UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C. 20549





FORM
10-Q





(Mark
One)





x
            QUARTERLY
      REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934.





For the
quarterly period ended March 31,
2010





 ̈
            TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934.





For
the transition period from ____________ to ____________





Commission
File Number 000-51379





CHINA MEDICINE
CORPORATION


(Exact
name of registrant as specified in its charter)





Nevada
                  
                  51-0539830(State
      or other jurisdiction of
                  
                  (IRS
      Employerincorporation
      or organization)
                  
                  Identification
      No.)





Guangri
Tower, Suite 702


No. 9
Siyou South 1st Street


Yuexiu
District


Guangzhou, China
510600


(Address
of principal executive offices) (Zip Code)





(86-20) 8739-1718 and
(86-20) 8737-8212


(Registrant
's telephone number, including area code)





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





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





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





Large
      accelerated filer ̈
              
              Accelerated
      filer  ̈Non-accelerated
      filer   ̈
                (Do
      not check if a smaller reporting company)
              
              Smaller
      reporting companyx





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





APPLICABLE
ONLY TO CORPORATE ISSUERS:





Indicate
the number of shares outstanding of each of the issuer's classes of common
stock, as of the latest practicable date: 20,431,139 shares of common stock, par
value $.0001 per share, were outstanding as of May 12, 2010.





TABLE OF
CONTENTS





PagePART IFINANCIAL INFORMATION
                                      3Item
      1.
                                      Financial
      Statements
                                      3Consolidated
      Balance SheetsAs
      of March 31, 2010 (Unaudited) and December 31, 2009
                                      3Consolidated
      Statements of Income and Other Comprehensive IncomeFor
      the Three Months Ended March 31, 2010 and 2009 (Unaudited)
                                      4Consolidated
      Statement of Changes in Equity for the Year Ended December 31, 2009 and
      for the Three Months Ended March 31, 2010 and 2009
    (Unaudited)
                                      5Consolidated
      Statements of Cash FlowsFor
      the Three Months Ended March 31, 2010 and 2009 (Unaudited)
                                      6Notes
      to Consolidated Financial Statements as of March 31, 2010(Unaudited)
                                      7Item
      2.
                                      Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                                      29Item
      3.
                                      Quantitative
      and Qualitative Disclosures About Market Risk
                                      38Item
      4T.
                                      Controls
      and Procedures.
                                      38PART IIOTHER INFORMATION
                                      39Item
      5.
                                      Unregistered
      Sales of Equity Securities and Use of Proceeds
                                      39Item
      6.
                                      Exhibits
                                      39Signatures
                                      40Exhibits/Certifications
                                      41


2


PART
I - FINANCIAL INFORMATION





Item
      1.
              Financial
  Statements




CHINA
MEDICINE CORPORATION AND SUBSIDIARIES
 
 CONSOLIDATED
BALANCE SHEETS
 
 March
      31,
                          
                          
                          December
      31,2010
                          
                          
                          2009UnauditedASSETSCURRENT
      ASSETSCash
                          
                          $
                          11,086,797
                          
                          
                          $
                          471,769Restricted
      cash
                          
                          
                          61,860,400
                          
                          
                          
                          1,760,400Accounts
      receivable, trade, net of allowance for doubtful accounts of $157,083 as
      of March 31, 2010  and December 31,
      2009,  respectively
                          
                          
                          21,525,638
                          
                          
                          
                          22,314,660Inventories
                          
                          
                          3,703,727
                          
                          
                          
                          2,731,097Advances
      to suppliers
                          
                          
                          3,642,744
                          
                          
                          
                          2,518,396Other
      current assets
                          
                          
                          525,111
                          
                          
                          
                          465,407Total
      current assets
                          
                          
                          102,344,417
                          
                          
                          
                          30,261,729PLANT
      AND EQUIPMENT, NET
                          
                          
                          11,732,618
                          
                          
                          
                          12,000,687OTHER
      ASSETSLong
      term prepayments
                          
                          
                          7,913,231
                          
                          
                          
                          7,900,212Intangible
      assets, net
                          
                          
                          16,551,574
                          
                          
                          
                          16,681,854Total
      other assets
                          
                          
                          24,464,805
                          
                          
                          
                          24,582,066Total
      assets
                          
                          $
                          138,541,840
                          
                          
                          $
                          66,844,482LIABILITIES AND SHAREHOLDERS'
      EQUITYCURRENT
      LIABILITIESShort
      term loans
                          
                          $
                          11,413,260
                          
                          
                          $
                          9,506,160Accounts
      payable, trade
                          
                          
                          2,654,803
                          
                          
                          
                          1,324,269Other
      payables and accrued liabilities
                          
                          
                          1,048,192
                          
                          
                          
                          939,887Customer
      deposits
                          
                          
                          792,605
                          
                          
                          
                          483,358Taxes
      payable
                          
                          
                          2,090,229
                          
                          
                          
                          2,119,745Liquidated
      damages payable
                          
                          
                          44,003
                          
                          
                          
                          44,003Total
      current liabilities
                          
                          
                          18,043,092
                          
                          
                          
                          14,417,422Fair
      value of warrant liabilities
                          
                          
                          2,006,439
                          
                          
                          
                          6,918,068Total
      liabilities
                          
                          
                          20,049,531
                          
                          
                          
                          21,335,490Commitments
      and contingenciesRedeemable
      preferred stock, $0.0001 par value, 1,920,000 and Nil shares issued and
      outstanding at March 31, 2010 and December 31, 2009,
      respectively
                          
                          
                          57,600,000
                          
                          
                          
                          -SHAREHOLDERS'
      EQUITYCommon
      stock, $0.0001 par value; 90,000,000 shares authorized, 20,431,139 and
      15,451,105 shares issued and outstanding at March 31, 2010 and December
      31, 2009, respectively
                          
                          
                          2,042
                          
                          
                          
                          1,544Stock
      subscription
                          
                          
                          2,088,000
                          
                          
                          
                          -Paid-in
      capital
                          
                          
                          31,091,582
                          
                          
                          
                          13,380,444Statutory
      reserves
                          
                          
                          4,389,639
                          
                          
                          
                          4,293,116Retained
      earnings
                          
                          
                          18,433,269
                          
                          
                          
                          22,875,987Accumulated
      other comprehensive income
                          
                          
                          4,443,437
                          
                          
                          
                          4,438,094Total
      shareholders' equity
                          
                          
                          60,447,969
                          
                          
                          
                          44,989,185NONCONTROLLING
      INTERESTS
                          
                          
                          444,340
                          
                          
                          
                          519,807Total
      equity
                          
                          
                          60,892,309
                          
                          
                          
                          45,508,992Total
      liabilities and shareholders' equity
                          
                          $
                          138,541,840
                          
                          
                          $
                          66,844,482
  See
accompanying notes to the Consolidated Financial Statements.
  3
  CHINA MEDICINE CORPORATION AND SUBSIDIARIES
 
 CONSOLIDATED
STATEMENTS OF INCOME AND OTHER COMPREHENSIVE INCOME (LOSS)
 (UNAUDITED)
  For Three Months Ended March
      31,2010
                        
                        
                        2009REVENUESDistribution
      products
                        
                        $
                        9,554,508
                        
                        
                        $
                        9,646,423Proprietary
      products
                        
                        
                        868,110
                        
                        
                        
                        451,967Medical
      technology
                        
                        
                        149,671
                        
                        
                        
                        -Total
      revenues
                        
                        
                        10,572,289
                        
                        
                        
                        10,098,390COST
      OF REVENUESDistribution
      products
                        
                        
                        6,768,683
                        
                        
                        
                        7,017,428Proprietary
      products
                        
                        
                        556,218
                        
                        
                        
                        301,334Medical
      technology
                        
                        
                        -
                        
                        
                        
                        -7,324,901
                        
                        
                        
                        7,318,762GROSS
      PROFIT
                        
                        
                        3,247,388
                        
                        
                        
                        2,779,628OPERATING
      EXPENSESResearch
      and development
                        
                        
                        364,407
                        
                        
                        
                        330,742Selling,
      general and administrative
                        
                        
                        1,636,653
                        
                        
                        
                        681,322Total
      operating expenses
                        
                        
                        2,001,060
                        
                        
                        
                        1,012,064INCOME  FROM
      OPERATIONS
                        
                        
                        1,246,328
                        
                        
                        
                        1,767,564OTHER
      INCOME (EXPENSE):Other
      income (expense), net
                        
                        
                        (120,703
                        )
                        
                        
                        5,553Change
      in fair value of warrant liabilities
                        
                        
                        1,109,694
                        
                        
                        
                        (758,689
                        )INCOME
      BEFORE INCOME TAXES AND NONCONTROLLING INTERESTS
                        
                        
                        2,235,319
                        
                        
                        
                        1,014,428PROVISION
      FOR INCOME TAXES
                        
                        
                        512,955
                        
                        
                        
                        545,486NET
      INCOME (CHINA MEDICINE CORPORATION AND NONCONTROLLING
      INTERESTS)
                        
                        
                        1,722,364
                        
                        
                        
                        468,942Add:
      Net loss attributable to noncontrolling interests
                        
                        
                        75,441
                        
                        
                        
                        81,140NET
      INCOME ATTRIBUTABLE TO CHINA MEDICINE CORPORATION
                        
                        
                        1,797,805
                        
                        
                        
                        550,082OTHER
      COMPREHENSIVE INCOME (LOSS)Foreign
      currency translation adjustment
                        
                        
                        5,343
                        
                        
                        
                        (58,708
                        )Foreign
      currency translation attributable to noncontrolling
    interests
                        
                        
                        (26
                        )
                        
                        
                        (1,133
                        )COMPREHENSIVE
      INCOME
                        
                        $
                        1,803,122
                        
                        
                        $
                        490,241Less:
      Deemed preferred stock dividend
                        
                        
                        (6,144,000
                        )
                        
                        
                        -NET
      LOSS AVAILABLE TO CHINA MEDICINE CORPORATION COMMON
      SHAREHOLDERS
                        
                        $
                        (4,346,195
                        )
                        
                        $
                        550,082EARNINGS
      (LOSS) PER SHAREBasic
      and Diluted
                        
                        $
                        (0.23
                        )
                        
                        $
                        0.04WEIGHTED
      AVERAGE COMMONS SHARES OUTSTANDINGBasic
      and diluted
                        
                        
                        18,897,099
                        
                        
                        
                        15,226,742
  See
accompanying notes to the Consolidated Financial Statements.
  4
  CHINA
MEDICINE CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
STATEMENT OF CHANGES IN EQUITY
  AccumulatedRetained
      Earnings
                              
                              
                              otherCommon
      Stock
                              
                              
                              Stock
                              
                              
                              Paid-in
                              
                              
                              Statutory
                              
                              
                              
                              
                              
                              comprehensive
                              
                              
                              NoncontrollingShares
                              
                              
                              Par
      value
                              
                              
                              subscription
                              
                              
                              capital
                              
                              
                              reserves
                              
                              
                              Unrestricted
                              
                              
                              income
                              
                              
                              interests
                              
                              
                              TotalsBALANCE,
      January 1, 2009
                              
                              
                              15,226,742
                              
                              
                              $
                              1,522
                              
                              
                              $
                              -
                              
                              
                              
