutra Illinois in 2001 to oversee our U.S.
operations, including information support in research and technologies and
business development. Prior to joining us, Mr. Zhang was the managing
director of Bambridge International, Ltd., which he founded in 1995.
Mr. Zhang received a bachelor’s degree in English language and literature
from the Nanjing International Relations Institute and a master’s degree in
international economics and American foreign policy from the School of Advanced
International Studies from John Hopkins University.


110


Lawrence Lee. Lawrence Lee
has served as our chief financial officer since October 1, 2007.
Mr. Lee also served as a director of our board of directors from
December 3, 2006 to September 30, 2007. From August 1, 2004 to
September 30, 2007, Mr. Lee was vice president and chief financial officer
of Kasen International Holdings Limited, a public company listed on the Hong
Kong Stock Exchange. Prior to that, Mr. Lee served as chief financial
officer at Eagle Brand Holdings Limited, a company listed on the Singapore Stock
Exchange. Mr. Lee’s experience also includes serving as a financial
controller at the Korean division of Exel Plc, and serving as a senior auditor
at Waste Management Inc.’s international department in London. Mr. Lee is an
associate member of the Association of Chartered Certified Accountants. Mr. Lee
received a bachelor’s degree in management and engineering from Beijing
Institute of Technology, a master’s degree in economics from Renmin University
of China, and a master’s degree in accounting and finance from the London School
of Economics.





William W. Wu. William W. Wu
has served as our president of marketing and sales since July 2007 and is
currently a member of our board of directors. Mr. Wu served as our vice
president of marketing and sales since December 2005. Before joining us, Mr. Wu
worked as a member of the senior management on sales, marketing and market
research with Bristol-Myers Squibb (China) since 2001. Prior to that,
Mr. Wu also worked in the marketing departments of Bristol Myers Squibb,
Merck-Medco, a pharmacy benefit manager affiliated with Merck, later spun off
from Merck as an independent company, and other sales and marketing
organizations in the United States. Mr. Wu received a master’s degree in
American studies from Beijing Foreign Studies University and his Ph.D. in
sociology from the University of North Carolina at Chapel Hill.





Xisen Mu. Xisen Mu has served
as our president of production since January 2007. Before joining us,
Mr. Mu worked as general manager of Heilongjiang Dairy Group since 2001.
Prior to that, Mr. Mu held senior positions with other major dairy companies in
Heilongjiang province. He has more than 20 years of experience in the dairy
industry in China. Mr. Mu received a diploma in management from Qiqihar
Institute of Light Industry.





Our
directors have a term of office expiring at the next annual general meeting,
unless re-elected or earlier vacated in accordance with our bylaws. Our officers
are appointed by and serve at the discretion of the board of directors. All
officers have a term of office lasting until their removal or replacement by our
board of directors. There are no family relationships among our directors or
officers.




Board
of Directors





Our board
of directors currently has five directors, consisting of three independent
directors, all of whom are independent as defined by the applicable listing
requirements of the NASDAQ Global Select Market. All directors are elected to
hold office until our next annual meeting of stockholders and until their
successors have been elected or until their earlier resignation or
removal.





On June
11, 2008, our board of directors and stockholders approved our amended and
restated certificate of incorporation, which became effective on October 17,
2008. Our amended and restated certificate of incorporation provides that our
board of directors shall be divided into three classes of directors. The three
classes, which are required to be as nearly equal in number as possible, will be
designated class I, class II and class III, and serve staggered three-year terms
and hold office until their term of office expires or until such time as they
are removed from office by resolution of our stockholders. To effect such
staggered terms, our amended and restated bylaws provides that the directors
first elected to class I shall serve for a term ending on the annual meeting
date following the end of 2008, the directors first elected to class II shall
serve for a term ending on the second annual meeting date following the end of
2008, and the directors first elected to class III shall serve for a term ending
on the third annual meeting date following the end of 2008. Our board of
directors has designated Liang Zhang and William Wu as class I directors,
Jinrong Chen and Yiu-Chun Chan as class II directors and Lei Lin as a class III
director. At the stockholder’s annual meeting on March 12, 2009, Liang Zhang and
William Wu were re-elected as class I directors, as discussed in “Part II - Item
4. Submission of Matters to a Vote of Security Holders”.




111




Board
Committees





Our
board has established the committees described below and may establish others
from time to time.





Audit Committee





Our audit
committee consists of Jinrong Chen, Lei Lin and Yiu-Chun Chan, all of whom are
independent as defined by the applicable listing requirements of the NASDAQ
Global Select Market. Ms. Chen is the chairperson of our audit committee
and serves as the financial expert of the committee. The audit committee
oversees our accounting and financial reporting processes and the audits of our
financial statements. The audit committee is responsible for, among other
things:




•
            
            reviewing
      and discussing with management and the independent registered public
      accounting firm our annual and quarterly financial statements and related
      disclosures;




•
            
            coordinating
      the oversight and reviewing the adequacy of our internal control over
      financial reporting with both management and the independent registered
      public accounting firm;




•
            
            establishing
      policies and procedures for the receipt and retention of accounting
      related complaints and concerns, including a confidential, anonymous
      mechanism for the submission of concerns by
  employees;




•
            
            periodically
      reviewing legal compliance matters, including securities trading policies,
      periodically reviewing significant accounting and other risks or exposures
      to our company, reviewing and, if appropriate, approving all transactions
      between our company or its subsidiaries and any related party (as
      described in Item 404 of Regulation S-K) and periodically reviewing
      business expenses of our chief executive officer;
  and




•
            
            establishing
      policies for the hiring of employees and former employees of the
      independent registered public accounting
firm.





