U.S.
SECURITIES AND EXCHANGE COMMISSION





WASHINGTON,
D.C. 20549





FORM
10-Q





(Mark One)


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





For the
quarterly period ended March 31, 2008





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





For the
transition period from  —————  to ——————




Commission
File Number 000-26175





China
Water Group, Inc.





(Exact
name of small business issuer as specified in its charter)





Nevada
            
            88-0409151(State or other jurisdiction of
            
            (IRS Employerincorporation or organization)
            
            Identification No.)




Suite
7A01, Baicheng Building


584
Yingbin Road


Dashi,
Panyu District


Guangzhou,
Guangdong, China


(Address
of principal executive offices)


86-20-3479
9708


(Issuer’s
telephone number)





NA


(Former
name, former address and former fiscal year, if changed since last
report)




Check
whether the issuer (1) filed all reports required to be filed by Section 13 or
15(d) of the Exchange Act during the past 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  ̈ NO
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
filer.  See definition of “accelerated filer” and “large accelerated
filer” in Rule 12b-2 of the Exchange Act (Check one):




Large
Accelerated Filer  ̈   Accelerated
Filer  ̈     Non-Accelerated
Filer ̈       Smaller
Reporting Company x




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




State the
number of shares outstanding of each of the issuer’s classes of common equity,
as of the latest practicable date: 139,383,450 shares of common stock, par value
$.0001 per share, as of June 8, 2009.




Transitional
Small Business Disclosure Format (Check one). YES o NO
x







PART
I. - FINANCIAL INFORMATION


ITEM 1. FINANCIAL
STATEMENTS.


CHINA
WATER GROUP, INC.
 
 CONSOLIDATED
FINANCIAL STATEMENTS
 
 MARCH
31, 2008 AND 2007
 
 (Unaudited)
  
  CHINA
WATER GROUP, INC.
 Consolidated
Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Table
of Contents
 
 PageConsolidated
      Financial StatementsReport
      of Independent Registered Public Accounting Firm
                1Consolidated
      Balance Sheets
                2Consolidated
      Statements of Operations and Comprehensive Income
                3Consolidated
      Statements of Cash Flows
                4Notes
      to Consolidated Financial Statements
                5
  
  REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
 To the
Board of Directors and Stockholders of
 China
Water Group, Inc.
 
 We have
reviewed the accompanying consolidated balance sheet of China Water Group, Inc.
(the “Company”) and its subsidiaries as of March 31, 2008, and the related
consolidated statements of operations and comprehensive income, and cash flows
for the three months ended March 31, 2008 and 2007. These consolidated financial
statements are the responsibility of the Company's management.
 
 We
conducted our reviews in accordance with the standards of the Public Company
Accounting Oversight Board (United States). A review of interim financial
information consists principally of applying analytical procedures and making
inquiries of persons responsible for financial and accounting matters. It is
substantially less in scope than an audit conducted in accordance with the
standards of the Public Company Accounting Oversight Board (United States), the
objective of which is the expression of an opinion regarding the consolidated
financial statements taken as a whole. Accordingly, we do not express such an
opinion.
 
 Based on
our review, we are not aware of any material modifications that should be made
to the accompanying consolidated financial statements for them to be in
conformity with accounting principles generally accepted in the United States of
America.
 
 Parsippany,
New Jersey
 March 15,
2009
  1
 
 CHINA
WATER GROUP, INC.
 
 Consolidated
Balance Sheets
 
 March 31,
                                      
                                      
                                      December 31,2008
                                      
                                      
                                      2007(Unaudited)Assets:Current
      assets:Cash
      and cash equivalents
                                      
                                      $
                                      41,554
                                      
                                      
                                      $
                                      341,575Accounts
      receivable, net of allowance of doubtful accounts of $-0-
    and$-0-,
      respectively
                                      
                                      
                                      119,415
                                      
                                      
                                      
                                      518,066Prepayment,
      deposits and other receivables
                                      
                                      
                                      403,793
                                      
                                      
                                      
                                      8,531,742Due
      from related companies
                                      
                                      
                                      501,325
                                      
                                      
                                      
                                      1,940,670Due
      from affiliated companies
                                      
                                      
                                      2,671,902
                                      
                                      
                                      
                                      3,166,470Deferred
      expenditure
                                      
                                      
                                      1,643,782
                                      
                                      
                                      
                                      -Deferred
      tax assets
                                      
                                      
                                      14,521
                                      
                                      
                                      
                                      1,928,186Total
      current assets:
                                      
                                      
                                      5,396,292
                                      
                                      
                                      
                                      16,426,709Property,
      plant and equipment, net
                                      
                                      
                                      4,486,047
                                      
                                      
                                      
                                      4,752,192Construction
      in progress
                                      
                                      
                                      -
                                      
                                      
                                      
                                      95,309Intangible
      assets
                                      
                                      
                                      134,524
                                      
                                      
                                      
                                      -Goodwill
                                      
                                      
                                      6,985,056
                                      
                                      
                                      
                                      -Interests
      in affiliated companies
                                      
                                      
                                      1,047,156
                                      
                                      
                                      
                                      2,180,947Total
      assets:
                                      
                                      $
                                      18,049,075
                                      
                                      
                                      $
                                      23,455,157Liabilities
      and stockholders’ equity:Current
      liabilities:Warrant
      liability
                                      
                                      
                                      661,423
                                      
                                      
                                      
                                      1,179,965Note
      payable
                                      
                                      
                                      -
                                      
                                      
                                      
                                      27,344Accounts
      payable
                                      
                                      
                                      648,561
                                      
                                      
                                      
                                      6,923,872Accrued
      liabilities
                                      
                                      
                                      1,611,094
                                      
                                      
                                      
                                      3,168,841Due
      to directors
                                      
                                      
                                      627,180
                                      
                                      
                                      
                                      1,454,372Due
      to related companies
                                      
                                      
                                      4,078,579
                                      
                                      
                                      
                                      1,853,779Income
      tax payable
                                      
                                      
                                      1,325,301
                                      
                                      
                                      
                                      1,794,580Total
      current liabilities:
                                      
                                      
                                      8,952,138
                                      
                                      
                                      
                                      16,402,753Minority
      interests
                                      
                                      
                                      141,207
                                      
                                      
                                      
                                      313,986Total
      liabilities:
                                      
                                      
                                      9,093,345
                                      
                                      
                                      
                                      16,716,739Stockholders'
      equity:Preferred
      stock, US$0.001 par value, 50,000,000 authorized shares,no
      shares issued and outstanding
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -Common
      stock, US$0.001 par value, 200,000,000 shares authorized;139,217,550
      and 139,217,550 shares issued and outstanding
                                      
                                      
                                      139,218
                                      
                                      
                                      
                                      139,218Additional
      paid-in capital
                                      
                                      
                                      6,361,428
                                      
                                      
                                      
                                      6,131,697Retained
      earnings
                                      
                                      
                                      1,009,541
                                      
                                      
                                      
                                      (670,851
                                      )Accumulated
      other comprehensive income
                                      
                                      
                                      1,445,543
                                      
                                      
                                      
                                      1,138,354Total
      stockholders' equity:
                                      
                                      
                                      8,955,730
                                      
                                      
                                      
                                      6,738,418Total
      Liabilities and Stockholders' Equity:
                                      
                                      $
                                      18,049,075
                                      
                                      
                                      $
                                      23,455,157
 
 The accompanying notes are an
integral part of these consolidated financial
statements.
  2
  CHINA
WATER GROUP, INC.
  Consolidated
Statements of Operations and Comprehensive Income
 (Unaudited)
 
 For the Three Months EndedMarch 31,2008
                  
                  
                  2007Revenue:Revenue
      from BOT wastewater treatment services
                  
                  $
                  172,471
                  
                  
                  $
                  203,150Revenue
      from sales of bottled water
                  
                  
                  47,723
                  
                  
                  
                  3,147Total
      revenue:
                  
                  
                  220,194
                  
                  
                  
                  206,297Cost
      of revenue:Cost
      of revenue for BOT wastewater treatment services
                  
                  
                  (45,581
                  )
                  
                  
                  (58,507
                  )Cost
      of revenue from sale of bottled water
                  
                  
                  (8,966
                  )
                  
                  
                  (2,043
                  )Depreciation
      and amortization
                  
                  
                  (68,032
                  )
                  
                  
                  (83,852
                  )Sales
      taxes
                  
                  
                  (19
                  )
                  
                  
                  (364
                  )Total
      cost of revenue:
                  
                  
                  (122,598
                  )
                  
                  
                  (144,766
                  )Gross
      profit:
                  
                  
                  97,596
                  
                  
                  
                  61,531Operating
      expenses:Selling
      and distribution expenses
                  
                  
                  (205,235
                  )
                  
                  
                  -Other
      general and administrative expenses
                  
                  
                  (128,862
                  )
                  