                              12,469,477
                              
                              
                              $
                              3,178,861
                              
                              
                              $
                              22,272,565
                              
                              
                              $
                              4,428,294
                              
                              
                              $
                              835,532
                              
                              
                              
                              43,186,251Net
      income (loss)
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              550,082
                              
                              
                              
                              
                              
                              
                              
                              (81,140
                              )
                              
                              
                              468,942Adjustment
      of statutory reserve
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              -Stock
      option and warrant compensation
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              1,249
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              1,249Foreign
      currency translation adjustments
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              (58,708
                              )
                              
                              
                              (1,133
                              )
                              
                              
                              (59,841
                              )BALANCE,
      March 31, 2009 (Unaudited)
                              
                              
                              15,226,742
                              
                              
                              
                              1,522
                              
                              
                              
                              -
                              
                              
                              
                              12,470,726
                              
                              
                              
                              3,178,861
                              
                              
                              
                              22,822,647
                              
                              
                              
                              4,369,586
                              
                              
                              
                              753,259
                              
                              
                              
                              43,596,601Net
      income (loss)
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              1,167,595
                              
                              
                              
                              
                              
                              
                              
                              (234,391
                              )
                              
                              
                              933,204Adjustment
      of statutory reserve
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              1,114,255
                              
                              
                              
                              (1,114,255
                              )
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              -Stock
      options exercised @ 1.25
                              
                              
                              40,000
                              
                              
                              
                              4
                              
                              
                              
                              
                              
                              
                              
                              49,996
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              50,000Warrants
      exercised in a cashless manner
                              
                              
                              184,363
                              
                              
                              
                              18
                              
                              
                              
                              
                              
                              
                              
                              729,844
                              
                              
                              
                              
                              
                              
                              
                              -
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              729,862Stock
      option and warrant compensation
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              129,878
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              129,878Foreign
      currency translation adjustments
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              68,508
                              
                              
                              
                              939
                              
                              
                              
                              69,447BALANCE,
      December 31, 2009
                              
                              
                              15,451,105
                              
                              
                              
                              1,544
                              
                              
                              
                              -
                              
                              
                              
                              13,380,444
                              
                              
                              
                              4,293,116
                              
                              
                              
                              22,875,987
                              
                              
                              
                              4,438,094
                              
                              
                              
                              519,807
                              
                              
                              
                              45,508,992Net
      income (loss)
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              1,797,805
                              
                              
                              
                              
                              
                              
                              
                              (75,441
                              )
                              
                              
                              1,722,364Adjustment
      of statutory reserve
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              96,523
                              
                              
                              
                              (96,523
                              )
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              -Issuance
      of common stock
                              
                              
                              4,000,000
                              
                              
                              
                              400
                              
                              
                              
                              
                              
                              
                              
                              11,999,600
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              12,000,000Cash
      exercise of warrants @ 2.43
                              
                              
                              440,475
                              
                              
                              
                              44
                              
                              
                              
                              
                              
                              
                              
                              2,095,734
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              2,095,778Cashless
      exercise of warrants @ 2.43
                              
                              
                              486,179
                              
                              
                              
                              49
                              
                              
                              
                              
                              
                              
                              
                              2,776,447
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              2,776,496Cashless
      exercise of warrants @ 0.85
                              
                              
                              53,380
                              
                              
                              
                              5
                              
                              
                              
                              
                              
                              
                              
                              (5
                              )
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              -Stock
      option compensation
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              2,914
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              2,914Stock
      subscription
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              2,088,000
                              
                              
                              
                              (2,088,000
                              )
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              -Financing
      related fees
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              (3,219,552
                              )
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              (3,219,552
                              )Value
      of beneficial conversion feature
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              6,144,000
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              6,144,000Deemed
      preferred stock dividend
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              (6,144,000
                              )
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              (6,144,000
                              )Foreign
      currency translation adjustments
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              
                              5,343
                              
                              
                              
                              (26
                              )
                              
                              
                              5,317BALANCE,
      March 31, 2010 (Unaudited)
                              
                              
                              20,431,139
                              
                              
                              $
                              2,042
                              
                              
                              $
                              2,088,000
                              
                              
                              $
                              31,091,582
                              
                              
                              $
                              4,389,639
                              
                              
                              $
                              18,433,269
                              
                              
                              $
                              4,443,437
                              
                              
                              $
                              444,340
                              
                              
                              
                              60,892,309
  See
accompanying notes to the Consolidated Financial Statements.
  5
  CHINA
MEDICINE CORPORATION AND SUBSIDIARIES
 CONSOLIDATED
STATEMENTS OF CASH FLOWS
 (UNAUDITED)
 
 Three
      months ended March 31,2010
                            
                            
                            2009CASH
      FLOWS FROM OPERATING ACTIVITIES:Net
      income attributable to China Medicine Corporation
                            
                            $
                            1,797,805
                            
                            
                            $
                            550,082Net
      loss attributable to noncontrolling interests
                            
                            
                            (75,441
                            )
                            
                            
                            (81,140
                            )Net
      income
                            
                            
                            1,722,364
                            
                            
                            
                            468,942Adjustments
      to reconcile net income to cash provided by (used in) operating
      activities:Depreciation
      and amortization
                            
                            
                            462,229
                            
                            
                            
                            216,195Loss
      on sale of assets
                            
                            
                            -
                            
                            
                            
                            5,934Stock-based
      compensation
                            
                            
                            2,914
                            
                            
                            
                            1,249Change
      in fair value of warrants liabilities
                            
                            
                            (1,109,694
                            )
                            
                            
                            758,689Change
      in operating assets and liabilities:Accounts
      receivable, trade
                            
                            
                            788,752
                            
                            
                            
                            4,279,540Inventories
                            
                            
                            (972,298
                            )
                            
                            
                            (3,160,625
                            )Advances
      to suppliers
                            
                            
                            (1,123,965
                            )
                            
                            
                            (3,302,140
                            )Other
      current assets
                            
                            
                            (59,686
                            )
                            
                            
                            (434,984
                            )Accounts
      payable, trade
                            
                            
                            1,330,059
                            
                            
                            
                            (3,402
                            )Other
      payables and accrued liabilities
                            
                            
                            108,390
                            
                            
                            
                            (17,056
                            )Customer
      deposits
                            
                            
                            309,141
                            
                            
                            
                            (62,312
                            )Taxes
      payable
                            
                            
                            (29,505
                            )
                            
                            
                            (201,065
                            )Net
      cash provided by (used in) operating activities
                            
                            
                            1,428,701
                            
                            
                            
                            (1,451,035
                            )CASH
      FLOWS FROM INVESTING ACTIVITIES:Purchase
      of building improvement and equipment
                            
                            
                            (64,017
                            )
                            
                            
                            (25,478
                            )Long
      term prepayments
                            
                            
                            (13,015
                            )
                            
                            
                            469,949Net
      cash provided by (used in) investing activities
                            
                            
                            (77,032
                            )
                            
                            
                            444,471CASH
      FLOWS FROM FINANCING ACTIVITIES:Proceeds
      from exercise of warrants
                            
                            
                            1,070,338
                            
                            
                            
                            -Loan
      proceeds
                            
                            
                            1,906,450
                            
                            
                            
                            -Proceeds
      from issuance of common stock
                            
                            
                            12,000,000
                            
                            
                            
                            -Proceeds
      from issuance of redeemable preferred stock
                            
                            
                            57,600,000
                            
                            
                            
                            -Payments
      on private placement related expenses
                            
                            
                            (3,219,552
                            )
                            
                            
                            -Increase
      in restricted cash
                            
                            
                            (60,100,000
                            )
                            
                            
                            -Net
      cash provided by financing activities
                            
                            
                            9,257,236
                            
                            
                            
                            -EFFECT
      OF EXCHANGE RATE ON CASH
                            
                            
                            6,123
                            
                            
                            
                            (14,295
                            )CHANGE
      IN CASH
                            
                            
                            10,615,028
                            
                            
                            
                            (1,020,859
                            )CASH,
      beginning of year
                            
                            
                            471,769
                            
                            
                            
                            2,791,814CASH,
      end of year
                            
                            $
                            11,086,797
                            
                            
                            $
                            1,770,955Supplemental
      disclosure of cash flows:Cash
      paid interest
                            
                            $
                            94,213
                            
                            
                            $
                            -Cash
      paid income tax
                            
                            $
                            229,688
                            
                            
                            $
                            520,872
 
 See
accompanying notes to the Consolidated Financial
Statements.
  6




Note
1 - Organization





Principal
Activities





China
Medicine Corporation (“CMC” or the "Company") was incorporated on February 10,
2005.  The Company, through its subsidiaries in the People’s Republic
of China (“PRC” or “China”), engages in the research and development,
manufacture, and wholesale distribution of prescription and over the counter
medicines, traditional Chinese medicines, which are medicines derived from
Chinese herbs, dietary supplements, medical instruments and the licensing of,
and providing consulting services with respect to the design and optimization
of, medical technology in the PRC. The Company primarily operates through
its wholly-owned subsidiaries, Guangzhou Konzern Medicine Co., Ltd. (“Konzern”)
and Guangzhou LifeTech Pharmaceutical Co., Ltd (“LifeTech”).  Both
companies are organized under the laws of the PRC.  All other
subsidiaries are still in the development stage and either had not undertaken
significant operating activities or had no activities as of March 31,
2010.





Current
Development





On
January 7, 2010, the Company set up Konzern Company Limited (“Konzern Ltd.”)
which is 100% owned by the Company. Konzern Ltd. was established in China under
PRC law. Its business license is valid for 50 years from January 7, 2010. The
registered capital of Konzern Ltd. is approximately $29.3 million (RMB 200
million) of which $5,500,000 has been contributed as of March 31,
2010.  To fulfill the requirement of the PRC local administrative
affair, the remaining capital of approximately $23.8 million has to be invested
in Konzern Ltd. within 2 years after the issuance date of the business license.
The Company has 100% ownership of Konzern Ltd.





China
Medicine Corporation is in the process of reorganizing its PRC subsidiaries into
a group structure with all PRC subsidiaries to be controlled by Konzern Ltd. As
of May 12, 2010, the reorganization of four subsidiaries has already been
completed, so that Konzern, LifeTech, Konzern Bio-Tech and LifeTech Technology
are now 100% owned by Konzern Ltd.





Note
2 - Summary of Significant Accounting Policies





Basis of
Presentation





The
consolidated financial statements of the Company reflect its subsidiaries,
Konzern, Konzern Ltd., Konzern US Holdings (“Konzern Holding”), Konzern
Bio-Tech, LifeTech, and LifeTech Medicine Technologies Co., Ltd. (“LifeTech
Technology”), all of which are directly or indirectly 100% owned subsidiaries,
and Guangzhou Co-Win Bioengineering Co., Ltd. (“Co-Win”), which is a 70% owned
subsidiary. The accompanying consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America. All material inter-company transactions and balances
have been eliminated in consolidation.





While
management has included all normal recurring adjustments considered necessary to
give a fair presentation of the operating results for the periods, interim
results are not necessarily indicative of results for a full
year.  The information included in this Form 10-Q should be read in
conjunction with information included in the 2009 annual report filed on Form
10-K.