Compensation
Committee





Our
compensation committee consists of Jinrong Chen, Yiu-Chun Chan, and Lei Lin.
Ms. Chen is the chairperson of our compensation committee. The purpose of
our compensation committee is to discharge the responsibilities of our board of
directors relating to compensation of our executive officers. Specific
responsibilities of our compensation committee include:




•
            
            reviewing
      and recommending approval of compensation of our executive
      officers;




•
            
            administering
      our stock incentive and employee stock purchase plans;
  and




•
            
            reviewing
      and making recommendations to our board with respect to incentive
      compensation and equity plans.





Nominating
Committee





Our
nominating committee consists of Yiu-Chun Chan, Jinrong Chen, and Lei Lin.
Mr. Chan is the chairman of our nominating committee. The purpose of our
nominating committee is to be primarily responsible for identifying individuals
qualified to serve as members of the board of directors and recommending to the
board the persons to be nominated by the board as nominees for director at each
annual meeting of our stockholders. Specific responsibilities of our nominating
committee include:




•
            
            developing
      and recommending to the board of directors criteria for board of directors
      and committee membership;





•
            
            identifying
      individuals qualified to become board of directors
  members;




•
            
            recommending
      to the board of directors the persons to be nominated for election as
      directors and to each of the board of directors’
    committees;




•
            
            developing
      and recommending to the board of directors a code of ethical conduct and a
      set of corporate governance policies and practices;
  and




•
            
            monitoring
      and evaluating the performance of the board of directors and leading the
      board in an annual self-assessment of its practices and
      effectiveness.


112


Section
16(a) Beneficial Ownership Reporting Requirements





Section 16(a)
of the Securities Exchange Act of 1934 requires our executive officers,
directors and persons who own beneficially more than ten percent of a registered
class of our equity securities to file reports of ownership and changes in
ownership with the Securities and Exchange Commission and the NASDAQ Global
Select Market. The Securities and Exchange Commission has established specific
due dates for these reports, and we must disclose in this 10-K any late filings
during the fiscal year ended March 31, 2009. These persons are required
by regulation of the SEC to furnish copies of all Section 16(a) forms to
the Company. Based solely upon our review of the copies of such forms received
by the Company, we believe that during the year ended March 31, 2009 our
officers, directors and greater than ten percent beneficial owners complied with
the Section 16(a) filing requirements.




Code
of Ethics





The
Company has a code of ethics that applies to all of the Company’s employees,
including its principal executive officer, principal financial officer and
principal accounting officer, and the Board of Directors. A copy of this code is
available on the Company's website at www.synutra.com. The Company intends to
disclose any changes in or waivers from its code of ethics by posting such
information on its website or by filing a Form 8-K.


113





ITEM 11.
            EXECUTIVE
      COMPENSATION




COMPENSATION
DISCUSSION AND ANALYSIS





This
section describes the material elements of compensation earned by our executive
officers during the fiscal year ended March 31, 2009. Our executive compensation
programs are determined and approved by the compensation committee of our board
of directors.





Liang
Zhang and Lawrence Lee, who serve as our chief executive officer and our chief
financial officer, respectively, and William W. Wu were our “named executive
officers” for the fiscal year ended March 31, 2009, and the compensation
for these officers is reported in the “Summary Compensation Table” below. No
other executive officer received compensation in excess of $100,000 for the
fiscal year ended March 31, 2009. Unless otherwise noted, the amounts
reported in this Form 10-K have been converted from Renminbi to U.S. dollars
based on the conversion rate as of March 31, 2009 of RMB6.8359 to
$1.00.




Overview
of Executive Compensation Program





The
compensation committee has responsibility for establishing, implementing and
monitoring our executive compensation program philosophy and practices. The
compensation committee seeks to ensure that the total compensation paid to our
executive officers is fair, reasonable and competitive.




Compensation
Philosophy and Objectives





The
compensation committee believes that an effective executive compensation program
should provide base annual compensation that is reasonable in relation to the
individual executive’s job responsibilities and reward the achievement of both
annual and long-term strategic goals of our company. Because of the size of our
company, the small number of executive officers in our company, and our
company’s financial priorities, the compensation committee has decided not to
implement or offer any retirement plans, deferred compensation plans or other
similar plans for our executive officers. Accordingly, for the fiscal year ended
March 31, 2009, the components of our executive compensation program consisted
of cash salary only. On June 11, 2008, the Company adopted the 2008 Stock
Incentive Plan (the “Plan”). The Plan provides the Company with the ability to
grant stock-based awards to all employees, officers and directors. Although the
compensation committee currently has not granted any stock-based awards, the
compensation committee will consider using equity incentive grants in the
future.





The
compensation committee also takes into account in making its decisions the
executive compensation programs of other manufacturing and marketing companies
operating in China. The compensation committee may in future years reassess the
levels of equity and cash compensation offered to our executives in light of our
profitability and other performance factors.




Role
of Executive Officers in Compensation Decisions





Our
compensation committee and chief executive officer annually review the
performance of each executive officer (other than the chief executive officer,
whose performance is reviewed only by the compensation committee). The
compensation committee makes all decisions with respect to compensation for the
chief executive officer and will approve grants of equity awards to all of our
executive officers. Decisions regarding the non-equity compensation of our
executive officers other than our chief executive officer are made by our chief
executive officer.




Setting
Executive Compensation





In making
its compensation decisions, our compensation committee does not retain outside
compensation consultants. Instead, the compensation committee reviews
compensation data for executives of other listed companies located in China. The
compensation committee utilizes this data to set compensation for our executive
officers at levels targeted at or around the average of the compensation amounts
provided to similarly situated executives at comparable local companies
considering, for each executive, their individual experience level and the
responsibilities of their position with us. There is no pre-established policy
or target for the allocation between cash and non-cash incentive
compensation.


114


Employment
Agreements





We have
entered into standard employment agreements with each of our executive officers,
including the named executive officers. The terms and conditions of these
employment agreements are determined via negotiations between the employee
parties and us, and the framework and structure of the agreements are intended
to comply with applicable PRC labor and employment laws.