                  
                  (188,362
                  )Loss
      from operations:
                  
                  
                  (236,501
                  )
                  
                  
                  (126,831
                  )Other
      income (expenses):Other
      income (expenses)
                  
                  
                  (613
                  )
                  
                  
                  643Interest
      expense
                  
                  
                  (138
                  )
                  
                  
                  -Penalty
      for late effectiveness of registration statement
                  
                  
                  (22,688
                  )
                  
                  
                  (23,093
                  )Unrealized
      gain on changes in fair value of financial instruments
                  
                  
                  518,542
                  
                  
                  
                  925,840Share
      of results in associates – Xinxingmei and Han Dan
                  
                  
                  46,341
                  
                  
                  
                  61,262Total
      other income:
                  
                  
                  541,444
                  
                  
                  
                  964,652Income
      before income tax and minority interests:
                  
                  
                  304,943
                  
                  
                  
                  837,821Income
      tax expense:
                  
                  
                  (6,687
                  )
                  
                  
                  (212
                  )Income
      before minority interests:
                  
                  
                  298,256
                  
                  
                  
                  837,609Minority
      interests:
                  
                  
                  (4,638
                  )
                  
                  
                  (11,147
                  )Net
      income:
                  
                  
                  293,618
                  
                  
                  
                  826,462Other
      Comprehensive income:Foreign
      currency translation adjustment
                  
                  
                  307,189
                  
                  
                  
                  224,584Comprehensive
      income:
                  
                  $
                  600,807
                  
                  
                  $
                  1,051,046Basic
      earnings per share:
                  
                  $
                  0.00
                  
                  
                  $
                  0.01Diluted
      earnings per share:
                  
                  $
                  0.00
                  
                  
                  $
                  0.01
  The accompanying notes are an
integral part of these consolidated financial
statements.
  3
  CHINA
WATER GROUP, INC.
 
 Consolidated
Statements of Cash Flows
 (Unaudited)
 
 For the Three Months EndedMarch 31,2008
                      
                      
                      2007Cash
      flows from operating activities:Net  income
                      
                      $
                      293,618
                      
                      
                      $
                      826,462Adjustments
      to reconcile net income to net cash provided by (used in)operating
      activities :Depreciation
      and amortization
                      
                      
                      68,032
                      
                      
                      
                      83,852Unrealized
      gain on changes in fair value of financial instruments
                      
                      
                      (518,542
                      )
                      
                      
                      (925,840
                      )Minority
      interests
                      
                      
                      (181,857
                      )
                      
                      
                      (3,891
                      )Deferred
      expenditure
                      
                      
                      (1,608,623
                      )
                      
                      
                      -Share
      of results in an associated company - Xinxingmei and Han
    Dan
                      
                      
                      (46,341
                      )
                      
                      
                      (61,262
                      )Changes
      in operating assets and liabilities :Accounts
      receivable
                      
                      
                      (58,107
                      )
                      
                      
                      151,135Prepayment,
      deposits and other receivables
                      
                      
                      6,261,003
                      
                      
                      
                      324,557Due
      from related companies
                      
                      
                      3,308,693
                      
                      
                      
                      (104,415
                      )Due
      from  affiliated companies
                      
                      
                      (4,596,251
                      )
                      
                      
                      (64,384
                      )Accounts
      payable
                      
                      
                      179,655
                      
                      
                      
                      (215,782
                      )Accruals
      and other liabilities
                      
                      
                      88,890
                      
                      
                      
                      (69,332
                      )Due
      to related companies
                      
                      
                      3,522,658
                      
                      
                      
                      (44,662
                      )Due
      to directors
                      
                      
                      21,932
                      
                      
                      
                      (17,727
                      )Income
      tax payable
                      
                      
                      6,688
                      
                      
                      
                      -Total
      adjustments:
                      
                      
                      8,914,816
                      
                      
                      
                      (40,610
                      )Net
      cash provided by (used in) operating activities:
                      
                      
                      6,741,448
                      
                      
                      
                      (121,289
                      )Cash
      flows from investing activities:Acquisition
      of interest in a subsidiary - Aba and Xinchen
                      
                      
                      (6,570,870
                      )
                      
                      
                      -Disposal
      of interest in a subsidiary - Xinxingmei and Han Dan
                      
                      
                      496,399
                      
                      
                      
                      15,038Dividend
      received from an associated company - Xin Le
                      
                      
                      -
                      
                      
                      
                      90,074Acquisition
      of property, plant and equipment
                      
                      
                      (842,830
                      )
                      
                      
                      (42,588
                      )Acquisition
      of intangible assets
                      
                      
                      (131,647
                      )
                      
                      
                      -Net
      cash provided by (used in) investing activities:
                      
                      
                      (7,048,948
                      )
                      
                      
                      62,524Cash
      flows from financing activities:Repayment
      of unsecured loans
                      
                      
                      -
                      
                      
                      
                      -Net
      cash provided by (used in) financing activities:
                      
                      
                      -
                      
                      
                      
                      -Effect
      of foreign currency translation on cash and cash
    equivalents:
                      
                      
                      7,479
                      
                      
                      
                      38,104Net
      decrease in cash and cash equivalents:
                      
                      
                      (300,021
                      )
                      
                      
                      (20,661
                      )Cash
      and cash equivalents, beginning:
                      
                      
                      341,575
                      
                      
                      
                      4,144,484Cash
      and cash equivalents, ending:
                      
                      $
                      41,554
                      
                      
                      $
                      4,123,823
  The accompanying notes are an
integral part of these consolidated financial
statements.
  4
  CHINA
WATER GROUP, INC.
 
 Notes
to Consolidated Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Note
1 - Basis of Presentation
 
 In these
notes, the terms “CHWG,” “we,” “us,”
and “our” mean China Water Group, Inc. (formerly China Evergreen Environmental
Corporation) and subsidiary companies.
 
 The
condensed consolidated financial statements of CHWG included herein have been
prepared by CHWG, without audit,
pursuant to the rules and regulations of the Securities and Exchange Commission
(the “SEC”). Certain information and footnote disclosures normally included in
consolidated financial statements prepared in conjunction with generally
accepted accounting principles have been condensed or omitted pursuant to such
rules and regulations. These condensed consolidated financial statements should
be read in conjunction with the financial statements and the notes thereto
included in CHWG's Annual Report
on Form 10-KSB for the period ended December 31, 2007.
 
 The
accompanying unaudited quarterly consolidated financial statements reflect all
adjustments of a normal and recurring nature which are, in the opinion of
management, necessary to present fairly the financial position, results of
operations and cash flows of CHWG for the periods
presented. The results of operations for these periods are not necessarily
comparable to, or indicative of, results of any other quarterly period or for
the fiscal year taken as a whole. Factors that affect the comparability of
financial data from year to year and for comparable quarterly periods include
non-recurring expenses associated with CHWG's costs
incurred to reorganize CHWG, raise capital,
and issue stock options and awards. Certain financial information that is not
required for interim financial reporting purposes has been omitted.
 
 Note
2 - Description of Business
 
 We were
organized as a Nevada corporation on September 10, 1996 under the name
“Discovery Investments, Inc.” and were previously engaged in the business of
seeking, investigating and, if such investigation warranted, acquiring an
interest in a business opportunity.
 
 On
October 15, 2004, we were the subject of a reverse acquisition by Evergreen
Asset Group Limited, an International Business Company organized under the laws
of the British Virgin Islands (“Evergreen”), pursuant to which we acquired 100%
of the outstanding shares of Evergreen capital stock in exchange for a
controlling interest in our common stock. Pursuant to a securities purchase
agreement dated September 9, 2004, as amended, we issued 83,500,000 shares
of our common stock (representing 83.5% of our outstanding capital stock) in
exchange for all of the issued and outstanding shares of Evergreen capital stock
transferred to us by the Evergreen shareholders at the closing (the “Reverse
Acquisition”). Following the close of the Reverse Acquisition, we changed our
corporate name from “Discovery Investments, Inc.” to “China Evergreen
Environmental Corporation.” On November 7, 2006, we changed our name to
“China Water Group, Inc.” to reflect our focus on China’s water treatment and
supply needs.
 
 As a
result of the Reverse Acquisition, Evergreen became our wholly owned subsidiary.
Evergreen has three majority owned subsidiaries: Guang Dong Xin Xing Mei Biology
Company Limited (“Xinxingmei”), and
Hai Yang City Sheng Shi Environment Protection Company Limited (“Haiyang”). Through
Xinxingmei
and Haiyang,
we provide wastewater turn-key engineering, equipment and chemical trading.
Evergreen currently holds 90% of Xinxingmei. Xinxingmeiprovides
turn-key wastewater treatment engineering design and contracting. Xinxingmei also
holds 90% and 35% respectively in the equity interest of the following two water
treatment facilities operated through build, operate and transfer (BOT)
arrangements with the PRC government: (i) Tian Jin Shi Sheng Water
Treatment Company Limited (“Tian Jin”), which
commissioned water treatment in November 2003 and has a daily treatment capacity
of approximately 10,000 cubic meters and (ii) Xin Le Sheng Mei Water
Purifying Company Limited (“Xin Le”), which
also commissioned water treatment in November 2003 and has a daily treatment
capacity of 40,000 cubic meters. Xinxingmei was
retained to manage both Tian Jin and Xin Le.
  5
  CHINA
WATER GROUP, INC.
 