7


Use of
Estimates





In
preparing financial statements in conformity with generally accepted accounting
principles, management is required to make estimates and assumptions that affect
the reported amounts of assets and liabilities, and the disclosure of contingent
assets and liabilities at the date of the financial statements, and revenues and
expenses during the reported period. For example, management estimates the fair
value of its options and warrants as well as the amount of potentially
uncollectible accounts.  Management believes that the estimates
utilized in preparing its consolidated financial statements are reasonable and
prudent. Actual results could differ from those estimates.





Cash and Cash
Equivalents





For
purposes of the cash flow statements, the Company considers all highly liquid
investments with original maturities of three months or less at the time of
purchase to be cash equivalents. Cash includes cash on hand and demand deposits
in accounts maintained with banks in China.





Restricted
Cash





Restricted
cash represents amounts set aside by the Company in accordance with the
Company’s debt agreements with a financial institution and the Stock
Subscription Agreement that was completed on January 29, 2010.  As
part of the Company’s loan agreements with a bank, the Company is expected to
maintain certain compensating cash balances at the bank’s
desires.  Pursuant to the Stock Subscription Agreement, the use of
funds has to be approved by the board of directors and to be used on certain
acquisitions and capital expenditures.





Concentrations and
Risks





Financial
instruments, which subject the Company to concentration of credit risk, consist
of cash. The Company maintains balances at financial institutions or state-owned
banks within China which, from time to time, may exceed Federal Deposit
Insurance Corporation insured limits for banks that are located in the Unites
States. No deposits within the PRC are covered by insurance. As of March 31,
2010 and December 31, 2009, the Company had deposits in excess of federally
insured limits totalling $72,029,298 and $2,232,169, respectively. The Company
has not experienced any losses in such accounts and believes it is not exposed
to any significant risks on its cash in bank accounts.





The
Company's operations may be adversely affected by significant political,
economic and social uncertainties in China. Although the Chinese government has
pursued economic reform policies in the past, there is no assurance that the
Chinese government will continue to pursue such policies or that such policies
may not be significantly altered, especially in the event of a change in
leadership, social or political disruption or unforeseen circumstances affecting
China's political, economic and social conditions. There is also no guarantee
that the Chinese government's pursuit of economic reforms will be consistent or
effective.





For the
three months ended March 31, 2010, two suppliers accounted for approximately 59%
of the Company’s total purchases, individually accounting for 30% and 29%,
respectively. Advances to the two suppliers represented 17% of the Company’s
total advances to suppliers as of March 31, 2010. For the three months ended
March 31, 2009, five suppliers accounted for approximately 55% of the Company’s
purchases. Advances to those five suppliers represent 30% of the Company’s total
advances to suppliers as of March 31, 2009. There were no accounts payables due
to those suppliers at March 31, 2010 and 2009.


8


For the
three months ended March 31, 2010, two customers accounted for approximately 54%
of the Company's total sales, individually accounting for 31% and 23%,
respectively. The accounts receivable balances of these customers amounted to
$7,495,334, representing 35% of the total accounts receivable as of March 31,
2010. For the three months ended March 31, 2009, five customers accounted for
approximately 51% of the Company’s total sales. The accounts receivable balance
of those five customers amounted to $6,874,533, representing 46% of the total
accounts receivable as of March 31, 2009.





The top
three products accounted for approximately 34% and 47% of the Company’s total
sales for the three months ended March 31, 2010 and 2009,
respectively.




Accounts Receivable,
Trade





The
Company extends unsecured credit to its customers in the ordinary course of
business.  Management reviews the composition of accounts receivable
and analyzes historical bad debts, customer concentrations, customer credit
worthiness, current economic trends and changes in customer payment patterns to
determine if the allowance for doubtful accounts is adequate.  An
estimate for doubtful accounts is made when collection of the full amount is no
longer probable. Account balances are written off after management has exhausted
all collection efforts.





Inventories





Inventories
are stated at the lower of cost or market value. Cost is determined using the
weighted average method. Management reviews inventories for obsolescence or cost
in excess of net realizable value periodically and records an inventory
write-down and additional cost of goods sold when the carrying value exceeds net
realizable value.





Advances to
Suppliers





Advances
on inventory purchases are down payments or deposits for inventory
purchases.  The inventory is normally delivered within one to two
months after the payments have been made except for vendors who have an agency
relationship with the Company.  This amount is refundable and bears no
interest. The Company has legally binding contracts with its vendors, which
require the payments to be returned to the Company when the contract
ends.





Plant and
Equipment





Plant and
equipment are stated at the actual cost of acquisition less accumulated
depreciation. Major additions and improvements are capitalized. Expenditures for
maintenance and repairs are charged to earnings as incurred. When assets are
retired or otherwise disposed of, the related cost and accumulated depreciation
are removed from the respective accounts, and any gain or loss is included in
operations. Depreciation is provided in amounts sufficient to relate the costs
of depreciation of assets to operations principally using the straight-line
method for substantially all assets with a residual value of 5% of the actual
cost and estimated lives as follows:





Buildings
      and leasehold improvements
              50
      yearsLeasehold
      improvements
              5
      yearsProduction
      equipment
              10
      -12 yearsFurniture,
      fixtures and office equipment
              5
      yearsMotor
      vehicles
              5 -
      10 years


9


A
majority of the construction in progress represents the costs incurred in
connection with the construction of equipment for manufacturing
aflatonix-detoxifizyme (“rADTZ”).  No depreciation is provided for
construction in progress until such time as the assets are completed and placed
into service.





Long Term
Prepayments





Long term
prepayments mostly represent partial payments or deposits on acquiring
technology and exclusive distribution rights; these payments and deposits are
refundable.





Intangible
Assets





Intangible
assets mainly include land use rights and patents.  Intangible assets
are stated at cost (actual costs or estimated fair value upon acquisition), less
accumulated amortization.  Amortization expense is recognized on the
straight-line basis over the estimated useful lives of the assets as
follows:





Intangible
      assets
                  
                  Weighted
      average
                    estimated
      useful
                    livesLand
      use rights
                  
                  41-46
      yearsManufacturing
      patents
                  
                  16
      yearsrADTZ
      patent
                  
                  11
      years





All land
in the PRC is government owned.  However, the government grants “land
use rights.”  Lifetech acquired land use rights in 2002 and 2007 and
has the right to use the land for 50 years.  The rights are amortized
on a straight line basis over the weighted average useful lives.





The
Company acquired manufacturing patents through the acquisition of LifeTech and
LifeTech Technology.  Acquired patents were measured based on their
fair values.  Manufacturing patents are being amortized on a
straight-line basis over a period of 20 years from the application
date.  The weighted average remaining life of the acquired patents was
16 years on the date of the acquisition.





Beginning
in 2007, the Company acquired technology to manufacture rADTZ.  The
major costs of intangibles includes patent and technology acquired and related
final experiment costs required by the government. The Company will begin
amortizing costs once manufacturing begins. As of December 31, 2009, the Company
has started trial production to meet government requirements and is in the
process of applying the government permit to allow the Company to manufacture
rADTZ. The Company expects to obtain the permit in 2010.




Under the
FASB’s accounting standard for goodwill and other intangible assets, all
goodwill and certain intangible assets determined to have indefinite lives will
not be amortized but will be tested for impairment at least annually. Intangible
assets other than goodwill will be amortized over their useful lives and
reviewed for impairment at least annually or more often whenever there is an
indication that the carrying amount may not be recovered.


10


Impairment of Long-Lived
Assets





Per
FASB’s accounting standards, long-lived assets are analyzed for impairment. The
Company tests for impairment of long-lived assets at least annually or more
often whenever there is an indication that the carrying amount of the asset may
not be recovered. Recoverability of these assets is determined by comparing the
forecasted undiscounted cash flows generated by those assets to the assets' net
carrying value. The amount of impairment loss, if any, is measured as the
difference between the net book value of the assets and the estimated fair value
of the related assets.





Management
evaluates the recoverability of long-lived assets by measuring the carrying
amount of the assets against the estimated undiscounted future cash flows
associated with them. At the time such flows of certain long-lived assets are
not sufficient to recover the carrying value of such assets, the assets are
adjusted to their fair values. As of March 31, 2010, the Company believes that
there were no impairments of long-lived assets.





Fair Value of Financial
Instruments





The
accounting standards regarding fair value of financial instruments and related
fair value measurements defines financial instruments and requires fair value
disclosures of those financial instruments.  The fair value measurement
accounting standard defines fair value, establishes a three-level valuation
hierarchy for disclosures of fair value measurement and enhances disclosure
requirements for fair value measures. The carrying amounts reported in the
balance sheets for current assets and current liabilities qualifying as
financial instruments are a reasonable estimate of fair value because of the
short period of time between the origination of such instruments and their
expected realization and their current market rate of interest.  The
three levels are defined as follow:




·
            Level
      1 inputs to the valuation methodology are quoted prices (unadjusted) for
      identical assets or liabilities in active
  markets.





·
            Level
      2 inputs to the valuation methodology include quoted prices for similar
      assets and liabilities in active markets, and inputs that are observable
      for the asset or liability, either directly or indirectly, for
      substantially the full term of the financial
  instrument.




·
            Level
      3 inputs to the valuation methodology are unobservable and significant to
      the fair value measurement.





Determining
the category into which an asset or liability falls within the hierarchy
requires significant judgment. The Company evaluates the hierarchy disclosures
each quarter. Liabilities measured at fair value on a recurring basis are
summarized as follows:





Carrying Value as
                        of
                        March 31, 2010
                      
                      Fair Value Measurements at March 31, 2010
                        Using Fair Value Hierarchy(Unaudited)
                      
                      Level
      1
                      
                      Level
      2
                      
                      Level
      3Warrant
      liabilities
                      
                      $
                      2,006,439
                      
                      
                      
                      $
                      2,006,439


11


A
discussion of the valuation techniques used to measure fair value for the
liabilities listed above and activity for these liabilities for the three months
ended March 31, 2010, is provided elsewhere in the footnotes.





In
addition to assets and liabilities that are recorded at fair value on a
recurring basis, the Company is required to record assets and liabilities at
fair value on a non-recurring basis.  Generally, assets are recorded
at fair value on a non-recurring basis as a result of impairment charges. For
the three months ended March 31, 2010, there were no impairment
charges.





Redeemable Convertible
Preferred Stock





On
December 31, 2009, the Company entered into a Stock Subscription Agreement for
an equity private placement (the "Subscription Agreement") with an accredited
investor.  This agreement became effective on January 29,
2010.  The investor agreed to purchase 4,000,000 shares of the
Company's common stock at $3.00 per share and 1,920,000 shares of the
Company's redeemable convertible preferred stock at $30.00 per share, for
an aggregate purchase price of $69.6 million, of which $57.6 million is required
to be placed in escrow.  Each redeemable convertible preferred share
is initially convertible into ten common shares.  Because the investor
can request redemption at the liquidation value in the event of a material
adverse effect, the preferred stock has conditions for its redemption that are
outside the control of the Company.  In accordance with ASC
480-10-S99, it must be classified outside of stockholders’ equity.