Liang
Zhang’s employment agreement was automatically extended and has an indefinite
term and provides for an annual base salary of approximately $175,544. William
W. Wu’s employment agreement has a two-year term that ends on June 30, 2009,
which will be automatically extended for another two years upon expiration, and
provides for an annual base salary of approximately $122,881. Lawrence Lee’s
employment agreement was automatically extended for another two years for a term
that ends on December 31, 2010 and provides for an annual base salary of
approximately $110,593.




2009
Executive Compensation Components





For the
fiscal year ended March 31, 2009, the principal component of compensation for
our executive officers was their base salary. We provide executive officers with
a base salary to compensate them for services rendered during the fiscal year.
Base salary ranges for the executive officers are determined for each executive
based on his or her position and responsibility.





During
its review of base salaries for executives, the compensation committee primarily
considers:




•
            
            the
      negotiated terms of each executive’s employment
  agreement;




•
            
            internal
      review of the executive’s compensation, both individually and relative to
      other executive officers; and




•
            
            individual
      performance of the executive.





Salary
levels are typically considered annually as part of our performance review
process, as well as upon a change in job responsibility. Merit-based increases
to salaries are based on the compensation committee’s assessment of the
individual’s performance.





Our
executive officers did not receive any annual bonus or equity-based compensation
for the fiscal year ended March 31, 2009.




Summary
Compensation Table — Fiscal Years Ended March 31, 2009, 2008 and
2007





The
following table presents information regarding compensation of our named
executive officers for services rendered during the fiscal years ended March 31,
2009, 2008 and 2007. The amounts reported in this table have been converted from
Renminbi to U.S. dollars based on the March 31, 2009 conversion rate of RMB
6.8359 to $1.00.




Name and Principal
                      Position
                    
                    Year
                      ended
                      March,
                      31
                    
                    Salary
                      ($)
                    
                    Bonus
                      ($)
                    
                    Stock
                      Awards
                      ($)
                    
                    Option
                      Awards
                      ($)
                    
                    Non-Equity
                      Incentive Plan
                      Compensation
                      ($)
                    
                    Change in
                      Pension Value
                      and
                      Nonqualified
                      Deferred
                      Compensation
                      Earnings ($)
                    
                    All Other
                      Compensation
                      ($)
                    
                    Total ($)(a)
                    
                    (b)
                    
                    (c)
                    
                    (d)
                    
                    (e)
                    
                    (f)
                    
                    (g)
                    
                    (h)
                    
                    (i)
                    
                    (j)Liang Zhang(1)
                      Chairman
      of the Board and Chief Executive Officer
                    
                    
                    2009
                      2008
                      2007
                    
                    175,544
                      170,964
                      32,334
                    
                    
                    —
                      —
                      —
                    
                    —
                      —
                      —
                    
                    
                    —
                      —
                      —
                    
                    —
                      —
                      —
                    
                    
                    —
                      —
                      —
                    
                    —
                      —
                      —
                    
                    
                    175,544
                      170,964
                      32,334Lawrence
      Lee(2)
                      Chief
      Financial Officer
                    
                    
                    2009
                      2008
                      2007
                    
                    110,593
                      56,988
                      —
                    
                    
                    —
                      —
                      —
                    
                    —
                      —
                      —
                    
                    
                    —
                      —
                      —
                    
                    —
                      —
                      —
                    
                    
                    —
                      —
                      —
                    
                    —
                      10,407
                      —
                    
                    
                    110,593
                      67,395
                      —William
      W. Wu
                      President —
      Marketing and Sales
                    
                    
                    2009
                      2008
                      2007
                    
                    122,881
                      119,675
                      119,675
                    
                    
                    —
                      —
                      —
                    
                    —
                      —
                      —
                    
                    
                    —
                      —
                      —
                    
                    —
                      —
                      —
                    
                    
                    —
                      —
                      —
                    
                    —
                      —
                      —
                    
                    
                    122,881
                      119,675
                      119,675








(1)
            Because
      of his significant equity interest in us, Liang Zhang elected not to
      receive any form of compensation, monetary or otherwise, prior to January
      2007. The amount for 2007 reflects the base salary paid to Liang Zhang for
      the last three months of the fiscal year ended March 31,
    2007.(2)
            As
      noted above, Lawrence Lee was appointed our chief financial officer
      effective October 1, 2007. The amounts reported in column (i) reflect
      retainer fees for his service on our board of directors prior to his
      appointment as our chief financial
officer.


115


Compensation
Committee Report





The
Compensation Committee has reviewed and discussed with management the
“Compensation Discussion and Analysis” required by Item 402(b) of Regulation S-K
and, based on such review and discussions, has recommended to our board of
directors that the foregoing “Compensation Discussion and Analysis” be included
in this Annual Report.




Compensation Committee of
the Board of Directors





Jinrong
Chen (Chairperson)


Yiu-Chun
Chan


Lei
Lin





Plan-Based
Awards — Fiscal Year Ended March 31, 2009





None of
our named executive officers received any grants of options or other stock-based
awards during the fiscal year ended March 31, 2009. Additionally, none of our
named executive officers held any outstanding options or other stock-based
awards as of the last day of the fiscal year ended March 31, 2009, nor did any
of our named executive officers exercise any options or hold any other stock
awards that vested during the fiscal year ended March 31, 2009.





Potential
Payments upon Termination of Employment or Change of Control





We have
not entered into any arrangements with our executive officers to provide
severance or change of control benefits. Upon a termination of employment by us,
an employee is generally entitled under PRC labor law to one month’s severance
pay for each full year he or she has been employed with us (with a minimum of
one month’s severance pay and a maximum of 12 months’ severance pay). We have
not made such severance provisions for our executive officers as the amount is
not material.





Stock
Incentive Plan





We have
adopted the 2008 Stock Incentive Plan to provide an additional means to attract,
motivate, retain and reward selected employees and other eligible persons.
Employees, officers, directors, and consultants that provide services to us or
one of our subsidiaries may be selected to receive awards under the
Plan.