 Notes
to Consolidated Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Note
2 - Description of Business (continued)
 
 The
principal activities of the Group are the research and development of waste
water, garbage treatment and aqueous purifying techniques, investment and
construction of waste water treatment plant and sales of environment protection
related products.
 
 On January 8, 2008,
the Chinese government approved that Evergreen sold its 58% of the total equity
interest in Guang Dong Xin Xing Mei Biology Company Limited (“Xinxingmei”) to
Wenming Pu at a total consideration of RMB7,308,600. After completing the
transfer formalities, Evergreen possesses 32% of total equity of Xinxingmei,
instead of previous 90%.
 
 On January 23, 2008,
the Chinese government approved that China Water Group Inc. acquired 90 percent
of the equity interest of Aba Xinchen Dagu Glacier Spring Co., Limited (“Aba”)
from Fortune Luck Global International Limited through its subsidiary Guangzhou
Xinchen Water Company (“Xinchen”). The assignment was at the consideration of
13.45 million dollars, of which 7.5 million dollars was paid in cash, and the
remaining 5.95 million dollars was in shares.
 
 Note
3 - Summary of Significant Accounting Policies
 
 Revenue
recognition
 
 We
recognize revenue using various revenue recognition policies based on the nature
of the sale and the terms of the contract.
 
 Revenues
from turn-key engineering projects are recognized on the
percentage-of-completion method for individual contracts. We follow the guidance
of the American Institute of Certified Public Accountants (“AICPA”) Statement of
Position (“SOP”) 81-1, Accounting for Performance of Construction-Type and
Certain Production-Type Contracts, for our accounting policy relating to the use
of the percentage-of-completion method, estimated costs and claim recognition
for construction contracts. Revenues are recognized in the ratio that costs
incurred bear to total estimated contract costs to the extent we believe related
collection is probable. The use of the percentage-of-completion method of
revenue recognition requires estimates of percentage of project completion.
Changes in job performance, estimated profitability and final contract
settlements may result in revisions to costs and income in the period in which
the revisions are determined. Provisions for any estimated losses on uncompleted
contracts are made in the period in which such losses are determinable. In
instances when the work performed on fixed price agreements is of a relatively
short duration, we use the completed contract method of accounting whereby
revenue is recognized when the work is completed. From 5% to 10% of the total
contract value will be treated as retention monies withheld to ensure
performance of the contract during the warranty period of up to 12 months, as
stipulated in both long-term and short-term fixed-price contracts.
 
 Revenues
arising from wastewater treatment are recognized based on wastewater treated as
recorded daily by meters read at rates, in RMB/ton, as prescribed under the BOT
agreements in accordance with SEC Staff Accounting Bulletin (“SAB”) Topic 13,
Revenue Recognition. We meet the following four criteria for revenue recognition
outlined in SAB Topic 13:
 
 1.
              There
      is sufficient evidence to support that sales arrangements
      exist;
 
 2.
              The
      price to the buyer is fixed through signed
  contracts;
 
 3.
              Meter
      readings illustrate that delivery of treated wastewater has occurred;
      and
 
 4.
                Collectibility
      is reasonably assured through one or more of the following: due diligence
      prior to contract signing; historical payment practices; or required
      upfront payments.
  6
  CHINA
WATER GROUP, INC.
 
 Notes
to Consolidated Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Note
3 - Summary of Significant Accounting Policies (continued)
 
 Revenues
from the sale of environment protection-related products and provision of
technical services are recognized when goods are delivered or when services are
performed. The contractual terms of the purchase agreements or consultancy
agreements dictate the recognition of revenues by us. We recognize revenue in
accordance with SAB No. 104. Accordingly, four basic criteria must be met
before revenue can be recognized: (1) persuasive evidence of an arrangement
exists; (2) delivery has occurred; (3) the selling price is fixed and
determinable; and (4) collectibility is reasonably assured. Determination
of criteria (3) and (4) is based on management’s judgments regarding
the fixed nature of the selling prices of the products or services delivered and
the collectibility of those amounts. Provisions for discounts and rebates to
customers, estimated returns and allowances, and other adjustments are provided
for in the same period the related sales are recorded. We defer any revenue for
which the product has not been delivered or is subject to refund until such time
that we and our customer jointly determine that the product has been delivered
or no refund will be required.
 
 Impairment
of assets
 
 Our
policy is to periodically review and evaluate whether there has been a permanent
impairment in the value of long-lived assets. Factors we consider in this
evaluation include current operating results, trends and anticipated
undiscounted future cash flows that we expect to result from the use of the
asset, or other measure of fair value, and whether such factors reflect that the
value of the asset has been impaired.
 
 Allowances
for accounts receivable
 
 Our
provisioning policy for bad and doubtful debt is based on the evaluation of
collectibility and aging analysis of accounts receivable and on management's
judgment. We do not require collateral or other security to support client
receivables. We conduct periodic reviews of our clients' financial condition and
customer payment practices to minimize collection risk on accounts receivable.
This review is based on a considerable amount of judgment which is required in
assessing the ultimate realization of these receivables, including the current
creditworthiness and the past collection history of each customer. During the
first quarter
of 2008, we made no allowances for doubtful debts.
 
 Financial
instruments
 
 The
carrying amounts of all financial instruments approximate fair value. The
carrying amounts of cash, accounts receivable, related party receivables,
unsecured loans, accounts payable and related party payables approximate fair
value due to the short-term nature of these items. The carrying amounts of
borrowings approximate the fair value based on our expected borrowing rate for
debt with similar remaining maturities and comparable risk.
 
 Income
per share
 
 Basic
income per share is computed by dividing the net income for the year by the
weighted average number of common shares outstanding during the year. Diluted
income per share is computed by dividing the net income for the year by the
weighted average number of common and common equivalent shares outstanding
during the year. Common equivalent shares (which includes incremental common
shares issuable upon the exercise of stock options, unvested restricted common
stock and shares that may be issued on a contingent basis) are included in
diluted income per share to the extent such shares are dilutive. In accordance
with Statement of Financial Accounting Standards (“SFAS”) No. 128, Earnings
Per Share, we use income from continuing operations, net of income taxes, as the
“control number” in determining whether common equivalent shares are dilutive or
anti-dilutive in periods where discontinued operations are
reported.
  7
  CHINA
WATER GROUP, INC.
 
 Notes
to Consolidated Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Note
3 - Summary of Significant Accounting Policies (continued)
 
 Recently
issued accounting pronouncements
 
 In
December 2007, the FASB issued SFAS No. 141, “Business Combinations” (“SFAS
141”). SFAS 141 defines the acquirer as the entity that obtains control of one
or more businesses in the business combination and establishes the acquisition
date as the date that the acquirer achieves control, and requires an acquirer to
recognize the assets acquired, the liabilities assumed, and any noncontrolling
interest in the acquiree at the acquisition date, measured at their fair values
as of that date, with limited exceptions specified in the Statement. SFAS 141
applies prospectively to business combinations for which the acquisition date is
on or after the beginning of the first annual reporting period beginning on or
after December 15, 2008.
 
 In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements—an amendment of ARB No. 51” (“SFAS 160”). SFAS
160 clarifies that a noncontrolling interest in a subsidiary is an ownership
interest in the consolidated entity that should be reported as equity in the
consolidated financial statements. SFAS 160 requires consolidated net income to
be reported at amounts that include the amounts attributable to both the parent
and the noncontrolling interest, and also requires that a parent recognize a
gain or loss in net income when a subsidiary is deconsolidated. The requirements
of SFAS 160 are effective for our fiscal year beginning January 1,
2009.
 
 In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities—an amendment of FASB Statement No. 133”
(“SFAS 161”). SFAS 161 changes the disclosure requirements for derivative
instruments and hedging activities. Entities are required to provide enhanced
disclosures about (a) how and why an entity uses derivative instruments, (b) how
derivative instruments and related hedged items are accounted for under
Statement 133 and its related interpretations, and (c) how derivative
instruments and related hedged items affect an entity’s financial position,
financial performance, and cash flows. SFAS 161 is effective for financial
statements issued for fiscal years and interim periods beginning after November
15, 2008.
 