The
Company allocated the gross proceeds received between the redeemable convertible
preferred stock and the common stocks.  Based on the initial carrying
value, a beneficial conversion feature in the amount of $6.1 million was
recognized, which was credited to additional paid-in-capital.  The
redeemable convertible preferred stock can be converted at any time at the
option of the investor and is immediately convertible. As the result, the entire
beneficial conversion feature was recognized immediately as a deemed dividend to
the investors of the preferred stock.





The
redeemable convertible preferred stock is entitled to receive dividends with the
common stock on an as-if converted basis.  It is considered as a
participating security and is included in the computation of basic earnings per
share.





Noncontrolling
Interest





Noncontrolling
interest consists of the 30% interest which the Company owns in Co-Win.
Effective on January 1, 2009, the Company adopted the FASB’s standard
regarding noncontrolling interests in consolidated financial
statements.  Certain provisions of this statement are required to be
adopted retrospectively for all periods presented. Such provisions include a
requirement that the carrying value of noncontrolling interests (previously
referred to as minority interests) be removed from the mezzanine section of the
balance sheet and reclassified as equity; and consolidated net income to be
recast to include net income attributable to the noncontrolling
interest.


12


Revenue
Recognition





The
Company recognizes revenue when all four of the following criteria are met: (1)
persuasive evidence has been received that an arrangement exists; (2) delivery
of the products and/or services has occurred; (3) the selling price is fixed or
determinable; and (4) collectability is reasonably assured. The Company follows
the accounting standard regarding revenue recognition which sets forth
guidelines in the timing of revenue recognition based upon factors such as
passage of title, installation, payments and customer acceptance. Any amounts
received prior to satisfying the Company's revenue recognition criteria is
recorded as deferred revenue. The Company requires its customers to deposit
monies with the Company when they place an order. The Company does not pay
interest on these amounts.





Sales
revenue represents the invoiced value of goods, net of a value-added tax (VAT).
All of the Company's products that are sold in the PRC are subject to a Chinese
VAT at a rate of 17% of the gross sales price. This VAT may be offset by VAT
paid by the Company on raw materials and other materials included in the cost of
producing their finished product.





Output
VAT on sales and input VAT on purchases amounted to $1,771,845 and $1,209,258,
respectively, for the three months ended March 31, 2010, and $1,716,427 and
$1,780,250, respectively, for the three months ended March 31, 2009. Sales and
purchases are recorded net of VAT collected and paid as the Company acts as an
agent for the government. VAT taxes are not impacted by the income tax
holiday.





Research and Development
Costs





Research
and development costs are expensed as incurred. The costs of material and
equipment that are acquired or constructed for research and development
activities, and have alternative future uses, either in research and development
or sales and marketing, are classified as equipment and depreciated over their
estimated useful lives.





Shipping and Handling
Costs




Shipping
and handling costs related to costs of goods sold are included in selling,
general and administrative costs and totaled $138,664 and $124,079 for the three
months ended March 31, 2010 and 2009.




Advertising
Costs





The
Company expenses the cost of advertising as incurred in selling, general and
administrative costs. For the three months ended March 31, 2010 and 2009,
advertising expenses amounted to $13,501 and $30,127, respectively.




Foreign Currency
Translation




The
reporting currency of the Company is the US dollar. The Company uses its local
currency, Renminbi (RMB), as its functional currency. Results of operations and
cash flow are translated at average exchange rates during the period, and assets
and liabilities are translated at the unified exchange rate as quoted by the
People’s Bank of China at the end of the period. Translation adjustments
resulting from this process are included in accumulated other comprehensive
income in the Consolidated Statements of Shareholders’
Equity.  Because cash flows are also translated at
average exchange rates, amounts reported on the Consolidated Statements of
Cash Flows will not necessarily agree with changes in the corresponding balances
on the Consolidated Balance Sheets.





Asset and
liability accounts at March 31, 2010 and December 31, 2009
were converted at 6.82 RMB to $1.00, respectively. Equity accounts
were stated at their historical rate. The average exchange rates applied to
income and cash flow statements for the three months ended March 31, 2010 and
2009, were 6.82 RMB to $ $1.00, respectively.


13


Transaction
gains and losses that arise from exchange rate fluctuations on transactions
denominated in a currency other than the functional currency are included in the
results of operations as incurred. No material transaction gains and losses were
recognized during the three months ended March 31, 2010, and 2009. Historically,
the Company has not entered into any currency trading or hedging transactions,
although there is no assurance that the Company will not enter into such
transactions in the future.





Income
Taxes





The
Company records income taxes pursuant to FASB’s accounting standards for income
taxes. The provision consists of the recognition of deferred income tax
liabilities and assets for the expected future tax consequences of temporary
differences between the income tax basis and financial reporting basis of assets
and liabilities. The provision for income taxes consists of taxes currently due
plus deferred taxes.





The
charge for taxation is based on the results for the three months as adjusted for
items, which are non-assessable or disallowed. It is calculated using tax rates
that have been enacted or substantially enacted as of the balance sheet
date.





The
deferred tax is accounted for using the balance sheet liability method in
respect of temporary differences arising from differences between the carrying
amount of assets and liabilities in the financial statements and the
corresponding tax basis used in the computation of assessable tax profit. In
principle, deferred tax liabilities are recognized for all taxable temporary
differences, and deferred tax assets are recognized to the extent that it is
probable that taxable profit will be available against which deductible
temporary differences can be utilized.




The
deferred tax is calculated at the tax rates that are expected to apply to the
period when the asset is realized or the liability is settled. Deferred tax is
charged or credited in the income statement, except when it is related to items
credited or charged directly to equity, in which case the deferred tax is also
dealt with in equity. Deferred tax assets and liabilities are offset when they
relate to income taxes levied by the same taxation authority and the Company
intends to settle its current tax assets and liabilities on a net
basis.




Under
FASB’s accounting standards, a tax position is recognized as a benefit only if
it is “more likely than not” that the tax position would be sustained in a tax
examination, with a tax examination being presumed to occur. The amount
recognized is the largest amount of tax benefit that is greater than 50% likely
of being realized on examination. For tax positions not meeting the “more likely
than not” test, no tax benefit is recorded.  Penalties and interest
incurred related to underpayment of income tax are classified as income tax
expense in the year incurred.  No significant penalties or interest
relating to income taxes have been incurred during the three months ended March
31, 2010 and 2009.  GAAP also provides guidance on de-recognition,
classification, interest and penalties, accounting in interim periods,
disclosures and transition


14


Stock-Based
Compensation





The
Company records and reports the employee stock-based compensation in accordance
with FASB’s accounting standards for share-based payments. This accounting
standard requires a public entity to measure the cost of services received in
exchange for an award of equity instruments based on the grant-date fair value
of the award. That cost is recognized over the period during which services are
received. Stock compensation for stock granted to non-employees is determined in
accordance with FASB’s accounting standards regarding accounting for stock-based
compensation and accounting for equity instruments that are issued to other than
employees for acquiring or in conjunction with selling goods or services, as the
fair value of the consideration received or the fair value of equity instruments
issued, whichever is more reliably measured.





Earnings Per
Share





The
Company reports earnings per share in accordance with FASB’s accounting
standards for earnings per share, which requires presentation of basic and
diluted earnings per share in conjunction with the disclosure of the methodology
used in computing such earnings per share. Basic earnings per share are computed
by dividing net income (loss) available to common stockholders by the weighted
average common shares outstanding during the period using the two-class
method.  Under the two-class method, net income (loss) is allocated
between common stock and redeemable convertible preferred stock as it is deemed
to be a participating security based on its participation
rights.  Diluted earnings per common share takes into account the
potential dilution that could occur if securities or other contracts to issue
common stock were exercised and converted into common stock.  Diluted
loss per common share is calculated by dividing net loss attributable to common
stockholders by the weighted average number of common and potential dilutive
securities outstanding during the period if the effect is
dilutive.  The numerator of diluted earnings per share is calculated
by starting with income allocable to common stock under the two-class method and
adding back income allocable to preferred stock to the extend they are
dilutive.





Business
Combination





Effective
January 1, 2009, we account for business combinations using the acquisition
method of accounting. The acquisition method 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. The provisions of the acquisition method related to income tax adjustments
apply to all business combinations regardless of consummation date.




Fair
value is defined as the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants at
the measurement date. This is an exit price concept for the valuation of the
asset or liability. In addition, market participants are assumed to be buyers
and sellers in the principal market for the asset or liability. Fair value
measurements for an asset assume the highest and best use by these market
participants. As a result of these standards, we may be required to record
assets which we do not intend to use or sell (defensive assets) and/or to value
assets at fair value measures that do not reflect our intended use of those
assets. Many of these fair value measurements can be highly subjective and it is
also possible that other professionals, applying reasonable judgment to the same
facts and circumstances, could develop and support a range of alternative
estimated amounts.




Recently Issued Accounting
Pronouncements





In June
2009, FASB issued an Accounting Standards Update (“ASU”) amending the accounting
and disclosure requirements for transfers of financial assets. This ASU requires
entities to provide more information regarding sales of
securitized financial assets and similar transactions, particularly if the
entity has continuing exposure to the risks related to transferred financial
assets. In addition, it eliminates the concept of a “qualifying special-purpose
entity,” changes the requirements for derecognizing financial assets and
requires additional disclosures.  This ASU is effective for
financial statements issued for fiscal years beginning after November 15,
2009.  The adoption of these FASB Staff Positions did not have a material
impact the Company’s consolidated financial statements.


15


In June
2009, FASB issued an ASU amending the accounting and disclosure requirements for
the consolidation of variable interest entities (“VIEs”).   This
ASU modifies how a company determines when an entity that is insufficiently
capitalized or is not controlled through voting (or similar rights) should
be consolidated. It clarifies that the determination of whether a company is
required to consolidate an entity is based on, among other things, an
entity’s purpose and design and a company’s ability to direct the activities of
the entity that most significantly impact the entity’s economic
performance. An ongoing reassessment is required of whether a company is the
primary beneficiary of a variable interest entity. Further, it also
requires additional disclosures about a company’s involvement in variable
interest entities and any significant changes in risk exposure due to that
involvement. The standard is effective for fiscal years beginning after November
15, 2009.  The adoption of these FASB Staff Positions did not have a
material impact the Company’s consolidated financial statements.





In
October 2009, FASB issued an ASU regarding accounting for own-share lending
arrangements in contemplation of convertible debt issuance or other
financing.  This ASU requires that at the date of issuance of the
shares in a share-lending arrangement entered into in contemplation of a
convertible debt offering or other financing, the shares issued shall be
measured at fair value and be recognized as an issuance cost, with an offset to
additional paid-in capital. Further, loaned shares are excluded from basic and
diluted earnings per share unless default of the share-lending arrangement
occurs, at which time the loaned shares would be included in the basic and
diluted earnings-per-share calculation.  This ASU is effective for
fiscal years beginning on or after December 15, 2009, and interim periods within
those fiscal years for arrangements outstanding as of the beginning of those
fiscal years.   The adoption of these FASB Staff Positions did not have a
material impact the Company’s consolidated financial statements.