Our board
of directors, or a committee of directors appointed by the board, will have the
authority to administer the Plan. The administrator of the plan will have broad
authority to:




•
            
            select
      participants and determine the types of awards that they are to
      receive;




•
            
            determine
      the number of shares that are to be subject to awards and the terms and
      conditions of awards, including the price (if any) to be paid for the
      shares or the award;





•
            
            cancel,
      modify or waive our rights with respect to, or modify, discontinue,
      suspend or terminate any or all outstanding awards, subject to any
      required consents;




•
            
            construe
      and interpret the terms of the
Plan;




•
            
            accelerate
      or extend the vesting or exercisability or extend the term of any or all
      outstanding awards;




•
            
            subject
      to the other provisions of the Plan, make certain adjustments to an
      outstanding award and authorize the conversion, succession or substitution
      of an award; and




•
            
            allow
      the purchase price of an award or shares of our common stock to be paid in
      the form of cash, check or electronic funds transfer, by the delivery of
      already-owned shares of our common stock or by a reduction of the number
      of shares deliverable pursuant to the award, by services rendered by the
      recipient of the award, by notice and third-party payment or cashless
      exercise on such terms as the administrator may authorize, or any other
      form permitted by law.


116


A total
of 12,500,000 shares of our common stock have been authorized for issuance with
respect to awards granted under the Plan. Any shares subject to awards that are
not paid or exercised before they expire or are terminated, as well as shares
used to pay the purchase or exercise price of awards or related tax withholding
obligations, will become available for other award grants under the Plan. As of
the date of this filing, no awards have been granted under the Plan, and the
full number of shares authorized under the Plan will be available for award
purposes.





Awards
under the Plan may be in the form of incentive or nonqualified stock options,
stock appreciation rights, restricted stock, stock bonuses and other forms of
awards granted or denominated in our common stock or units of our common stock.
Awards under the plan generally will not be transferable other than by will or
the laws of descent and distribution, except that the plan administrator may
authorize certain transfers for tax or estate planning purposes.





Nonqualified
stock options and other awards may be granted at prices below the fair market
value of the common stock on the date of grant. Restricted stock awards can be
issued for nominal or the minimum lawful consideration. Incentive stock options
must have an exercise price that is at least equal to the fair market value of
our common stock, or 110% of fair market value of our common stock for incentive
stock option grants to any 10% owner of our common stock, on the date of grant.
These and other awards may also be issued solely or in part for services. Awards
are generally paid in cash or shares of our common stock. Subject to applicable
tax law, the plan administrator may provide for the deferred payment of awards
and may determine the terms applicable to deferrals.





As is
customary in incentive plans of this nature, the number and kind of shares that
will be available under the Plan and any outstanding awards, as well as the
exercise or purchase prices of awards, will be subject to adjustment in the
event of certain reorganizations, mergers, combinations, recapitalizations,
stock splits, stock dividends or other similar events that change the number or
kind of shares outstanding, and extraordinary dividends or distributions of
property to the stockholders. In no case (except due to an adjustment referred
to above or any repricing that may be approved by our stockholders) will any
adjustment be made to a stock option or stock appreciation right award under the
Plan (by amendment, cancellation and regrant, exchange or other means) that
would constitute a repricing of the per-share exercise or base price of the
award.





Upon the
occurrence of any of the following:




•
            
            any
      merger, combination, consolidation, or other
    reorganization;




•
            
            any
      exchange of our common stock or other
  securities;




•
            
            a
      sale of all or substantially all of our business, stock or
      assets;





•
            
            our
      dissolution; or




•
            
            any
      other event in which we do not survive (or do not survive as a public
      company in respect of our common
stock);





Outstanding
awards under the Plan will generally become fully vested and will terminate upon
the transaction, unless the awards are assumed by the successor entity or
otherwise continue in the circumstances.





Our board
of directors may amend or terminate the Plan at any time, but no such action
will affect any outstanding award in any manner materially adverse to a
participant without the consent of the participant. The Plan and any Plan
amendments will be submitted to stockholders for their approval as required by
applicable law or any applicable listing agency. The Plan is not exclusive — our
board of directors and compensation committee may grant stock and performance
incentives or other compensation, in stock or cash, under other plans or
authority.





The plan
will terminate on June 10, 2018. However, the plan administrator will retain its
authority until all outstanding awards are exercised or terminated. The maximum
term of options, stock appreciation rights and other rights to acquire common
stock under the plan is ten years after the initial date of the
award.


117




Director
Compensation





The
following table presents information regarding the compensation for the fiscal
year ended March 31, 2009 to members of our board of directors who were not also
employed by us (referred to as our “non-employee directors”) during the fiscal
year. The compensation paid to Liang Zhang, Lawrence Lee and William W. Wu, each
of whom is employed by us, is presented below in the table titled “Summary
Compensation Table—Fiscal Years Ended March 31, 2009, 2008 and 2007” and the
related explanatory notes.





Name
                
                Fees
                  Earned
                  or Paid
                  in Cash
                  ($)
                
                
                Stock
                  Awards
                  ($)(1)
                
                
                Option
                  Awards
                  ($)(1)
                
                
                Non-Equity
                  Incentive Plan
                  Compensation
                  ($)
                
                
                Change in
                  Pension Value
                  and
                  Nonqualified
                  Deferred
                  Compensation
                  Earnings
                  ($)
                
                
                All Other
                  Compensation
                  ($)
                
                
                Total
                  ($)Jinrong
      Chen
                
                
                40,000
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                40,000Yiu-Chun
      Chan
                
                
                40,000
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                40,000Lei
      Lin
                
                
                40,000
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                40,000







(1)
            None
      of our non-employee directors held any outstanding options or other
      stock-based awards as of the last day of the fiscal year ended March 31,
      2009.