 In May
2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted
Accounting Principles” (“SFAS 162”). SFAS 162 identifies the sources of
accounting principles and the framework for selecting the principles to be used
in the preparation of financial statements of nongovernmental entities that are
presented in conformity with generally accepted accounting principles (GAAP) in
the United States (the GAAP hierarchy). SFAS 162 is effective 60 days following
the SEC’s approval of the Public Company Accounting Oversight Board amendments
to AU Section 411, The Meaning of Present Fairly in Conformity With Generally
Accepted Accounting Principles.
 
 Note
4 - Earnings Per Share
 
 (i)
              The
      basic earnings per share is calculated using the net income and the
      weighted average number of shares outstanding during the
    year.
 
 Three months ended March 31,2008
                      
                      
                      2007Net
      income
                      
                      $
                      293,618
                      
                      
                      $
                      826,462Weighted
      average number of commonshares
      outstanding
                      
                      
                      139,217,550
                      
                      
                      
                      135,903,698Basic
      earnings per share
                      
                      $
                      0.00
                      
                      
                      $
                      0.01
  8
  CHINA
WATER GROUP, INC.
 
 Notes
to Consolidated Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Note
4 - Earnings Per Share (continued)
 
 (ii)
              The
      diluted earnings per share is calculated using the net income and the
      weighted average number of shares outstanding during the year together
      with incremental common shares issuable upon the exercise of all warrants
      issued.
 
 Three months ended March 31,2008
                      
                      
                      2007Net
      income
                      
                      $
                      293,618
                      
                      
                      $
                      826,462Weighted
      average number of commonshares
      outstanding
                      
                      
                      139,217,550
                      
                      
                      
                      135,903,698Diluted
      earnings per share
                      
                      $
                      0.00
                      
                      
                      $
                      0.01
 
 As the
April Warrants and the September Warrants are anti-dilutive, they are being
excluded from the calculation of diluted earnings per share.
 
 Note
5 - Prepayment, Deposits and Other Receivables
 
 March 31,
                    
                    
                    December 31,2008
                    
                    
                    2007Prepayment
                    
                    $
                    71,454
                    
                    
                    $
                    7,329,100Deposits
                    
                    
                    -
                    
                    
                    
                    2,119Other
      receivables:Amounts
      receivable from Beijing Hao Tai
                    
                    
                    -
                    
                    
                    
                    792,041Advances
      and miscellaneous receivables
                    
                    
                    332,339
                    
                    
                    
                    408,482Total
                    
                    $
                    403,793
                    
                    
                    $
                    8,531,742
 
 The
management believes that all other receivables are collectible.
 
 Note
6 - Property, Plant and Equipment, Net
 
 Property,
plant and equipment, net consisted of the following:
 
 March 31,
                    
                    
                    December 31,2008
                    
                    
                    2007Office
      equipment
                    
                    $
                    12,168
                    
                    
                    $
                    35,197Furniture
      and fixtures
                    
                    
                    3,170
                    
                    
                    
                    14,707Tools
      and equipment
                    
                    
                    -
                    
                    
                    
                    3,678Motor
      vehicles
                    
                    
                    37,585
                    
                    
                    
                    51,681Waste
      water treatment plants
                    
                    
                    4,959,676
                    
                    
                    
                    5,429,945Total
                    
                    
                    5,012,599
                    
                    
                    
                    5,535,208Less
      : Accumulated depreciation and amortization
                    
                    
                    (526,552
                    )
                    
                    
                    (783,016
                    )Property,
      plant and equipment, net
                    
                    $
                    4,486,047
                    
                    
                    $
                    4,752,192
 
 Depreciation
and amortization expenses for the three months ended March 31, 2008 and 2007
amounted to $68,032and $83,852,
respectively.
  9
  CHINA
WATER GROUP, INC.
 
 Notes
to Consolidated Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Note
7 - Warrant Liability
 
 The fair
values of the warrant liability
as of March
31, 2008 and December 31, 2007 are as below:
 
 March 31,
                      
                      
                      December 31,2008
                      
                      
                      2007Warrants
      issued in April, at fair value
                      
                      $
                      101,430
                      
                      
                      $
                      154,350Warrants
      issued in September, at fair value
                      
                      
                      527,793
                      
                      
                      
                      993,415Shares
      issued in September, accounted for asliability
                      
                      
                      32,200
                      
                      
                      
                      32,200Total
                      
                      $
                      661,423
                      
                      
                      $
                      1,179,965
 
 The Group
conducted a private placement in April 2005 (“April Private Placement”) of 20
investment units, at $25,000 per unit, for gross proceeds of $500,000. Each unit
consisted of (a) a 12% convertible debenture in the original principal amount of
$25,000, convertible into shares of our common stock at the rate of the lesser
of (i) $0.20 per share or (ii) a 10% discount to the price per share of common
stock (or conversion price per share of common stock) of the next private
placement conducted by us prior to any conversion of the debenture, and (b)
125,000 detachable warrants to purchase one share each of our common stock at an
exercise price of $0.20 per share, expiring ten years from their date of
issuance (“April Warrants”). As a result of the September 2005 private
placement, pursuant to Section 5(d) of the warrant agreement, the exercise price
has been adjusted to $0.15 per share on September 14, 2005. The debentures were
due and payable August 1, 2005. The debenture holders, however, extended the
payment period to September 30, 2005. The debentures were converted into
3,703,701 shares of common stock on October 1, 2005.
 
 The Group
used the Black-Scholes model in calculating the fair market value of the April
Warrants and allocated $148,531, $74,266 and $185,664 of the $408,461 net
proceeds to the Convertible Debenture, the Bifurcated Conversion Feature of the
Debenture and the April Warrants, respectively. The differences between the fair
value of each of the Convertible Debenture, the Bifurcated Conversion Feature of
the Debenture and the April Warrants and the respective allocated amounts are
recorded as non-cash financing charges and expensed of at the date of issuance.
The principal assumptions used in the computation of the April Warrants are:
expected term of 10 years; a risk-free rate of return of 4.24%; dividend yield
of zero percent; and a volatility of 70%.
 
 The Group
granted to the holders of the April Warrants certain piggy-back and demand
registration rights. Pursuant to the agreements surrounding the April Private
Placement, in the event that the Group determined to undertake a registration of
securities, the Group would include, at the request of the holder of
“Registrable Securities”, the Registrable Securities in the registration
statement. If the Group did not file a registration statement by the 120th day
from the closing of such financing, and the Group shall have received a written
request signed by the holders holding the majority of the Registrable
Securities, then the Group was obligated to file, at its expense, a registration
statement covering the Registrable Securities. Once such registration statement
has been filed and declared effective, the Group is obligated to keep such
registration statement effective until theearlier of
(i) the date that all of the Registrable Securities have been sold pursuant to
such registration statement, (ii) all Registrable Securities have been otherwise
transferred to persons who may trade such shares without restriction under the
Securities Act, and the Group has delivered a new certificate or other evidence
of ownership for such securities not bearing a restrictive legend, or (iii) all
Registrable Securities may be sold at any time, without volume or manner of sale
limitations pursuant to Rule 144(k) or any similar provision then in effect
under the Securities Act. As of March 31,2007, the Group
has not received any written request signed by the holders holding the majority
of the Registrable Securities.
  10
  CHINA
WATER GROUP, INC.
 
 Notes
to Consolidated Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Note
7 - Warrant Liability (continued)
 
 Under
EITF No. 00-19, Accounting for Derivative Financial Instruments Indexed to and
Potentially Settled in a Company’s Own Stock, the fair value of the April
Warrants should be reported as a liability. Pursuant to the related warrant
agreement, because there is currently no effective registration statement
covering the shares of common stock underlying these warrants, these warrants
are currently subject to a cashless exercise whereby the warrant holders may
surrender their warrants to the company in exchange for shares of common stock.
The number of shares of common stock into which a warrant would be exchangeable
in such a cashless exercise depends on both the exercise price of the warrants
and the market price of the common stock, each at or near the time of exercise.
Because both of these factors are variable, it is possible that we could have
insufficient authorized shares to satisfy a cashless exercise. In this scenario,
if we were unable to obtain shareholder approval to increase the number of
authorized shares, we could be obligated to settle such a cashless exercise with
cash rather than by issuing shares of common stock. Further, EITF No. 00-19
requires that we record the potential settlement obligation at each reporting
date using the current estimated fair value of the warrants, with any changes
being recorded through our statement of operations. We will continue to report
the potential settlement obligation as a liability until such time as the
warrants are exercised or expire or we are otherwise able to modify the warrant
agreement to remove the provisions which require this treatment.
 
 The
conversion feature of the convertible debenture issued in April did not qualify
for the scope of exception from the provisions of SFAS 133 because the
convertible debentures are convertible into a variable number of shares. As
such, the conversion feature was bifurcated from the convertible debenture and
accounted for as a derivative at fair value with changes in fair value recorded
in earnings. Upon the conversion of the convertible debentures in October 2005,
the convertible debenture was recorded in equity as additional
capital.
 