In
January 2010, FASB issued ASU No. 2010-02 regarding accounting and reporting for
decreases in ownership of a subsidiary.  Under this guidance, an
entity is required to deconsolidate a subsidiary when the entity ceases to have
a controlling financial interest in the subsidiary.  Upon
deconsolidation of a subsidiary, an entity recognizes a gain or loss on the
transaction and measures any retained investment in the subsidiary at fair
value.  In contrast, an entity is required to account for a decrease
in its ownership interest of a subsidiary that does not result in a change of
control of the subsidiary as an equity transaction.  This ASU
clarifies the scope of the decrease in ownership provisions, and expands the
disclosures about the deconsolidation of a subsidiary or de-recognition of a
group of assets.  This ASU is effective beginning in the first interim
or annual reporting period ending on or after December 31, 2009.  The
adoption of this ASU did not have a material impact on the Company’s
consolidated financial statements.





In
January 2010, FASB issued ASU No. 2010-06 - Improving Disclosures about Fair
Value Measurements.  This update provides amendments to Subtopic
820-10 that requires new disclosure to include transfers in and out of Levels 1
and 2 and activity in Level 3 fair value measurements.  Further, this
update clarifies existing disclosures on level of disaggregation and disclosures
about inputs and valuation techniques.  A reporting entity should
provide fair value measurement disclosures for each class of assets and
liabilities and should provide disclosures about the valuation techniques and
inputs used to measure fair value for both recurring and nonrecurring fair value
measurements. Those disclosures are required for fair value measurements that
fall in either Level 2 or Level 3.  The new disclosures and
clarifications of existing disclosures are effective for interim and annual
reporting periods beginning after December 15, 2009, except for the disclosures
about purchases, sales, issuances, and settlements in the roll forward of
activity in Level 3 fair value measurements. Those disclosures are effective for
fiscal years beginning after December 15, 2010, and for interim periods within
those fiscal years.  The Company is currently evaluating the impact of this
ASU; however, the Company does not expect the adoption of this ASU to have a
material impact on its consolidated financial statements.


16


In
February 2010, the FASB issued ASU 2010-09, “Subsequent Events (Topic 855):
Amendments to Certain Recognition and Disclosure Requirements,” or ASU 2010-09.
ASU 2010-09 primarily rescinds the requirement that, for listed companies,
financial statements clearly disclose the date through which subsequent events
have been evaluated. Subsequent events must still be evaluated through the date
of financial statement issuance; however, the disclosure requirement has been
removed to avoid conflicts with other SEC guidelines. ASU 2010-09 was effective
immediately upon issuance and was adopted in February 2010.





Reclassification





$145,862
was reclassified from selling, general and administrative expenses to research
and development and $451,967 was reclassified from distribution products to
proprietary products in prior year’s consolidated statements of income and other
comprehensive income to conform to classifications used in the current
year.





Note
3 – Accounts Receivable





Accounts
receivable consisted of the following:





March 31, 2010
                        
                        
                        December 31, 2009(Unaudited)Trade
      accounts receivable
                        
                        $
                        21,682,721
                        
                        
                        $
                        22,471,743Allowance
      for doubtful accounts
                        
                        
                        (157,083
                        )
                        
                        
                        (157,083
                        )Trade
      accounts receivable, net
                        
                        $
                        21,525,638
                        
                        
                        $
                        22,314,660




March
      31, 2010
                                        
                                        
                                        December
      31, 2009(Unaudited)Beginning
      allowance for doubtful accounts
                                        
                                        $
                                        157,083
                                        
                                        
                                        $
                                        96,609Additions
      charged to bad debt expense
                                        
                                        
                                        -
                                        
                                        
                                        
                                        60,474Foreign
      currency translation adjustments
                                        
                                        
                                        -
                                        
                                        
                                        
                                        -Ending
      allowance for doubtful accounts
                                        
                                        $
                                        157,083
                                        
                                        
                                        $
                                        157,083





Note
4 – Inventories





Inventories
consisted of the following:





March 31, 2010
                            
                            
                            December 31, 2009(Unaudited)Raw
      materials
                            
                            $
                            420,213
                            
                            
                            $
                            328,586Work
      in progress
                            
                            
                            414,415
                            
                            
                            
                            389,346Finished
      goods
                            
                            
                            2,869,099
                            
                            
                            
                            2,013,165Totals
                            
                            $
                            3,703,727
                            
                            
                            $
                            2,731,097


17


Note
5 – Plant and Equipment





Plant and
equipment consisted of the following:





March
      31, 2010
                                
                                
                                December
      31, 2009(Unaudited)Buildings
      and leasehold improvements
                                
                                $
                                5,089,384
                                
                                
                                $
                                5,089,384Production
      equipment
                                
                                
                                7,050,025
                                
                                
                                
                                7,025,291Furniture,
      fixture and office equipment
                                
                                
                                273,482
                                
                                
                                
                                270,661Motor
      vehicles
                                
                                
                                445,879
                                
                                
                                
                                409,396Construction
      in progress
                                
                                
                                3,051,360
                                
                                
                                
                                3,051,360Total
                                
                                
                                15,910,130
                                
                                
                                
                                15,846,092Less
      accumulated depreciation
                                
                                
                                (4,177,512
                                )
                                
                                
                                (3,845,405
                                )Buildings
      and equipment, net
                                
                                $
                                11,732,618
                                
                                
                                $
                                12,000,687





A
majority of the construction in progress represents the costs incurred in
connection with the construction of equipment for manufacturing
aflatonix-detoxifizyme “rADTZ”.  Management expects the equipment will
be completed in 2010 and has outstanding commitments of approximately $762,000
as of March 31, 2010.





In
November 2009, the Company entered into a construction design contract for
expansion of LifeTech.  The Company made a prepayment of
$1.1million.  Refer to Note 6 for further discussion.





Depreciation
expense amounted to $331,992 and $216,175 for the three months ended March 31,
2010 and 2009, respectively.





Note
6 – Long Term Prepayments





Long term
prepayments consist of the following:




March 31, 2010
                          
                          
                          December 31, 2009(Unaudited)Prepayment
      for exclusive distribution rights
                          
                          $
                          880,200
                          
                          
                          $
                          880,200Advances
      to suppliers
                          
                          
                          1,276,272
                          
                          
                          
                          1,276,272Long
      term deferred expense
                          
                          
                          53,362
                          
                          
                          
                          71,150Deposit
      for exclusive distribution rights
                          
                          
                          2,225,140
                          
                          
                          
                          2,225,140Deposit
      for technology know-how
                          
                          
                          2,347,200
                          
                          
                          
                          2,347,200Deposit
      for construction design project
                          
                          
                          1,131,057
                          
                          
                          
                          1,100,250Total
      long term prepayment
                          
                          $
                          7,913,231
                          
                          
                          $
                          7,900,212


18


In 2008,
the Company entered into two separate contracts to acquire distribution rights
to a multivitamin pack and manufacturing of the multivitamin pack and to
self-develop various types of herbal tea.  The Company prepaid
$880,200 for ten years of exclusive distribution rights, which will begin to be
amortized once the products are ready for commercial sale. The total contractual
term of the exclusive distribution rights is 15 years.  As of March
31, 2010, the Company was in the process of applying for government
approval.  The Company also advanced the bio-technological company
approximately $1.47 million of payment for future inventory purchase, of which
approximately $1.28 million was included in advances to suppliers – long term as
of March 31, 2010 and December 31, 2009.





Long term
deferred expense represents prepayment for the research and development of
rADTZ.  The decrease was due to amortization over the term of the
contract.





As of
March 31, 2010 and December 31, 2009, the Company had made long term deposits in
the aggregate of $2,225,140 and $2,225,140, respectively to secure its
position to purchase national exclusive distribution rights for various
products. Deposits are refundable upon the termination or signing of the
contracts.





In
November 2009, the Company entered into a construction design contract for
expansion of LifeTech.  The Company made a prepayment of $1.1
million related to designing the plant.  As of March 31, 2010,
the design had not yet commenced.  The Company, however, expects the
project to be completed by the end of 2010.





Note
7 – Intangible Assets





Intangible
assets consisted of the following:





March 31, 2010
                          
                          
                          December 31, 2009(Unaudited)Land
      use rights
                          
                          $
                          11,877,954
                          
                          
                          $
                          11,877,954Patents
                          
                          
                          5,063,202
                          
                          
                          
                          5,063,202Total
                          
                          
                          16,941,156
                          
                          
                          
                          16,941,156Less:
      accumulated amortization
                          
                          
                          (389,582
                          )
                          
                          
                          (259,302
                          )Intangible
      assets, net
                          
                          $
                          16,551,574
                          
                          
                          $
                          16,681,854





Amortization
expense amounted to approximately $130,237 and $20 for the three months ended
March 31, 2010 and 2009, respectively.  As of March 31, 2010, the
future amortization for each of the years ending December 31, are as
follows:





2010
                          
                          
                          2011
                          
                          
                          2012
                          
                          
                          2013
                          
                          
                          2014
                          
                          ThereafterAmortization
      expense
                          
                          $
                          488,559
                          
                          
                          $
                          651,412
                          
                          
                          $
                          651,412
                          
                          
                          $
                          651,412
                          
                          
                          $
                          651,412
                          
                          $
                          13,457,365


19


Note
8 – Short-Term Loans





Short
term loans represent amounts due to various banks and are normally due within
one year.  The loan principal is due at maturity and can be renewed
with the banks.  The short-term loans consisted of the
following:





March 31,
      2010
                            
                            
                            December
      31, 2009(Unaudited)Two
      loans with Industrial and Commercial Bank due on August 13, 2010 with an
      annual interest rate of 5.31%, secured by the Company's properties
      (a)
                            
                            $
                            5,838,660
                            
                            
                            $
                            5,838,660One
      loan with Bank of China, due on December 1, 2010 with an annual interest
      rate of 5.31%, guaranteed and secured by Co-Win and the Company’s officers
      (b)
                            
                            
                            3,667,500
                            
                            
                            
                            3,667,500One
      loan with Bank of China due on July 4, 2010 with an annual interest rate
      of 4.37%, secured by $2.5M of cash (c)
                            
                            
                            1,907,100
                            
                            
                            
                            -Total
      – bank loans
                            
                            $
                            11,413,260
                            
                            
                            $
                            9,506,160





(a)
            Both
      loans were paid off on April 2,
2010.


(b)
            The
      Chinese government refunded a partial amount of interest paid by the
      Company as grants. For the three months ended March 31, 2010, the Company
      received refunds of $6,049 and was recognized as a reduction of interest
      expense. The effective interest rate of this loan was 4.63% for the three
      months ended March 31, 2010.


(c)
            Due
      to the currency exchange limitation imposed by the PRC government, the
      Company pledged $2.5 million funds available from the Stock
      Subscription Agreement to obtain the loan for working capital
      purpose.  The $2.5 million is classified as restricted
      cash.





For the
three months ended March 31, 2010 and 2009, total interest incurred amounted to
$94,213 and $0, respectively.





Note
9 - Taxes





The
United States of America





The
Company and its subsidiaries file separate income tax returns.  The
Company is incorporated in the U.S., and is subject to a gradual U.S. federal
corporate income tax of 15% to 35% if the Company has taxable
income.