Non-Employee
Director Compensation





Currently,
each of our non-employee directors is entitled to receive an annual cash
retainer of $40,000 for his or her services as a director. In addition, our
non-employee directors are reimbursed for travel, lodging and other reasonable
out-of-pocket expenses incurred in attending meetings of the board and board
committees. Our non-employee directors do not receive any equity-based awards or
other compensation for their service as directors.




Compensation
Committee Interlocks and Insider Participation





Jinrong
Chen, Yiu-Chun Chan and Lei Lin each served on the compensation committee during
the fiscal year ended March 31, 2009. None of these directors is or was an
executive officer of our company or had any relationships requiring disclosure
by us under the SEC’s rules requiring disclosure of certain relationships and
related-party transactions. None of our executive officers served as a director
or a member of a compensation committee (or other committee serving an
equivalent function) of any other entity, the executive officers of which served
as a director or member of our compensation committee during the fiscal year
ended March 31, 2009.




118




ITEM
      12.
            SECURITY
      OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
      STOCKHOLDER MATTERS




Security
Ownership of Certain Beneficial Owners




The
following table sets forth information, as of June 12, 2009, regarding the
beneficial ownership of our common stock by:




•
            each
      person known by us to be a beneficial owner of more than five percent of
      our outstanding common stock;





•
            each
      of our directors and director
nominees;





•
            each
      of our named executive officers;
and





•
            all
      directors and executive officers as a
group.




The
amounts and percentage of common stock beneficially owned are reported on the
basis of regulations of the SEC governing the determination of beneficial
ownership of securities. Under the rules of the SEC, a person is deemed to be a
“beneficial owner” of a security if that person has or shares “voting power,”
which includes the power to vote or to direct the voting of such security, or
“investment power,” which includes the power to dispose of or to direct the
disposition of such security. A person is also deemed to be a beneficial owner
of any securities of which that person has a right to acquire beneficial
ownership within 60 days after June 12, 2009. Under these rules, more than one
person may be deemed a beneficial owner of the same securities and a person may
be deemed a beneficial owner of securities as to which he has no economic
interest. Except as indicated by footnote, the persons named in the table below
have sole voting and investment power with respect to all shares of common stock
shown as beneficially owned by them.




Percentage
of class is based on 54,000,713 shares of common stock outstanding as of June
12, 2009.Unless
otherwise noted below, the address of the persons listed on the table is 2275
Research Blvd., Suite 500, Rockville, Maryland 20850.




119




Shares
                    Beneficially
                    Owned
      Prior to
                    This
      OfferingName
                  
                  Number
                  
                  
                  PercentOFFICERS
      AND DIRECTORSLiang
      Zhang, Director and Chief Executive Officer(1)
                  
                  
                  36,000,000
                  
                  
                  
                  66.67
                  %Lawrence
      Lee, Chief Financial Officer
                  
                  
                  —
                  
                  
                  
                  —Weiguo
      Zhang, President and Chief Operating Officer
                  
                  
                  2,000
                  
                  
                  
                  *William
      W. Wu, Director and President of Marketing and Sales
                  
                  
                  —
                  
                  
                  
                  —Jinrong
      Chen, Director
                  
                  
                  —
                  
                  
                  
                  —Yiu—Chun
      Chan, Director
                  
                  
                  —
                  
                  
                  
                  —Lei
      Lin, Director
                  
                  
                  —
                  
                  
                  
                  —Xisen
      Mu, President of Production
                  
                  
                  —
                  
                  
                  
                  —All
      Officers and Directors as a Group
                  
                  
                  36,002,000
                  
                  
                  
                  66.67
                  %PRINCIPAL
      STOCKHOLDERWarburg
      Pincus Private Equity IX, L.P.(2)
                  
                  
                  5,000,000
                  
                  
                  
                  9.26
                  %








*
            Less
      than 1%


(1)
            This
      amount includes 36,000,000 shares owned by Beams Power Investment Limited,
      or Beams, a British Virgin Islands company. In addition Beams had issued a
      senior convertible note dated April 23, 2008, to the
      Warburg Pincus Entities, as defined below, convertible into up to
      1,000,000 shares of common stock held by Beams. Liang Zhang has
      dispositive and voting power over investments by Beams. Liang Zhang’s
      wife, Xiuqing Meng, is the sole shareholder and director of Beams. Of the
      shares held by Beams, 5,967,000 shares were pledged to Warburg (as defined
      below) pursuant to a share pledge agreement, dated April 23, 2008 and an
      additional 8,000,000 shares were pledged to Warburg on December 4, 2008,
      see “Item 13. Certain Relationships and Related Transactions, and Director
      Independence.”


(2)
            According
      to a Schedule 13D/A filed by Warburg Pincus Private Equity IX, L.P., or
      Warburg, with the SEC on September 1, 2008, Warburg Pincus IX LLC, or WP
      IX LLC, is the sole general partner of Warburg. Warburg Pincus Partners
      LLC, or WP Partners, is the sole managing member of WP IX LLC, and Warburg
      Pincus & Co., or WP, is the sole managing member of WP Partners.
      Charles R. Kaye and Joseph P. Landy are general partners of WP and
      managing members and co-presidents of Warburg Pincus LLC, or WP LLC, which
      manages Warburg. WP, WP Partners, WP IX LLC, Warburg and WP LLC are
      collectively referred to as the “Warburg Pincus Entities.” Messrs. Kaye
      and Landy may be deemed to indirectly beneficially own the shares held by
      Warburg because of their affiliation with the Warburg Pincus Entities.
      Messrs. Kaye and Landy disclaim beneficial ownership of the shares held by
      Warburg except to the extent of their pecuniary interest therein. The
      address of the Warburg Pincus Entities is 466 Lexington Avenue, New York,
      New York, 10017. This amount includes 4,000,000 shares of common stock
      held directly by the Warburg Pincus Entities and up to 1,000,000 shares of
      common stock issuable to the Warburg Pincus Entities pursuant to the
      Senior Exchangeable Note, dated April 23, 2008, issued by Beams Power
      Investment Limited.