 On
September 14, 2005, the Group closed the private placement sale to
accredited investors of units consisting of shares of our common stock and
warrants to purchase shares of our common stock for aggregate gross proceeds of
$4.83 million (“September Private Placement”). Pursuant to the subscription
agreements entered into with the investors, we issued to the investors 161 units
at a price of $30,000 per unit. Each unit consisted of 200,000 shares of our
common stock, priced at $0.15 per share, and warrants to purchase 200,000 shares
of our common stock over a five year period at an exercise price of $0.20 per
share. Pursuant to the terms of the subscription agreements, we granted the
investors limited registration rights for all common shares comprising the
units, including the common shares issuable on exercise of the warrants. The
Group also issued to Westminster Securities Corporation, as partial compensation
for their placement agent services 7,728,000 placement agent warrants to
purchase one share each of our common shares, a portion of which has been
assigned by Westminster Securities Corporation to certain of its officers and
employees (the warrants issued in the September Private Placement together with
the placement agent warrants are hereinafter referred to as “September
Warrants”).
 
 The Group
used the Black-Scholes model in calculating the fair market value of the
September Warrants and allocated $4,140,535 of the net proceeds of $4,172,735 to
the September Warrants. The difference between the fair value of the September
Warrants and the allocated amount is recorded as non-cash financing charges and
expensed of at the date of issuance. The principal assumptions used in the
computation of the September Warrants are: expected term of 5 years; a risk-free
rate of return of 4.24%; dividend yield of zero percent; and a volatility of
70%.
  11
  CHINA
WATER GROUP, INC.
 
 Notes
to Consolidated Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Note
7 - Warrant Liability (continued)
 
 Under the
subscription agreement for the September Private Placement, we agreed to prepare
and file with the SEC (and did so file), at our own expense, a registration
statement covering the registrable securities related to that placement. We
agreed that in the event that the registration statement is not declared
effective by the SEC within the earlier of 120 days from the final closing, we
would pay to the investors in the September Private Placement liquidated damages
in the amount of 2.0% of the purchase price of the registrable securities for
each month until the registration statement is declared effective. These
liquidated damages began accruing on January 12, 2006. We agreed that if we
do not remit payment of these liquidated damages, we will pay the investors in
the September Private Placement interest at the rate of 12% per year until
the liquidated damages are paid in full. The subscription agreement provides
that if a registration statement is not effective at any time after one year
following the issuance date of the September Warrants, these liquidated damages
obligations will stop accruing. As of September 14, 2006 the liquidated
damages obligations stopped accruing. As of March 31, 2008, we
have made an accrual of $1,225,708 for registration right
liability.
 
 Under
paragraphs 12–32 of EITF 00-19, contracts that include any provision that could
require net-cash settlements cannot be accounted for as equity. Accordingly, the
proceeds of the September Private Placement allocated for par value of the
common stock and the September Warrants have been recorded as a liability on the
balance sheet. Upon the effectiveness of the registration statement, the amount
will be recorded as equity.
 
 During
October 2007, 295,000 April warrants, 7,200,000 September and 1,642,615
placement agent warrants were exercised for 3,479,752 shares of common stock in
total.
 
 Note
8 - Interests in Affiliated Companies
 
 Interests in
associated companies as of March 31, 2008 and
December 31, 2007 were as follows:
 
 March31,
                        
                        
                        December31,2008
                        
                        
                        2007Xin
      Le Sheng Mei Water Purifying CompanyLimited
      (“Xin Le”)
                        
                        $
                        -
                        
                        
                        $
                        1,221,046Han
      Dan Cheng Sheng Water Affairs CompanyLimited
      (“Han Dan”)
                        
                        
                        1,047,156
                        
                        
                        
                        959,901Total
                        
                        $
                        1,047,156
                        
                        
                        $
                        2,180,947
 
 Note
9 - Income Taxes
 
 The
income tax benefit consisted
of the following:
 
 ThreeMonthsEndedMarch31,2008
                        
                        
                        2007Current
      tax :PRC
                        
                        $
                        (6,687
                        )
                        
                        $
                        (212
                        )Deferred
      tax :PRC
                        
                        
                        -
                        
                        
                        
                        -Total
      income tax benefit
                        
                        $
                        (6,687
                        )
                        
                        $
                        (212
                        )
  12
  CHINA
WATER GROUP, INC.
 
 Notes
to Consolidated Financial Statements
 March
31, 2008 and 2007
 (Unaudited)
 
 Note
9 - Income Taxes (continued)
 
 The
provision for income tax represents the provision for PRC enterprise income tax
calculated at the standard income tax rateof 25%
on the assessable profits of the PRC’s subsidiaries and the standard withholding
income tax rate of 10% on the total revenue generated by Evergreen, a company
incorporated in the British Virgin Islands, in the PRC.
 
 Note
10 - Employee Welfare Plan
 
 We have
established an employee welfare plan in accordance with Chinese law and
regulations. We make monthly contributions of 12% of all employees' salaries to
the employee welfare plan.
 
 Note
11 - Concentration
 
 Hai Yang City ZoningandConstruction Management Bureau,accounted for
approximately 78% of our total revenue for the three months ended
March 31,
2008.  The revenues from this customer arose from BOT-waste water
treatment service.
  13




ITEM
2. MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS





FORWARD-LOOKING
INFORMATION





Much of
the discussion in this Item is “forward looking” as that term is used in Section
27A of the Securities Act and Section 21E of the Securities Exchange Act of
1934, as amended (the “Exchange Act”). Actual operations and results may
materially differ from present plans and projections due to changes in economic
conditions, new business opportunities, changes in business conditions, and
other developments. Other factors that could cause results to differ materially
are described in our filings with the SEC.





The
following are factors that could cause actual results or events to differ
materially from those anticipated, and include, but are not limited to general
economic, financial and business conditions, changes in and compliance with
governmental laws and regulations, including various state and federal
environmental regulations, our ability to obtain additional financing from
outside investors and/or bank and mezzanine lenders; and our ability to generate
sufficient revenues to cover operating losses and position us to achieve
positive cash flow.





Readers
are cautioned not to place undue reliance on the forward-looking statements
contained herein, which speak only as of the date hereof. We believe the
information contained in this Form 10-Q to be accurate as of the date hereof.
Changes may occur after that date. We will not update that information except as
required by law in the normal course of our public disclosure
practices.





Additionally,
the following discussion regarding our financial condition and results of
operations should be read in conjunction with the financial statements and
related notes contained in Item 1 of Part I of this Form 10-Q.





RESULTS
OF OPERATIONS





Quarter
Ended March 31, 2008 vs. Quarter Ended March 31, 2007





Total revenue. We reported
total revenue of $220,194 for the three months ended March 31, 2008 as compared
to $206,297 for the three months ended March 31, 2007 as increased revenue from
sales of bottled water ($47,723 in Q1 2008 vs. $3,147 in Q1 2007) offset
decreased revenues from BOT wastewater treatment services ($172,471 in Q1 2008
vs. $203,150 in Q1 2007).  We have determined to leave the field of
providing turn-key engineering projects and to concentrate our future efforts on
the sale of bottled water.  Revenues from these efforts should be
significant in future periods.  We continue to provide BOT wastewater
treatment services in existing facilities, but are not seeking to operate
additional facilities and, the Company will from time to time seek to dispose of
existing facilities to concentrate on its bottled water business.  The
results for the quarter reflect these new directions as there were no revenues
from turn-key engineering projects, revenues from BOT wastewater treatment
services continue to decline and sales of bottled water increased reflecting the
commercial rollout of the Company’s branded bottled water.








Cost of revenue. Our total
cost of revenue decreased from $144,766 for the three months ended March 31,
2007 to $122,598 for the three months ended March 31, 2008. This was primarily
due to our decreased BOT wastewater treatment services which resulted in reduced
cost of revenue for these services ($45,581 in Q1 2008 vs. $58,507 in Q1 2007)
and reduced depreciation and amortization $68,032 in Q1 2008 vs. $83,852 in Q1
2007) as we seek to dispose of these operations.


Gross profit. Gross profit, as a percentage of
total revenue for the three months ended March 31, 2008 and 2007, was
approximately 44.3%, or $97,596, and approximately 29.8%, or $61,151,
respectively. Increased gross profits and margins reflect the Company’s
transition away from turn-key engineering projects and BOT waste water treatment
services and into sales of branded bottled water.
  General and administrative expenses. Our total
general and administrative expenses for the three months ended March 31, 2008
and 2007 were $236,501 and $126,831, respectively. The principal components of
general and administrative expenses were administrative salaries and benefits,
depreciation and amortization, traveling expenses, rental expenses and other
general administration costs. A decrease in general and administrative expenses
for the three months ended March 31, 2008 of $128,862 as compared to the three
months ended March 31, 2007 of $188,362 was primarily due to the decreased
levels of operations in BOT waste water treatment services. However this
decrease was more than offset by $205,235 in selling and distribution expenses
in the first quarter of 2008 vs. $0 of such expenses in the first quarter of
2007. The increase relates to the commercial introduction of the Company’s
branded bottled water.