PRC





The
Company conducts all its operating business through its operating subsidiaries
in China. The operating subsidiaries are governed by the income tax laws of the
PRC and do not have any deferred tax assets or deferred tax liabilities under
the income tax laws of the PRC because there are no temporary differences
between financial statement carrying amounts and the tax bases of existing
assets and liabilities.





The
Company’s subsidiaries are governed by the Income Tax Law of the People’s
Republic of China (PRC) concerning Foreign Investment Enterprises and Foreign
Enterprises and various local income tax laws (the Income Tax Laws). Beginning
January 1, 2008, the new Chinese Enterprise Income Tax (“EIT”) law replaced the
existing laws for Domestic Enterprises (“DES”) and Foreign Invested Enterprises
(“FIEs”).


20


The key
changes are:





a.
            The
      new standard EIT rate of 25% replaced the 33% rate currently applicable to
      both DES and FIEs, except for High Tech companies who pay a reduced rate
      of 15%;





b.
            Companies
      established before March 16, 2007 will continue to enjoy tax holiday
      treatment approved by local government for a grace period of either the
      next 5 years or until the tax holiday term is completed, whichever is
      sooner. These companies will pay the standard tax rate as defined in point
      “a” above when the grace period
expires.





The
Company and its subsidiaries were established before March 16, 2007 and
therefore are qualified to continue enjoying the reduced tax rate as described
above.





Under the
Income Tax Laws of PRC, the Company is generally subject to income tax at an
effective rate of 33% (30% state income taxes plus 3% local income taxes) on
income reported in the statutory financial statements after appropriate tax
adjustments, unless the enterprise is located in a specially designated region
where it allows foreign enterprises a two-year income tax exemption and a 50%
income tax reduction for the following three years.





All of
the Company’s subsidiaries except for Konzern US Holding are located and doing
business in China.  Konzern was approved as a foreign joint-venture
enterprise in 2004 and as a wholly-owned foreign enterprise in
2006.  All of the subsidiaries except for LifeTech were subject to an
effective tax rate of 25% for the periods ended as of March 31, 2010 and
2009.





LifeTech
was approved as a wholly owned foreign enterprise in 2006 and was established
before March 16, 2007 and therefore was qualified to continue enjoying the
reduced tax rate as described above.  The exemption commences from the
first profitable year.  LifeTech became profitable in 2007; thus,
LifeTech was exempt from corporate income tax for the years ended December 31,
2008 and 2007 and is entitled to a 50% reduction of the income tax rate of 25%
(or a rate of 12.5%) from 2009 through 2011.





There was
no tax savings for the three months ended March 31, 2010 and 2009. The provision
for income taxes consisted of the following:





For
      the three months ended March 31,2010
                        
                        2009(Unaudited)Provision
      for China income tax
                        
                        $
                        512,955
                        
                        
                        $
                        545,486Provision
      for local tax
                        
                        
                        -Tax
      provision - PRC
                        
                        $
                        512,955
                        
                        
                        $
                        545,486


21


The
following table reconciles the U.S. statutory rates to the Company's effective
tax rate for the three months ended March 31:


For the three
      months ended
                    March 31,2010
                  
                  
                  2009(Unaudited)U.S.
      statutory rates
                  
                  
                  34.0
                  %
                  
                  
                  34.0
                  %Foreign
      income not recognized
                  
                  
                  (34.0
                  )
                  
                  
                  (34.0
                  )China
      tax rates
                  
                  
                  25.0
                  
                  
                  
                  25.0China
      income tax exemption
                  
                  
                  -
                  
                  
                  
                  -Other
                  
                  
                  (2.1
                  )
                  
                  
                  28.8Effective
      income tax rates
                  
                  
                  22.9
                  %
                  
                  
                  53.8
                  %





The other
represents losses from non-Chinese entities which are not
deductible.  After adjusting these losses, the Company’s effective
rate was equivalent to the effective rate in China for both quarters. Certain
non-cash transactions, such as change in fair value of warrant liabilities,
attributed to higher effective income tax rate.





Taxes
payable consisted of the following:


March 31, 2010
                      
                      
                      December 31, 2009(Unaudited)Income
      taxes payable
                      
                      $
                      947,612
                      
                      
                      $
                      664,248Value
      added tax
                      
                      
                      1,111,598
                      
                      
                      
                      1,451,693Other
      taxes
                      
                      
                      31,019
                      
                      
                      
                      3,804Total
                      
                      $
                      2,090,229
                      
                      
                      $
                      2,119,745





The
Company was incorporated in the United States and has incurred net operating
losses for income tax purposes for the three months ended March 31, 2010 and
2009, respectively. The estimated net operating loss carry forwards for United
States income taxes amounted to approximately $3,928,169 and $3,532,086 as of
March 31, 2010 and December 31, 2009, respectively, which may be available to
reduce future years’ taxable income. These carry forwards will expire, if not
utilized, through 2029. Management believes that the realization of the benefits
from these losses appears uncertain due to the Company’s limited operating
history and continuing losses for United States income tax
purposes.




The
Company has cumulative undistributed earnings of foreign subsidiaries of
approximately $36.3 million as of March 31, 2010, which was included in
consolidated retained earnings and will continue to be indefinitely reinvested
in international operations.  Accordingly, no provision has been made for
U.S. deferred taxes related to future repatriation of these earnings, nor is it
practicable to estimate the amount of income taxes that would have to be
provided if we concluded that such earnings will be remitted in the
future.





Note
10 - Retirement Benefit Plans





Regulations
in the PRC require the Company to contribute to a defined contribution
retirement plan for all permanent employees. The contribution is based on a
percentage required by the local government and the employees' current
compensation. The Company contributed $48,899 and $18,749 for the three months
ended March 31, 2010 and 2009, respectively.


22


Note
11 - Commitments and Contingencies





In 2008,
the Company entered into agreements to acquire distribution rights to a
multivitamin pack and manufacturing of the multivitamin pack and to self-develop
various types of herbal tea.  The total contractual term of the
exclusive distribution rights is 15 years.  The Company prepaid
$880,200 for ten years of exclusive distribution rights, with the remaining
$440,000 to be fulfilled starting in 2019.





The
Company leases its facilities under short-term and long-term, non-cancelable
operating lease agreements expiring through November 2013. The non-cancelable
operating lease agreement states for various lease periods that the Company pays
certain monthly operating expenses applicable to the leased
premises.




The
future minimum annual lease payments required are as follows:





For
      the year ended December 31,
                    
                    Amount2010
                    
                    $
                    126,7302011
                    
                    
                    81,7102012
                    
                    
                    10,0582013
                    
                    
                    1,259Thereafter
                    
                    
                    -Total
                    
                    $
                    219,757




For the
three months ended March 31, 2010 and 2009, total rental expense amounted to
$43,089 and $33,449, respectively.





Note
12 - Statutory Reserves





The laws
and regulations of the People’s Republic of China require that before an
enterprise distributes profits to its partners, it must first satisfy all tax
liabilities, provide for losses in previous years, and make allocations, in
proportions determined at the discretion of the board of directors, after the
statutory reserve. The statutory reserves include the surplus reserve fund and
the enterprise fund and represents restricted retained earnings.





Surplus Reserve
Fund





The
Company is required to transfer 10% of its net income, as determined in
accordance with the PRC accounting rules and regulations, to a statutory surplus
reserve fund until such reserve balance reaches 50% of the Company’s registered
capital.





The
transfer to this reserve must be made before distribution of any dividend to
shareholders.  The surplus reserve fund is non-distributable other
than during liquidation. It can be used to fund previous years’ losses, if any,
and may be utilized for business expansion or converted into share capital by
issuing new shares to existing shareholders in proportion to their shareholding
or by increasing the par value of the shares currently held by them, in each
case provided that the remaining reserve balance after such issue is not less
than 25% of the registered capital.





All of
the PRC subsidiaries are subject to the statutory surplus
reserve.  The Company’s total registered capital approximated to $45.1
million (RMB 323.4 million).  As of March 31, 2010, Konzern and
LifeTech had appropriated $4.3 million and $79,000, respectively, as allocations
to the statutory surplus reserve. Other subsidiaries were still in the
development stage and had not appropriated contribution to the statutory surplus
reserve.  As of March 31, 2010, the Company needs to contribute an
additional $17.1 million from future earnings to statutory
reserve.


23


Enterprise
Fund





The
enterprise fund may be used to acquire plant and equipment or to increase the
working capital to expend on production and operation of the business. No
minimum contribution is required and the Company did not make any contribution
to this fund for the three months ended March 31, 2010 and 2009,
respectively.





Note
13- Shareholders’ Equity





Preferred
Stock




On
December 31, 2009, the Company entered into a Stock Subscription Agreement for
an equity private placement (the "Subscription Agreement") with an accredited
investor. This agreement became effective on January 29,
2010.  According to the Subscription Agreement, the investor purchased
4,000,000 shares of the Company's common stock at $3.00 per share and
1,920,000 shares of the Company's redeemable convertible preferred stock at
$30.00 per share, for an aggregate purchase price of $69.6 million, of which
$57.6 million is required to be placed in escrow. Each redeemable convertible
preferred share is initially convertible into ten common shares.





Stock
Options




In
January 2006, the Company created the 2006 Long-Term Incentive Plan. This
plan authorized the issuance of 1,575,000 shares of the Company’s common
stock.  All grants have been at prices which approximate the fair
market value of the Company’s common stock at the date of grant.  The
contractual term is generally 5 years.





On June
2, 2009, the Company granted a total of 15,000 stock options to three of its
independent directors. The options become exercisable for 7,500 shares of common
stock six months from the grant date and the remaining 7,500 options, eighteen
months from the grant date.  The grant date fair value was $1.41 per
share.





On August
25, 2009, the Company granted 240,000 shares of stock options to the Company’s
CFO. The options become exercisable for 60,000 shares of common stock one year
from the grant date, and the remaining 180,000 options will become exercisable
on the second anniversary of the grant date at a rate of 15,000 shares per
quarter. The grant date fair value was $1.10 per share. The CFO resigned in
December 2009; all 240,000 options were forfeited in accordance with the
employment agreement.





As of
March 31, 2010, there were not grants.  The fair value of the options
was estimated on the date of grant using a Black-Scholes Option Pricing model
using the following assumptions:





December31,
      2009Annual
      dividend yield
                  
                  
                  -Expected
      life (years)
                  
                  
                  4.00
      - 5.00Risk-free
      interest rate
                  
                  
                  1.52%
      - 2.02
                  %Expected
      volatility
                  
                  
                  88.0%
      - 90.0
                  %


24


The
Company expensed $2,914 and $1,249 related to the stock options and warrants for
the three months ended March 31, 2010 and 2009, respectively.