120




Securities
Authorized for Issuance Under Equity Compensation Plans





We
currently have a 2008 Stock Incentive Plan which has been approved by our
shareholders. The plan will terminate on June 10, 2018. To date, we have not
issued any awards under the Plan.




The
following table sets forth the number of common shares remaining available for
future issuance under the plan as of March 31, 2009.




Number of Common SharesRemaining Available forFuture Issuance UnderNumber of Common
                      
                      
                      
                      
                      
                      EquityShares to be Issued
                      
                      
                      Weighted-Average
                      
                      
                      Compensation PlansUpon Exercise of
                      
                      
                      Exercise Price of
                      
                      
                      (Excluding SharesOutstanding Options,
                      
                      
                      Outstanding Options,
                      
                      
                      Reflected inPlan Category
                      
                      Warrants and Rights
                      
                      
                      Warrants and Rights
                      
                      
                      the First Column)Equity
      compensation plans approved by shareholders
                      
                      
                      —
                      
                      
                      
                      —
                      
                      
                      
                      12,500,000Equity
      compensation plans not approved by shareholders
                      
                      
                      —
                      
                      
                      
                      —
                      
                      
                      
                      —Total
                      
                      
                      —
                      
                      
                      
                      —
                      
                      
                      
                      12,500,000




121




ITEM
      13.
            CERTAIN
      RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR
      INDEPENDENCE





Transactions
with Affiliate Companies controlled by Liang Zhang





Our
chairman, chief executive officer and principal stockholder, Liang Zhang,
controls several other companies in China. Among these companies, we sell butter
and skimmed milk powder to Beijing Kelqin Dairy Co., Ltd. and Honnete,
formulation ingredients to Beijing Ao Naier Feed Stuff LLC, our name brand
products to St. Angel (Beijing Business Service) and engage the services of
Beijing Luding Xueyuan for direct sales, catalogue sales, and regional retail
outlets distribution. We also purchased whey protein powder from Honnete and
Beijing Kelqin Dairy Co., Ltd., and catalogues, brochures, and marketing
materials from Beijing Sheng Long Media Co., Ltd. In January 2008, Liang Zhang
sold all his interest in Beijing Ao Naier Feed Stuff LLC, and Beijing Luding
Xueyuan.





Honnete
imports whey protein from Eurosérum. We purchased substantially all of our whey
protein powder from Honnete until December 2007, when we started to purchase
substantially all of our whey protein powder directly from Eurosérum. For the
fiscal year ended March 31, 2009, we purchased $10.4 million of whey protein
powder from Honnete.





The
following table sets forth the value of our sales to our affiliated companies
during the period indicated.





Year
      Ended
                    March
      31,
                    2009(in
      thousands)Beijing
      Honnete Dairy Co., Ltd.
                  
                  $
                  2,255Total
                  
                  $
                  2,255





The
following table sets forth the value of our purchases from our affiliated
companies during the period indicated.





Year
      ended
                    March
      31,
                    2009(in
      thousands)Beijing
      Honnete Dairy Co., Ltd.
                  
                  $
                  10,376St.
      Angel (Beijing Business Service)
                  
                  
                  1,639Beijing
      Sheng Long Media Co., Ltd.
                  
                  
                  154Total
                  
                  $
                  12,169





In June
2008, we sold two commercial buildings, one of which was classified as assets
held for sale as of March 31, 2008, to Sheng Zhi Da Dairy Group Corporation, an
entity 100% controlled by our CEO, at the carrying value of $1.7 million. The
amount represents the balance due from Sheng Zhi Da Dairy Group Corporation as
of March 31, 2009.





We also
had short term loans from Honnete and Luyin, which were controlled by our CEO,
in the amount of $7.5 million as of March 31, 2009, and the amount has decreased
to $6.6 million as of June 12, 2009. The maturity dates of the short term loans
outstanding from related parties at March 31, 2009 are in October 2010. The
balance as of March 31, 2009 included a US dollar loan of $3.9 million and a RMB
loan of $3.6 million, and the interest rates were 10.0% and 5.5% respectively.
In the fiscal year ended March 31, 2009, we did not make any interest payment to
Honnete and Luyin. The accrued interest expenses associated with the loans from
our related parties was $238,200 as of March 31, 2009.




122




Registration Rights Agreement with
Warburg





On June
15, 2007, we issued 4,000,000 shares of common stock to Warburg Pincus Private
Equity IX, L.P., or Warburg, for $66.0 million and entered into a registration
rights agreement with Warburg. Pursuant to this registration rights agreement,
we granted Warburg certain customary registration rights, including demand,
piggyback and Form S-3 registration rights. Subject to the provisions of the
registration rights agreement and the restrictions of its lock-up agreement,
Warburg will be entitled to require us to register the resale of its shares
under the Securities Act.





On April
23, 2008, Beams Power Investment Limited, or Beams, a British Virgin Islands
limited liability company and our majority stockholder, and Warburg entered into
a note purchase agreement. Pursuant to this note purchase agreement, Beams
issued Warburg a senior convertible note in an aggregate principal amount of $30
million, which is convertible into up to 1,000,000 shares of our common stock
held by Beams. In addition, Beams and Warburg entered into a share pledge
agreement, dated April 23, 2008, pursuant to which Beams agreed to pledge an
aggregate of 5,967,000 of shares of our common stock held by Beams as initial
collateral for the loan covered by the note. On December 4, 2008, Beams agreed
to pledge an additional 8,000,000 shares of shares of our common stock held by
Beams as collateral for the loan covered by the note.





In
connection with the issuance of the note and the share pledge agreement, we
entered into a registration rights agreement, dated April 23, 2008, with Beams
and Warburg, pursuant to which we granted Warburg certain customary registration
rights, including demand, piggyback and Form S-3 registration rights, with
respect to the shares of our common stock Warburg acquires or may acquire
pursuant to the note purchase agreement, the note and the share pledge
agreement.