Penalty for late effectiveness of
registration statementThis amount represents the liquidated damages
payment obligation we accrued in connection with the September Private Placement
by missing the deadline we agreed to for effectiveness of the registration
statement we filed in connection with that financing. Under the subscription
agreement for the September Private Placement, we agreed to prepare and file
with the SEC (and did so file), at our own expense, a registration statement
covering the registrable securities related to that placement. We agreed that in
the event that the registration statement is not declared effective by the
SEC within the earlier of 120 days from the final closing, we would pay to the
investors in the September Private Placement liquidated damages in the amount of
2.0% of the purchase price of the registrable securities for each month until
the registration statement is declared effective. These liquidated damages began
accruing on January 12, 2006. We agreed that if we do not remit payment of these
liquidated damages, we will pay the investors in the September Private Placement
interest at the rate of 12% per year until the liquidated damages are paid in
full. The subscription agreement provides that if a registration statement is
not effective at any time after one year following the issuance date of the
September Warrants, these liquidated damages obligations will stop accruing. As
of September 14, 2006 the liquidated damages obligations stopped accruing for a
period of time and then other related damages began to accrue. As of March 31,
2006, we had made an accrual of $828,027 for such liquidated
damages.








Under
paragraphs 12–32 of EITF 00-19, contracts that include any provision that could
require net-cash settlements cannot be accounted for as equity. Accordingly, the
proceeds of the September Private Placement allocated for par value of the
common stock and the September Warrants have been recorded as a liability on the
balance sheet. Upon the effectiveness of the registration statement, the amount
will be recorded as equity.  In 2007 we began accruing smaller amounts
for other penalties which amounted to $22,688 for the quarter.





Unrealized gain on financial
instruments. Unrealized gains or losses on financial instruments
represent the change in the fair market value of the financial instruments at
each reporting date. The unrealized gainon financial instruments for the three
months ended March 31, 2008 was $518,542. The unrealized gain on financial
instruments for the three months ended March 31, 2007
was  $925,840.





Share of results in
associates. CWG
holds a 35% interest in the net profits in Xin Le and a 34.32% interest in Han
Dan. Our share of results in Xinxingmei and Han Dan for the three months ended
March 31, 2008 and 2007 was $46,341 and $61,262, respectively. The decrease in
our share of net profits in the first quarter of 2008 was as a result of a
decrease in net profit of our associates.





Net  income. We had
a net income, after income tax and minority interests, of $293,618 for the three
months ended March 31, 2008, and a net income, after income tax and minority
interests, of $826,462 for the three months ended March 31, 2007.  The
reduced net income as compared to the prior period reflects our reduced scale of
operations in BOT waste water treatment services and our having exited
the turn-key engineering project aspect of our business as well as the
start up expenses related to the introduction of our branded bottled
water.





LIQUIDITY
AND CAPITAL RESOURCES





Our
principal sources of liquidity are our cash and cash flow generated from
operations. Net cash provided by operating activities during the three months
ended March 31, 2008 was $6,741,448. The primary factors in the increase were
decreased amounts due from related and affiliated companies. At the end of the
period, our cash and cash equivalents were $41,554. We plan to secure bank loans
to support our future projects. Our Chairman, the majority shareholder, has also
promised to provide additional funds when needed. However, thispromise is not a legally
binding commitment. Furthermore, we do not have any commitments for bank loans.
If bank loans are not obtained and our majority shareholder does not provide
funding, we could be required to severely curtail our operations.








APPLICATION
OF CRITICAL ACCOUNTING POLICIES





Our
financial statements and accompanying notes are prepared in accordance with
accounting principles generally accepted in the United States of America.
Preparing financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenue,
and expenses. These estimates and assumptions are affected by management's
application of accounting policies. Critical accounting policies include revenue
recognition, impairment of assets and accounting for allowance of accounts
receivable.





Revenue
recognition. We recognize revenue using various revenue recognition policies
based on the nature of the sale and the terms of the contract.





Revenues
from turn-key engineering projects are recognized on the
percentage-of-completion method for individual contracts. We follow the guidance
of the American Institute of Certified Public Accountants (“AICPA”) Statement of
Position (“SOP”) 81-1, Accounting for Performance of Construction-Type and
Certain Production-Type Contracts, for our accounting policy relating to the use
of the percentage-of-completion method, estimated costs and claim recognition
for construction contracts. Revenues are recognized in the ratio that costs
incurred bear to total estimated contract costs to the extent we believe related
collection is probable. The use of the percentage-of-completion method of
revenue recognition requires estimates of percentage of project completion.
Changes in job performance, estimated profitability and final contract
settlements may result in revisions to costs and income in the period in which
the revisions are determined. Provisions for any estimated losses on uncompleted
contracts are made in the period in which such losses are determinable. In
instances when the work performed on fixed price agreements is of a
relatively short duration, we use the completed contract method of accounting
whereby revenue is recognized when the work is completed. From 5% to 10% of the
total contract value will be treated as retention monies withheld to ensure
performance of the contract during the warranty period of up to 12 months, as
stipulated in both long term and short term fixed price contracts.





Revenues
arising from wastewater treatment are recognized based on wastewater treated as
recorded daily by meters read at rates, in RMB/ton, as prescribed under the BOT
agreements in accordance with SAB Topic 13, Revenue Recognition. We meet the
following four criteria for revenue recognition outlined in SAB Topic
13:





1. There
is sufficient evidence to support that sales arrangements exist;





2. The
price to the buyer is fixed through signed contracts;





3. Meter
readings illustrate that delivery of treated wastewater has occurred;
and







4.
Collectibility is reasonably assured through one or more of the following: due
diligence prior to contract signing; historical payment practices; or required
upfront payments.





Revenues
from the sale of environment protection-related products and provision of
technical services are recognized when goods are delivered or when services are
performed. The contractual terms of the purchase agreements or consultancy
agreements dictate the recognition of revenues by us. We recognize revenue in
accordance with SAB No. 104. Accordingly, four basic criteria must be met before
revenue can be recognized: (1) persuasive evidence of an arrangement exists; (2)
delivery has occurred; (3) the selling price is fixed and determinable; and (4)
collectibility is reasonably assured. Determination of criteria (3) and (4) are
based on management’s judgments regarding the fixed nature of the selling prices
of the products or services delivered and the collectibility of those amounts.
Provisions for discounts and rebates to customers, estimated returns and
allowances, and other adjustments are provided for in the same period the
related sales are recorded. We defer any revenue for which the product has not
been delivered or is subject to refund until such time that we and our customer
jointly determine that the product has been delivered or no refund will be
required.





Impairment
of assets. Our policy is to periodically review and evaluate whether there has
been a permanent impairment in the value of long-lived assets. Factors
considered in this evaluation include current operating results, trends and
anticipated undiscounted estimated future cash flows that are expected to result
from the use of the asset, or other measure of fair value, and whether such
factors reflect that the value of the asset has been impaired.





Allowances
for accounts receivable. Our provisioning policy for bad and doubtful debt is
based on the evaluation of collectibility and aging analysis of accounts
receivable and on management's judgment. We do no require collateral or other
security to support client receivables. We conduct periodic reviews of our
clients' financial condition and customer payment practices to minimize
collection risks on accounts receivable. This review is based on a considerable
amount of judgment which is required in assessing the ultimate realization of
these receivables, including the current creditworthiness and the past
collection history of each customer. During the third quarter of 2006, we made
no allowances for doubtful debts.





Financial
instruments. The carrying amounts of all financial instruments approximate fair
value. The carrying amounts of cash, accounts receivable, related party
receivables, unsecured loans, accounts payable and related party payables
approximate fair value due to the short-term nature of these items. The carrying
amounts of borrowings approximate the fair value based on our expected borrowing
rate for debt with similar remaining maturities and comparable
risk.





Income
per share. Basic income per share is computed by dividing the net income for the
year by the weighted average number of common shares outstanding during the
year. Diluted income per share is computed by dividing the net income for the
year by the weighted average number of common and common equivalent shares
outstanding during the year. Common equivalent shares (which includes
incremental common shares issuable upon the exercise of stock options, unvested
restricted common stock and shares that may be issued on a contingent basis) are
included in diluted income per share to the extent such shares are dilutive. In
accordance with SFAS 128, Earnings Per Share, we use income from continuing
operations, net of income taxes, as the “control number” in determining whether
common equivalent shares are dilutive or anti-dilutive in periods where
discontinued operations are reported.