Summary of option
activity:


Outstanding
                  Options
                
                
                Weighted
                  Average
                  Exercise
                  Price
                
                
                Average
                  Remaining
                  Contractual
                  Term
                  (Year)
                
                
                Exercisable
                  Options
                
                
                Weighted
                  Average
                  Exercise
                  Price
                
                
                Intrinsic Value12/31/2008
                
                
                380,000
                
                
                $
                1.35
                
                
                
                
                
                
                372,500
                
                
                $
                1.34
                
                
                $
                -Granted
                
                
                255,000
                
                
                
                1.67
                
                
                
                
                
                
                15,000
                
                
                
                1.81Exercised
                
                
                (40,000
                )
                
                
                1.25
                
                
                
                
                
                
                (40,000
                )
                
                
                1.25
                
                
                
                29,825Forfeited
                
                
                (240,000
                )
                
                
                1.70
                
                
                
                
                
                
                -
                
                
                
                -
                
                
                
                -12/31/2009
                
                
                355,000
                
                
                
                1.39
                
                
                
                
                
                
                347,500
                
                
                
                1.38
                
                
                
                1,033,100Granted
                
                
                -
                
                
                
                -
                
                
                
                
                
                
                -
                
                
                
                -
                
                
                
                -Exercised
                
                
                -
                
                
                
                -
                
                
                
                
                
                
                
                
                
                
                -
                
                
                
                -Forfeited
                
                
                -
                
                
                
                -
                
                
                
                
                
                
                -
                
                
                
                -
                
                
                
                -3/31/2010
      (unaudited)
                
                
                355,000
                
                
                $
                1.39
                
                
                
                1.55
                
                
                
                347,500
                
                
                $
                1.38
                
                
                $
                727,800Exercisable
      at 3/31/2010
                
                
                
                
                
                
                
                
                
                $
                1.49
                
                
                
                
                
                
                
                
                
                
                $
                717,375





Warrants





Contemporaneously
with the reverse acquisition, the Company entered into a Preferred Stock
Purchase Agreement (“PSPA”), dated February 8, 2006, with Barron Partners L.P.,
Ray and Amy Rivers, JTROS, Steve Mazur and William Denkin pursuant to which the
Company issued and sold 3,120,000 shares of its Series A convertible preferred
stock, a newly-created series of preferred stock, and warrants to purchase
3,694,738 shares of common stock at $1.75 per share and 3,694,738 shares of
common stock at $2.50 per share.  On April 23, 2007, the Company and
the holders of the warrants executed a Waiver and Agreement that reduced the
conversion price for the preferred stock and the exercise price of the warrants
by 3% from the original conversion amounts.  The warrants have a term
of five years and are exercisable by the holder at any time within the
term.





Effective
January 1, 2009, the Company adopted the provisions of an accounting
standard regarding whether an instrument (or embedded feature) is indexed to an
entity’s own stock.  This accounting standard specifies that a
contract that would otherwise meet the definition of a derivative but is both
(a) indexed to the Company’s own stock and (b) classified in stockholders’
equity in the statement of financial position would not be considered a
derivative financial instrument.  It provides a new two-step model to
be applied in determining whether a financial instrument or an embedded feature
is indexed to an issuer’s own stock and thus able to qualify for the scope
exception within the standards.


25





As a
result of adoption, 3,348,686 warrants previously treated as equity pursuant to
the derivative treatment exemption are no longer afforded equity treatment
because the strike price of the warrants is denominated in US dollars, a
currency other than the Company’s functional currency, the Chinese
Renminbi.  As a result, the warrants are not considered indexed to the
Company’s own stock, and as such, all future changes in the fair value of these
warrants will be recognized currently in earnings until such time as the
warrants are exercised or expire.





These
common stock purchase warrants do not trade in an active securities market, and
as such, we estimate the fair value of these warrants using the Black-Scholes
Option Pricing Model using the following assumptions:





March 31,2010
                            
                            December31,2009(Unaudited)Annual
      dividend yield
                            
                            
                            -
                            
                            -Expected
      life (years)
                            
                            
                            0.86
                            
                            1.10Risk-free
      interest rate
                            
                            
                            0.41
                            %
                            0.54
                            %Expected
      volatility
                            
                            
                            78
                            %
                            95
                            %





Expected
volatility is based on historical volatility. Historical volatility was computed
using daily pricing observations for recent periods that correspond to the term
of the warrants. We believe this method produces an estimate that is
representative of our expectations of future volatility over the expected term
of these warrants. We have no reason to believe future volatility over the
expected remaining life of these warrants is likely to differ materially from
historical volatility. The expected life is based on the remaining term of the
warrants. The risk-free interest rate is based on U.S. Treasury securities
according to the remaining term of the warrants.





For the
three months ended on March 31, 2010, several investors performed cash exercise
of 440,475 Series B warrant shares, which were paid to
$1,070,354.  The Company valued the conversion on the exercise date
and recorded an aggregate of $37,482 income from changes in the fair value of
warrants.





For the
three months ended on March 31, 2010, several investors performed cashless
exercise of 1,026,474 Series B warrant shares, which were converted to 486,179
shares of common stock.  The Company valued the conversion on the
exercise date and recorded an aggregate of $299,485 losses from changes in the
fair value of warrants.





For the
three months ended on March 31, 2010, a vendor performed a cashless exercise of
70,000 Series C warrant shares, which were converted to 53,380 shares of common
stock.





Summary of
warrant activity:




Outstanding
                  
                  
                  Weighted
                    Average
                    Exercise
                    Price
                  
                  
                  Average
                    Remaining
                    Contractual
                    Term (Years)December
      31, 2008
                  
                  
                  3,418,686
                  
                  
                  $
                  2.35
                  
                  
                  
                  2.17Granted
                  
                  
                  70,000Exercised
                  
                  
                  (485,422
                  )Forfeited
                  
                  
                  -December
      31, 2009
                  
                  
                  3,003,264
                  
                  
                  $
                  2.38
                  
                  
                  
                  1.15Granted
                  
                  
                  -Exercised
                  
                  
                  (1,536,949
                  )Forfeited
                  
                  
                  -March
      31, 2010 (Unaudited)
                  
                  
                  1,466,315
                  
                  
                  $
                  2.41
                  
                  
                  
                  0.89




26




Note
14 – Earnings (Loss) Per Share





The
following is a reconciliation of the basic and diluted earnings per share
computations for the three months ended March 31:




For the three months ended
                    
                    2010
                    
                    
                    2009(Unaudited)
                    
                    
                    (Unaudited)Net
      income
                    
                    $
                    1,797,805
                    
                    
                    $
                    550,082Less:
      Deemed preferred stock dividend
                    
                    
                    (6,144,000
                    )
                    
                    
                    -Net
      income (loss) available to common shareholders
                    
                    $
                    (4,346,195
                    )
                    
                    $
                    550,082Shares
      of common stock and common stock equivalents:Weighted
      average shares used in basic computation
                    
                    
                    18,897,099
                    
                    
                    
                    15,226,742Diluted
      effect of stock options and warrants
                    
                    
                    -
                    
                    
                    
                    -Weighted
      average shares used in diluted computation
                    
                    
                    18,897,099
                    
                    
                    
                    15,226,742Earnings
      (loss) per share:Basic
      and Diluted
                    
                    $
                    (0.23
                    )
                    
                    $
                    0.04




The
computation of basic earnings (loss) per share excludes the conversion of
redeemable convertible preferred stock as the Company has net losses and
therefore the effect of applying the two-class method is anti-dilutive. The
computation of dilutive shares outstanding excludes the common equivalent shares
related to paid-in-kind dividends, conversion of the convertible preferred
stock, stock options and warrants as the Company had net losses and the effect
would be anti-dilutive.





For the
three months ended March 31, 2010, all options and warrants outstanding were
excluded from the earnings per share calculation due to net loss available to
common shareholders.  Therefore, there was no dilutive
effect.  For the three months ended March 31, 2009, 3,418,686 warrants
whose exercise price was between $1.70 to $2.43 and 365,000 options whose
exercise price was between $1.25 to $3.00 were excluded from the calculation
because of their anti-dilutive nature.





Note
15 – Business Combination





In 2009,
Konzern entered into an Equity Ownership Transfer Agreement with Sinoform
Limited (“Sinoform”) to acquire 100% of Sinoform’s equity interests in
LifeTech.  LifeTech was founded in 1992 and is a developer and
manufacturer of pharmaceutical products with a focus on vascular medicines,
anti-inflammatory medicines, women’s health and other general health traditional
Chinese medicines.  Concurrently, Konzern entered into a separate agreement
with Mcwalts Investment Holdings Limited (“Mcwalts”) to acquire 100% of Mcwalts
ownership in LifeTech Technology.  LifeTech and LifeTech Technology
were under common control and ownership of Mcwalts.  The two
acquisitions were considered as one acquisition and are referred to as the
“Acquisition” below.  Konzern gained control of LifeTech and LifeTech
Technology on October 26, 2009.




27




The
purchase price of the Acquisition included cash payments of approximately
$8.2 million (RMB 55,775,000). In connection with the acquisition, an
independent third party appraiser which is a certified public appraiser under
the laws of PRC was engaged by Konzern to perform an appraisal of certain of the
assets of entities to be acquired.  The assets evaluated included
fixed assets (equipment and buildings) and intangible assets (land-use rights
and patents). The appraiser conducted an on-site visit, inspected each item,
conducted market research and investigation, followed some asset evaluation
policies and regulations issued by the Chinese government, and provided an
evaluation report. The Company’s management also performed an internal
evaluation; taking into account of the PRC certified public appraiser’s
evaluation report, to determine the fair value of these assets reported in the
financial statements. Fair value of other assets acquired and liabilities
assumed approximated their book value.  Net assets acquired after the
fair value measurement exceeded the purchase
consideration.  Management reviewed the procedures and methodologies
used to measure the fair value of fixed assets and intangibles and determined to
reduce the excess to the value of intangible assets.





The
following table summarizes the net book value and the fair value of the assets
acquired and liabilities assumed at the date of acquisition:





Fair value
                
                
                Book valueCash
      and cash equivalent
                
                $
                165,945
                
                
                $
                165,945Other
      current assets
                
                
                2,271,310
                
                
                
                2,271,310Buildings
      and equipment
                
                
                5,778,383
                
                
                
                4,155,122Intangible
      assets
                
                
                15,278,544
                
                
                
                1,474,346Total
      assets
                
                
                23,494,182
                
                
                
                8,066,723Total
      liabilities
                
                
                (15,306,412
                )
                
                
                (15,306,412
                )Net
      Assets
                
                $
                8,187,770
                
                
                $
                (7,239,689
                )





For the
three months ended March 31, 2010, LifeTech and LifeTech Technology’s revenue
and net loss included in the Company’s consolidated income statement was
approximately $841,000 and ($273,000), respectively.





Pro
Forma





The
following unaudited pro forma condensed income statement for the three months
ended March 31, 2010 and 2009 were prepared under generally accepted accounting
principles, as if the acquisition of LifeTech and Technology had occurred the
first day of the respective periods. The pro forma information may not be
indicative of the results that actually would have occurred if the acquisition
had been in effect from and on the date indicated.