Review,
Approval or Ratification of Transactions with Related Parties





All
transactions involving the Company and its officers, directors, principal
shareholders and their affiliates will be and have been approved by our audit
committee.





Director
Independence





The Board
has determined all Board members, excluding Liang Zhang and William W. Wu, are
independent under the applicable NASDAQ rules. The Board has also determined the
members of each committee of the Board are independent under the listing
standards of the NASDAQ Global Select Market. In making these determinations,
the Board considered, among other things, the types and amounts of the
commercial dealings between the Company and the companies and organizations with
which the directors are affiliated.




123




ITEM
      14.
            PRINCIPAL
      ACCOUNTING FEES AND SERVICES





On July
27, 2007, we engaged Deloitte Touche Tohmatsu CPA Ltd. (“DTTC”) as our new
independent auditors. The engagement was approved by the Audit Committee of our
Board of Directors. No relationship existed in any manner between DTTC and us
prior to the date we engaged DTTC.




AUDIT
FEES





DTTC was
paid aggregate fees of approximately $1,202,520 and $1,234,190 for the fiscal
year ended March 31, 2009 and 2008, respectively, for professional services
rendered for the audit of our annual financial statements and for the reviews of
the financial statements included in our quarterly reports on Form
10-Q.




AUDIT-RELATED
FEES





DTTC was
paid aggregate fees of approximately nil and $467,735 for the fiscal year ended
March 31, 2009 and 2008, respectively, for assurance and related services
reasonably related to the performance of the audit or review of the Registrant’s
financial statements.




TAX
FEES





DTTC was
paid aggregate fees of approximately $13,000 and nil for the fiscal year ended
March 31, 2009 and 2008, respectively, for professional services rendered for
tax compliance, tax advice and tax planning.




ALL
OTHER FEES





DTTC was
paid no other fees for any other services rendered to the Company for the fiscal
year ended March 31, 2009 and 2008.





AUDIT
COMMITTEE PRE-APPROVAL POLICIES AND PROCEDURES





Our Audit
Committee’s policy is to pre-approve all audit and permissible non-audit
services provided by our independent auditors. These services may include audit
services, audit-related services, tax services and other services. Pre-approval
is generally provided for up to one year and any pre-approval is detailed as to
the particular service or category of services. The independent auditor and
management are required to periodically report to the Audit Committee regarding
the extent of services provided by the independent auditor in accordance with
this pre-approval.




124




PART IV




ITEM 15.
            EXHIBITS AND FINANCIAL
      STATEMENT SCHEDULES




(a)
            List
      of Documents Filed as a Part of this Annual Report on Form
      10-K:


1. See
Index to Consolidated Financial Statements in Item 8 of this
Report.


2. See
Index to Consolidated Financial Statements in Item 8 of this Report, and the
Consolidated Financial Schedules listed on such index filed as part of this
Report are filed as part of this Report.


3. The
exhibits listed on the exhibit index filed as part of this Report are filed or
incorporated by reference as part of this Report




125




SIGNATURES


Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant has duly caused this Annual Report on Form 10-K to be
signed on its behalf by the undersigned, thereunto duly authorized, on this
15th
day of June, 2009.




SYNUTRA
      INTERNATIONAL, INC.By:
                /s/
      Liang ZhangLiang
      ZhangChief
      Executive Officer and
                  Chairman





Each
person whose signature appears below appoints each of Liang Zhang and Lawrence
Lee, severally and not jointly, to be his true and lawful attorney-in-fact and
agent, with full power of substitution and resubstitution, for him and in his
name, place and stead, in any and all capacities, to sign any amendments to our
Annual Report on Form 10-K for the fiscal year ended March 31, 2009; granting
unto said attorney-in-fact and agent, full power and authority to do and perform
each and every act and thing requisite and necessary to be done, as fully for
all intents and purposes as he might or could do in person, hereby ratifying and
confirming all that said attorney-in-fact and agent, or his substitute or
substitutes, shall lawfully do or cause to be done by virtue
hereof.





Pursuant
to the requirements of the Securities Exchange Act of 1934, this Annual Report
on Form 10-K has been signed below by the following persons on behalf of the
Registrant and in the capacities.




Name
                    
                    Position
                    
                    Date/s/
      Liang ZhangLiang
      Zhang
                    
                    Chief
      Executive Officer, and Chairman
                      (Principal
      Executive Officer)
                    
                    June
      15, 2009/s/Lawrence
      LeeLawrence
      Lee
                    
                    Chief
      Financial Officer
                      (PrincipalFinancial
      and Accounting Officer)
                    
                    June
      15, 2009/s/
      Jinrong ChenJinrong
      Chen
                    
                    Director
                    
                    June
      15, 2009/s/
      Yiu-Chun ChanYiu-Chun
      Chan
                    
                    Director
                    
                    June
      15, 2009/s/
      Lei LinLei
      Lin
                    
                    Director
                    
                    June
      15, 2009/s/
      William W. WuWilliam
      W. Wu
                    
                    Director
                    
                    June
      15, 2009









EXHIBITS
INDEX




Exhibit
                  Number
              
              Description3.1
              
              Amended
      and Restated Certificate of Incorporation of Synutra International, Inc.
      (incorporated by reference to Exhibit 3.1 to the Registrant’s Quarterly
      Report on Form 10-Q filed on November 11, 2008)3.2
              
              Amended
      and Restated Bylaws of Synutra International, Inc. (incorporated by
      reference to Exhibit 3.2 to the Registrant’s Quarterly Report on Form 10-Q
      filed on November 11, 2008)4.1
              
              Specimen
      common stock certificate (incorporated by reference to Exhibit 4.1 to the
      Registrant’s Annual Report on Form 10-K filed on June 16,
      2008)10.1
              
              Employment
      Agreement between Qingdao Shengyuan Dairy Co., Ltd. and Liang Zhang, dated
      December 20, 2006 (incorporated by reference to Exhibit 10.1 to the
      Registrant’s Annual Report on Form 10-K filed on June 16,
      2008)10.2
              