Recently
issued accounting pronouncements





In
December 2007, the FASB issued SFAS No. 141, “Business Combinations” (“SFAS
141”). SFAS 141 defines the acquirer as the entity that obtains control of one
or more businesses in the business combination and establishes the acquisition
date as the date that the acquirer achieves control, and requires an acquirer to
recognize the assets acquired, the liabilities assumed, and any noncontrolling
interest in the acquiree at the acquisition date, measured at their fair values
as of that date, with limited exceptions specified in the Statement. SFAS 141
applies prospectively to business combinations for which the acquisition date is
on or after the beginning of the first annual reporting period beginning on or
after December 15, 2008.





In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements—an amendment of ARB No. 51” (“SFAS 160”). SFAS
160 clarifies that a noncontrolling interest in a subsidiary is an ownership
interest in the consolidated entity that should be reported as equity in the
consolidated financial statements. SFAS 160 requires consolidated net income to
be reported at amounts that include the amounts attributable to both the parent
and the noncontrolling interest, and also requires that a parent recognize a
gain or loss in net income when a subsidiary is deconsolidated. The requirements
of SFAS 160 are effective for our fiscal year beginning January 1,
2009.





In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities—an amendment of FASB Statement No. 133”
(“SFAS 161”). SFAS 161 changes the disclosure requirements for derivative
instruments and hedging activities. Entities are required to provide enhanced
disclosures about (a) how and why an entity uses derivative instruments, (b) how
derivative instruments and related hedged items are accounted for under
Statement 133 and its related interpretations, and (c) how derivative
instruments and related hedged items affect an entity’s financial position,
financial performance, and cash flows. SFAS 161 is effective for financial
statements issued for fiscal years and interim periods beginning after November
15, 2008.





In May
2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted
Accounting Principles” (“SFAS 162”). SFAS 162 identifies the sources of
accounting principles and the framework for selecting the principles to be used
in the preparation of financial statements of nongovernmental entities that are
presented in conformity with generally accepted accounting principles (GAAP) in
the United States (the GAAP hierarchy). SFAS 162 is effective 60 days following
the SEC’s approval of the Public Company Accounting Oversight Board amendments
to AU Section 411, The Meaning of Present Fairly in Conformity With Generally
Accepted Accounting Principles.







Off-Balance
Sheet Arrangements





We do not
have any off-balance sheet arrangements.





ITEM
3. CONTROLS AND PROCEDURES





Our
disclosure controls and procedures are designed to ensure that information
required to be disclosed by us in the reports that we file or submit under the
Exchange Act is recorded, processed, summarized and reported, within the time
periods specified in the rules and forms of the Securities and Exchange
Commission’s rules and forms. Disclosure controls and procedures include,
without limitation, controls and procedures designed to ensure that such
information required to be disclosed by us in the reports that we file under the
Exchange Act is accumulated and communicated to our management, including our
principal executive and financial officers, as appropriate, to allow timely
decisions regarding required disclosure. Our Chief Executive Officer and
Chief Financial Officer have reviewed the effectiveness of our disclosure
controls and procedures and have concluded that the disclosure controls and
procedures are not effective as of the end of the period covered by this report
as discussed below. There were no significant changes in our internal controls
or in other factors that could significantly affect these controls subsequent to
the last day they were evaluated.





Our Chief
Executive Officer and Chief Financial Officer have evaluated the effectiveness
of our disclosure controls and procedures (as this term is defined under the
rules of the SEC) as of August 10, 2006. Based on this evaluation, the Company’s
Chief Executive Officer and Chief Financial Officer and Executive Chairman
concluded that, as of August 10, 2006, our disclosure controls and procedures
were not effective in recording, processing, summarizing and reporting, on a
timely basis, information required to be disclosed by the Company in the reports
that it files or submits under the US Securities Exchange Act of 1934 as a
result of material weaknesses in our internal control over financial reporting
described below.





In the
process of filing our registration statement, we identified certain accounting
errors in our reported US GAAP annual results for fiscal 2004 and 2005 and
certain quarterly results in 2005 and 2006. As a result, we have restated the
amounts and disclosures in those annual financial statements.





The
financial statements which should no longer be relied upon include:





(i)      the
audited consolidated financial statements contained in our report on Form 10-KSB
for the fiscal year ended December 31, 2004 (the “2004 10-KSB”), filed with the
SEC on April 15, 2005, Amendment No. 1 to the 2004 10-KSB filed on July 15,
2005, and Amendment No. 2 to the 2004 10-KSB filed on January 13, 2006
;








(ii)      the
audited consolidated financial statements contained in our report on Form 10-KSB
for the fiscal year ended December 31, 2005 (the “2005 10-KSB”), filed with the
SEC on April 17, 2006;





(iii)     the
unaudited consolidated financial statements contained in our quarterly report on
Form 10-QSB for the quarterly period ended March 31, 2005 (the “March 31, 2005
10-QSB”), filed with the SEC on May 24, 2005;





(iv)     the
unaudited consolidated financial statements contained in our quarterly report on
Form 10-QSB for the quarterly period ended June 30, 2005 (the “June 30, 2005
10-QSB”), filed with the SEC on August 15, 2005;





(v)      the
unaudited consolidated financial statements contained in our quarterly report on
Form 10-QSB for the quarterly period ended September 30, 2005 (the “ September
30, 2005 10-QSB”), filed with the SEC on November 15, 2005 and Amendment No. 1
to the September 30, 2005 10-QSB filed on January 13, 2006; and





(vi)     the
unaudited consolidated financial statements contained in our quarterly report on
Form 10-QSB for the quarterly period ended March 31, 2006 (the “March 31, 2006
10-QSB”), filed with the SEC on May 15, 2006.





Gain
on disposal of the XY





As
previously disclosed in our 2004 10-KSB, including amendments thereto, and
comparative figures in our 2005 10-KSB, we recorded a gain on disposal of
$2,029,720 in 2004 for the disposal of our 90% attributable interest in Xian
Yang Bai Sheng Water Purifying Company Limited (“XY”) to True Global Limited
(“TGL”), an independent party, at a consideration of $4,130,435 (RMB34.2
million). The disposal was made pursuant to a tri-party framework agreement
between Evergreen Asset Group Limited (“EGAG”), TGL and Guang Dong Xin Sheng
Environmental Protection Company Limited (“GDXS”) in which EGAG transferred 90%
of its equity interest in XY to TGL while GDXS continued to own 10% of its
equity interest in XY. The transaction was consummated on October 26, 2004 and
the gain represents the difference between the disposal proceeds and our
attributable share of net assets of XY at the date of disposal. In the same
year, we also recognized an amount of $9,115,942 for the construction revenue of
XY using the percentage-of-completion method, estimated costs and claim
recognition for construction contracts. The amount accounted for 97% of our
total revenue in 2004.





In the
previously filed 2004 10-KSB, as amended to date, and comparative figures in our
previously filed 2005 10-KSB, the accounting treatment for the construction
revenue of XY does not comply with SOP 81-1 or EITF 00-21. As a result, we will
file an amendment to the 2004 10-KSB and 2005 10-KSB with adjusted disclosure to
record the transaction as part of the gain on the disposal of the XY subsidiary
rather than as revenue from construction of wastewater treatment plant. As such
our adjusted total revenue for the fiscal year ended December 31, 2004 was
$250,571 and the adjusted gain on disposal of interest in a subsidiary - XY was
$5,220,299. Due to the same reason, account receivable from TGL amounted to
$9,416,039 as of December 31, 2004 will be reclassified to prepayment, deposits
and other receivables in our upcoming amendment to the 2004 10-KSB, comparative
figures in this amendment to the 2005 10-KSB and comparative figures in the
upcoming or recently filed amendments to the June 30, 2005 10-QSB and September
30, 2005 10-QSB.








Group
reorganization





In Note
2(ii) and 2(iii) to the consolidated financial statements contained in the
previously filed 2004 10-KSB and 2005 10-KSB and Note 2 to the consolidated
financial statements contained in the previously filed March 31, 2005 10-QSB,
June 30, 2005 10-QSB, September 30, 2005 10-QSB and March 31, 2006 10-QSB, we
disclosed group reorganization transactions. Pursuant to rules promulgated by
the SEC, the merger or acquisition of a private operating company into a
non-operating public shell corporation with nominal net assets is considered a
capital transaction, rather than a business combination. As such, no disclosures
are required under FAS 141 because the transactions described were not business
combinations. For accounting purposes, the transaction has been treated as a
reverse acquisition and a recapitalization, and pro-forma information is not
presented. Accordingly, the upcoming amendments to the 2004 10-KSB, this
amendment to the 2005 10-KSB, and the recent or upcoming amendments to the March
31, 2005 10-QSB, June 30, 2005 10-QSB, September 30, 2005 10-QSB and March 31,
2006 10-QSB will not include references to the group reorganization transactions
throughout the financial statements. We will also restate the common stock
immediately after the recapitalization to $100,000 in the upcoming amended March
31, 2005 10-QSB and have done so in the recent amended June 30, 2005
10-QSB.





Reclassification
of April warrants





In our
previously filed 2005 10-KSB, June 30, 2005 10-QSB and March 31, 2006 10-QSB, we
recorded as equity the warrants issued as part of the units sold in our April
2005 convertible debt issuance. Under EITF No. 00-19, the fair value of these
warrants should be reported as a liability. Pursuant to the Warrant Agreement,
because there is currently no effective registration statement covering the
shares of common stock underlying these warrants, these warrants are currently
subject to a cashless exercise whereby the warrant holders may surrender their
warrants to the company in exchange for shares of common stock. The number of
shares of common stock into which a warrant would be exchangeable in such a
cashless exercise depends on both the exercise price of the warrants and the
market price of the common stock, each at or near the time of exercise. Because
both of these factors are variable, it is possible that the company could have
insufficient authorized shares to satisfy a cashless exercise. In this scenario,
if the company were unable to obtain shareholder approval to increase the number
of authorized shares, the company could be obligated to settle such a cashless
exercise with cash rather than by issuing shares of common stock. Further, EITF
No. 00-19 requires that we record the potential settlement obligation at each
reporting date using the current estimated fair value of the warrants, with any
changes being recorded through our statement of operations. We will continue to
report the potential settlement obligation as a liability until such time as the
warrants are exercised or expire or we are otherwise able to modify the warrant
agreement to remove the provisions which require this treatment. In addition to
this restatement of our 2005 10-KSB, we will restate our June 30, 2005 10-QSB
and our March 31, 2006 10-QSB to reclassify the April 2005 warrants as a
liability.








April
and September 2005 Private Placements—non-cash financing charges





In our
June 30, 2005 10-QSB, we did not record any non-cash financing charges and in
our September 30, 2005 10-QSB, as amended to date, we did not properly record
the non-cash financing charges. Non-cash financing charges represent the amount
by which the fair value of derivative liabilities issued exceeds the amount of
proceeds received, as an expense at the date of issuance of the April
convertible debenture and the September private placement. We will restate our
June 30, 2005 10-QSB and our September 30, 2005 10-QSB to record the non-cash
financing charges, which represent the amount by which the fair value of
derivative liabilities issued exceeds the amount of proceeds received, as an
expense at the date of issuance of the April convertible debenture and the
September private placement. As a result of the recording of non-cash financing
charges, certain expenses which were previously recorded under general and
administrative expenses in our September 30, 2005 10-QSB will be reclassified
under non-cash financing charges.





April
2005 Private Placements—unrealized gains or losses in financial
instruments





In our
June 30, 2005 10-QSB and our September 30, 2005 10-QSB, as amended to date, we
did not record properly the unrealized gains or losses in financial instruments,
which represent the change in fair market value of the financial instruments at
each reporting date for the April warrants and the bifurcated conversion feature
for the convertible debenture. The unrealized gains or losses in financial
instruments should have been reported in those filings. We will restate the June
30, 2005 10-QSB and September 30, 2005 10-QSB, as amended to date, to record the
unrealized gains or losses in financial instruments which represent the change
in fair market value of the financial instruments at each reporting date for the
April warrants and the bifurcated conversion feature for the convertible
debenture.





Interest
in associate





In our
June 30, 2005 10-QSB and our September 30, 2005 10-QSB, as amended to date, the
comparative figures for our interest in associate as of December 31, 2004 were
recorded based on an effective percentage of equity attributable to the group of
31.5% instead of a direct interest of 35%. We will restate the comparative
figures for our interest in associate as of December 31, 2004 in the June 30,
2005 10-QSB and September 30, 2005 10-QSB to include our interest in associate
based on a direct interest of 35%.





Prior
Restatements





On
January 13, 2006, we amended our 2004 10-KSB. Prior to the January 13, 2006
amendment, in our 2004 10-KSB we recorded our interest in associate based on an
effective percentage of equity attributable to the group of 31.5% instead of a
direct interest of 35%. In the January 13, 2006 restatement of our 2004 10-KSB,
we reported our interest in associate based on a direct interest of 35%. In
addition, we have restated the common stock immediately after the
recapitalization to $100,000.








On
January 13, 2006, we amended our September 30, 2005 10-QSB. Prior to the January
13, 2006 amendment, the September 30, 2005 10-QSB classified as equity the
proceeds of our April Debenture and September 2005 private placement allocated
to the warrants issued in these transactions. For reasons both the April
warrants and September warrants should have been classified as a liability. The
restated financial statements in the January 13, 2006 amendment of the September
30, 2005 10-QSB reflect this reclassification. In addition, prior to the January
13, 2006 amendment, the September 30, 2005 10-QSB did not originally report the
unrealized gains or losses in financial instruments, which represent the change
in fair market value of the financial instruments at each reporting date. The
unrealized gains or losses in financial instruments should have been reported in
the original filing. Accordingly, the January 13, 2006 restatement of the
September 30, 2006 10-QSB reported the unrealized gains or losses in financial
instruments, which represent the change in fair market value of the financial
instruments at each reporting date. The restatement to the unrealized gains or
losses in financial instruments, however, required to be further restated (refer
discussion above). In addition, we have restated the common stock immediately
after the recapitalization to $100,000.





Material
Weaknesses





In
connection with the above matters, we have identified material weaknesses in our
internal control over financial reporting, which weaknesses we have reported to
our auditors. These material weaknesses comprise:





(a)      insufficient
knowledge and experience among our internal accounting personnel regarding the
application of US GAAP and SEC requirements;





(b)     insufficient
written policies and procedures for accounting and financial reporting with
respect to the requirements and application of US GAAP and SEC disclosure
requirements; and





(
c)    insufficient emphasis by management on compliance with
US GAAP requirements.





We have
communicated with our auditors, Patrizio & Zhao, LLC. and concluded that
these deficiencies constituted material weaknesses, as defined by Auditing
Standard No. 2, “An Audit of Internal Control Over Financial Reporting Performed
in Conjunction with an Audit of Financial Statements,” established by the Public
Company Accounting Oversight Board, or PCAOB.





In order
to address these material weaknesses our senior management is in the process of
conducting a thorough review of our US GAAP financial reporting processes and
will prepare and implement a US GAAP action plan. This plan will be designed to
generally improve our US GAAP reporting processes and to strengthen our control
processes and procedures in order to prevent a recurrence of the circumstances
that resulted in the need to restate our quarterly financial statements. Our
senior management intends to complete its review and implement a US GAAP action
plan as soon as practicable. The US GAAP action plan will incorporate, among
other matters, the following initiatives:








1.     arrange
for our senior management and certain accounting and finance-related personnel
to attend training sessions on US GAAP and financial reporting responsibilities
and SEC disclosure requirements; we are in the process of searching for a CFO
who is competent with US GAAP and familiar with SEC disclosure
requirements;





2.     modify
the mandate of our internal audit function to place greater emphasis on the
adequacy of, and compliance with, procedures relating to internal controls over
US GAAP financial reporting and engage an internationally recognized accounting
firm, which is not affiliated with our auditors, Patrizio & Zhao,LLC, to
assist our accounting department and internal audit function in the preparation
of our US GAAP consolidated financial statements; we are in the process of
establishing an internal audit department.





3.     recruit
an accounting staff member with US GAAP expertise and who is not affiliated with
our auditors ,Patrizio & Zhao,LLC; and





4.      engage
an internationally recognized accounting firm, which is not affiliated with our
auditors, Patrizio & Zhao,LLC, to provide us with technical advice on US
GAAP matters and SEC disclosure requirements on an ongoing basis.





Our board
of directors discussed the matters disclosed in this filing with the
registrant’s independent accountant. On September 25, 2006, we filed a current
report on Form 8-K relating to these matters, including a response from our
independent account relating to the statements contained therein.





Other
than those disclosed above, there were no changes in our internal controls over
financial reporting that materially affected, or are reasonably likely to
materially affect, our internal control over financial reporting during the
quarter ended March 31, 2008.





PART
II. OTHER INFORMATION





ITEM
1. LEGAL PROCEEDINGS





As of the
date of this report, we are not involved in any legal
proceedings





ITEM
2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS





None.





ITEM
3. DEFAULTS UPON SENIOR SECURITIES





None.








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





None.





ITEM 5. OTHER
INFORMATION





None.





ITEM
6. EXHIBITS





Exhibit
No.





Description


31.1                 Certification
of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.





31.2                 Certification
of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.





32.1           Certification
of Chief Executive Officer  pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.





32.2                 Certification
of Chief Financial Officer  pursuant to 18 U.S.C. Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.








SIGNATURES





In
accordance with the requirements of the Exchange Act, the Registrant caused this
report to be signed on its behalf by the undersigned, thereunto duly
authorized.





CHINA
      WATER GROUP, INC.(Registrant)Dated:
      June 8, 2009
            By:
            /s/
      Wenge FangWenge Fang,Chief Executive OfficerDated:
      June 8, 2009
            By:
            /s/
      Ding RencaiDing Rencai,Chief Financial Officer