              Employment
      Agreement between Qingdao Shengyuan Dairy Co., Ltd. and Lawrence Lee,
      dated September 1, 2007 (incorporated by reference to Exhibit 10.2 to the
      Registrant’s Annual Report on Form 10-K filed on June 16,
      2008)10.3
              
              Employment
      Agreement between the Beijing Representative Office of Qingdao Shengyuan
      Dairy Co., Ltd. and William W. Wu, dated July 1, 2007 (incorporated by
      reference to Exhibit 10.3 to the Registrant’s Annual Report on Form 10-K
      filed on June 16, 2008)10.4
              
              Employment
      Agreement between the Beijing Representative Office of Qingdao Shengyuan
      Dairy Co., Ltd. and Weiguo Zhang, dated January 1, 2007 (incorporated by
      reference to Exhibit 10.4 to the Registrant’s Annual Report on Form 10-K
      filed on June 16, 2008)10.5
              
              Employment
      Agreement between Shengyuan Nutritional Food Co., Ltd. and Xisen Mu, dated
      July 1, 2007 (incorporated by reference to Exhibit 10.5 to the
      Registrant’s Annual Report on Form 10-K filed on June 16,
      2008)10.6
              
              Warrant
      Agreement among Beams Power Investment Limited, Synutra International,
      Inc., the Bank of New York as Warrant Agent, and ABN AMRO Bank N.V., Hong
      Kong Branch, dated April 19, 2007 (incorporated by reference to Exhibit
      4.1 to the Registrant’s Current Report on Form 8-K filed on April 24,
      2007)10.7
              
              Registration
      Rights Agreement between Synutra International, Inc. and ABN AMRO Bank
      N.V., Hong Kong Branch, dated April 19, 2007 (incorporated by reference to
      Exhibit 4.3 to the Registrant’s Current Report on Form 8-K filed on April
      24, 2007)









10.8
                          
                          Common
      Stock Purchase Agreement between Synutra International, Inc. and Warburg
      Pincus Private Equity IX, L.P. , dated May 24, 2007 (incorporated by
      reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K/A
      filed on June 1, 2007)10.9
                          
                          Registration
      Rights Agreement between Synutra International, Inc. and Warburg Pincus
      Private Equity IX, L.P., dated June 15, 2007 (incorporated by reference to
      Exhibit 10.1 to the Registrant’s Current Report on Form 8-K/A filed on
      June 1, 2007)10.10
                          
                          Voting
      and Co-Sale Agreement among Synutra International, Inc., Beams Power
      Investment Limited, and Warburg Pincus Private Equity IX, L.P., dated June
      15, 2007 (incorporated by reference to Exhibit 10.1 to the Registrant’s
      Current Report on Form 8-K/A filed on June 1, 2007)10.11
                          
                          Registration
      Rights Agreement among Synutra International, Inc., Beams Power Investment
      Limited and Warburg Pincus Private Equity IX, L.P., dated April 23, 2008,
      (incorporated by reference to Exhibit 4.1 to the Registrant’s Current
      Report on Form 8-K filed on April 24, 2008)10.12
                          
                          Loan
      Agreement among Synutra International, Inc., ABN AMRO Bank N.V. and
      certain lenders party thereto, dated October 11, 2007 (incorporated by
      reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K
      filed on October 17, 2007)10.13
                          
                          Collateral
      Agreement among Synutra International, Inc., ABN AMRO Bank N.V. and
      Synutra, Inc., dated October 11, 2007 (incorporated by reference to
      Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed on
      October 17, 2007).10.14
                          
                          US
      Dollar Facility Fee Letter Agreement between Synutra International, Inc.
      and ABN AMRO Bank N.V., dated October 11, 2007 (incorporated by reference
      to Exhibit 10.3 to the Registrant’s Current Report on Form 8-K filed on
      October 17, 2007).10.15
                          
                          Synutra
      International, Inc. 2008 Stock Incentive Plan (incorporated by reference
      to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed on
      June 17, 2008)10.16A
                          
                          Form
      of Incentive Stock Option Agreement under Synutra International, Inc. 2008
      Stock Incentive Plan10.16B
                          
                          Form
      of Nonqualified Stock Option Agreement under Synutra International, Inc.,
      2008 Stock Incentive Plan10.17
                          
                          Asset
      Purchase Agreement, dated July 14, 2008, between Sheng Yuan Nutritional
      Food Co., Ltd. and Beijing Huilian Food Co, Ltd. (incorporated by
      reference to Exhibit 2.1 from the Registrant’s Current Report on Form 8-K
      filed on July 18,
2008)









14.1
                
                Code
      of Ethics for Chief Executive Officer and Senior Financial Officers
      (incorporated by reference to Exhibit 14. 1 to the Registrant’s Annual
      Report on Form 10-K filed on June 16, 2008)16.1
                
                Letter
      from Rotenberg & Co to the Securities and Exchange Commission dated
      July 24, 2007 (incorporated by reference to Exhibit 16.1 to the
      Registrant’s Current Report on Form 8-K filed on July 27,
      2007)21.1
                
                List
      of Subsidiaries24.1
                
                Power
      of Attorney (included on the Signature Page of this Annual Report on Form
      10-K)31.1
                
                Certification
      of Principal Executive Officer pursuant to Rule 13a-14 and Rule 15d-14(a),
      promulgated under the Securities and Exchange Act of 1934, as
      amended31.2
                
                Certification
      of Principal Financial Officer pursuant to Rule 13a-14 and Rule 15d-14(a),
      promulgated under the Securities and Exchange Act of 1934, as
      amended32.1
                
                Certification
      pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of
      the Sarbanes-Oxley Act of 2002 (Chief Executive
Officer)32.2
                
                Certification
      pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of
      the Sarbanes-Oxley Act of 2002 (Chief Financial
  Officer)