28




2010
                      
                      
                      2009For
      the three months ended March 31,
                      
                      (Unaudited)
                      
                      
                      (Unaudited)Sales
                      
                      $
                      10,572,289
                      
                      
                      $
                      11,122,545Cost of sales
                      
                      
                      7,324,901
                      
                      
                      
                      7,854,790Gross profits
                      
                      
                      3,247,388
                      
                      
                      
                      3,267,755Operating
      expenses
                      
                      
                      2,001,060
                      
                      
                      
                      1,394,934Income
      from operations
                      
                      $
                      1,246,328
                      
                      
                      $
                      1,872,821Other Income
      (expense) net
                      
                      
                      988,991
                      
                      
                      
                      (1,072,835
                      )Income
      tax
                      
                      
                      (512,955
                      )
                      
                      
                      (545,486
                      )Net
      income before noncontrolling interest
                      
                      $
                      1,722,364
                      
                      
                      $
                      254,500Net
      income attributable to controlling interest
                      
                      $
                      1,797,805
                      
                      
                      $
                      335,640




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




FORWARD-LOOKING
INFORMATION - Management's Discussion and Analysis of Financial Condition and
Results of Operations ("MD&A") includes "forward-looking statements". All
statements, other than statements of historical facts, included in this report
regarding the Company's financial position, business strategy and plans and
objectives of management of the Company for future operations are
forward-looking statements. These forward-looking statements rely on a number of
assumptions concerning future events and are subject to a number of
uncertainties and other factors, many of which are outside of the Company's
control, which could cause actual results to materially differ from such
statements. While the Company believes that the assumptions concerning future
events are reasonable, it cautions that there are inherent difficulties in
predicting certain important factors, especially, the prospects for future
acquisitions; the possibility that a current customer could be acquired or
otherwise be affected by a future event that would diminish their medicine
products requirements; the competition in the medical product market and
governmental price policy on medical products and the impact of such factors on
pricing, revenues and margins; and the cost of attracting and retaining highly
skilled personnel.





The following discussion and
analysis of our financial condition and results of operations should be read in
conjunction with the financial statements and accompanying notes and the other
financial information appearing in Part I, Item 1 and elsewhere in this
report, and the
financial statements and notes in the Company’s Annual Report on Form 10-K for
the year ended December 31, 2009.





Overview





China
Medicine Corporation (“we,” “us” or the “Company”), operating through Guangzhou
Konzern Medicine Co., Ltd. (“Konzern”), our wholly owned subsidiary organized
under the laws of the People’s Republic of China (the “PRC” or “China”), is a
distributor of approximately 2,100 pharmaceutical products in
China. Through Guangzhou LifeTech Pharmaceutical Co., Ltd (“LifeTech”), a
wholly owned subsidiary of the Company, we are a manufacturer of Traditional
Chinese Medicines and lyophilized powder of injection in China. Through
Guangzhou Co-Win Bioengineering Co., Ltd., a 70%-owned subsidiary of Konzern
organized under the laws of PRC, the Company is a developer and manufacturer of
Aflatoxin Detoxifizyme (“rADTZ”).




29




Our
revenues are derived from three sources: the resale of pharmaceutical products
and medicine devices purchased from suppliers (“distribution products”); the
manufacture, distribution and sale of the Company’s products under its own brand
names (“proprietary products”) and the royalty or consulting income derived
from customers for research and development of new or improved drug formulas and
production techniques (“medical technology”).





Our
distribution products include prescription and over-the-counter drugs, Chinese
herbs, Traditional Chinese Medicines made from Chinese herbs, nutritional
supplements, dietary supplements and medical instruments. The most significant
of our distribution products is Iopamidol Injection, a prescription medicine
that is used for angiography and CT scanning.





Our
proprietary products consist primarily of products acquired through our
acquisition of LifeTech. The most significant products include Shuangdan
Capsules, a prescription Traditional Chinese Medicine that is used for the
treatment of thoracic obstruction and cardialgia, and Hoerhuan Capsules, a
prescription Traditional Chinese Medicine that is used to treat upper
respiratory infection, acute laryngopharyngitis, acute tonsillitis and acute
enterogastritis.





Our
medical technology revenues typically consist of sales of technologies that are
either self-developed or initially acquired in an undeveloped state from other
companies and that are then sold to drug manufacturers after we have made
improvements to the technologies.





Following
the completion of the LifeTech acquisition in December 2009, we have
transitioned from being a pharmaceutical distributor to a being
vertically-integrated pharmaceutical enterprise that combines nationwide
pharmaceutical distribution with significant research and development and
manufacturing capabilities. The addition of LifeTech’s product portfolio
has enabled us to expand our portfolio of proprietary products, which typically
have higher gross margins than our distribution products. As we continue to
reposition and integrate LifeTech into our operations, we expect significant
gross margin improvement through the increased sale of proprietary products. We
also expect further gross margin improvement by strategically focusing more on
the sale of products with exclusive national and regional exclusive distribution
rights and reducing our sales of lower margin generic distribution
products.





During
the three months ended March 31, 2010, our revenues were up approximately 4.7%
as compared to the corresponding period in the prior year. Our revenues during
the period in review were affected by (i) the aforementioned strategic reduction
in the sale of generic distribution products; (ii) the limited production
capacity of LifeTech; (iii) the re-positioning of LifeTech’s products in the
market in terms of pricing and marketing strategy and (iv) the final integration
of LifeTech with existing businesses.  In an effort to alleviate our
manufacturing capacity constraints, the board of directors has approved the
capacity expansion of LifeTech’s manufacturing facilities and construction is
expected to be completed in the first half of 2011.




30




Results
of Operations





The
following table sets forth our statements of operations for the three months
ended March 31, 2010 and 2009, in U.S. dollars:





Three Months Ended March 31,2010
                                  
                                  
                                  2009Revenues
                                  
                                  $
                                  10,572,289
                                  
                                  
                                  $
                                  10,098,390Cost
      of revenues
                                  
                                  
                                  7,324,901
                                  
                                  
                                  
                                  7,318,762Gross
      profit
                                  
                                  
                                  3,247,388
                                  
                                  
                                  
                                  2,779,628Research
      and development
                                  
                                  
                                  364,407
                                  
                                  
                                  
                                  330,742Selling,
      general and administrative
                                  
                                  
                                  1,636,653
                                  
                                  
                                  
                                  681,322Income
      from operations
                                  
                                  
                                  1,246,328
                                  
                                  
                                  
                                  1,767,564Other
      income (expense), net
                                  
                                  
                                  (120,703
                                  )
                                  
                                  
                                  5,553Change
      in fair value of warrant liabilities
                                  
                                  
                                  1,109,694
                                  
                                  
                                  
                                  (758,689
                                  )Income
      before income taxes and noncontrolling interests
                                  
                                  
                                  2,235,319
                                  
                                  
                                  
                                  1,014,428Provision
      for income taxes
                                  
                                  
                                  512,955
                                  
                                  
                                  
                                  545,486Net
      income ( China Medicine Corporation and noncontrolling
      interests)
                                  
                                  
                                  1,722,364
                                  
                                  
                                  
                                  468,942Add:
      Net loss attributable to noncontrolling interests
                                  
                                  
                                  75,441
                                  
                                  
                                  
                                  81,140Net
      income
                                  
                                  
                                  1,797,805
                                  
                                  
                                  
                                  550,082Other
      comprehensive income (loss)Foreign
      currency translation adjustment
                                  
                                  
                                  5,343
                                  
                                  
                                  
                                  (58,708
                                  )Foreign
      currency translation attributable to noncontrolling
    interests
                                  
                                  
                                  (26
                                  )
                                  
                                  
                                  (1,133
                                  )Comprehensive
      income
                                  
                                  
                                  1,803,122
                                  
                                  
                                  
                                  490,241Less:
      Deemed preferred stock dividend
                                  
                                  
                                  (6,144,000
                                  )Net
      loss available to China Medicine Corporation common
      shareholders
                                  
                                  
                                  (4,346,195
                                  )
                                  
                                  
                                  550,082





THE
THREE MONTHS ENDED MARCH 31, 2010 COMPARED TO THE THREE MONTHS ENDED MARCH 31,
2009





Revenues




Total
revenues for the three months ended March 31, 2010 was $10,572,289, an increase
of $473,899, or 4.7%, from total revenues of $10,098,390 for the three months
ended March 31, 2009.





Our
revenues are derived from the sale of distribution products, proprietary
products and medical technology. The following table sets forth the revenues and
percentage of revenues derived from each of these types of
products.


Three Months Ended March 31,2010
                        
                        
                        2009
                        
                        
                        $ Increase
                        
                        
                        % IncreaseDistribution
      products
                        
                        $
                        9,554,508
                        
                        
                        $
                        9,646,423
                        
                        
                        $
                        (91,915
                        )
                        
                        
                        (1.0
                        )%Proprietary
      products
                        
                        
                        868,110
                        
                        
                        
                        451,967
                        
                        
                        
                        416,143
                        
                        
                        
                        92.1
                        %Medical
      technology
                        
                        
                        149,671
                        
                        
                        
                        
                        
                        
                        
                        149,671
                        
                        
                        
                        100.0
                        %$
                        10,572,289
                        
                        
                        $
                        10,098,390
                        
                        
                        $
                        473,899
                        
                        
                        
                        4.7
                        %




Distribution
products. Distribution products revenues for the three months ended March
31, 2010 were $9,554,508, a decrease of $91,915, or 1.0%, from total revenues of
$9,646,423 for the three months ended March 31, 2009. The small decrease was
primarily due to the change of the distribution products portfolio, in which the
percentage of the low profit margin products was decreased. The most significant
of these products is Iopamidol Injection, a prescription medicine that is used
for angiography and CT scanning. For the three months ended March 31, 2010 and
2009, our total revenues from sale of this product amounted to $2,766,609 and
$1,687,933, respectively, which were 26.2% and 16.7% of our total revenues,
respectively. Our top 5 distribution products generated revenues of $5,369,360
or 50.8% of our total revenues.




31




Our
distribution products revenues can be further categorized as
follows:





Three
      Months Ended March 31,2010
                  
                  
                  2009Western
      prescription products
                  
                  $
                  7,655,391
                  
                  
                  
                  80.1
                  %
                  
                  $
                  4,924,174
                  
                  
                  
                  51.0
                  %Western
      Over-the-Counter products
                  
                  
                  360,212
                  
                  
                  
                  3.8
                  %
                  
                  
                  362,934
                  
                  
                  
                  3.8
                  %TCM
      prescription products
                  
                  
                  1,037,262
                  
                  
                  
                  10.9
                  %
                  
                  
                  2,460,364
                  
                  
                  
                  25.5
                  %TCM
      Over-the-Counter products
                  
                  
                  166,002
                  
                  
                  
                  1.7
                  %
                  
                  
                  1,800,967
                  
                  
                  
                  18.7
                  %Other
      products
                  
                  
                  335,641
                  
                  
                  
                  3.5
                  %
                  
                  
                  97,984
                  
                  
                  
                  1.0
                  %Total
      distribution products
                  
                  $
                  9,554,508
                  
                  
                  
                  100.0
                  %
                  
                  $
                  9,646,423
                  
                  
                  
                  100.0
                  %





Proprietary products.
Proprietary products revenues for the three months ended March 31, 2010 were
$868,110, an increase of $416,143, or 92.1%, from total revenues of $451,967 for
the three months ended March 31, 2009. The increase was primarily due to the
additional revenues from LifeTech’s products, and there was no comparable
revenues in the corresponding period in prior year.





Medical technology.
Medical technology revenues for the three months ended March 31, 2010 were
$149,671, and there was no revenues for the three months ended March 31, 2009.
The cost of developing medical technology was expensed when incurred. Therefore,
no direct cost related to such sale.




32




Cost
of Revenues and Gross Profit


Three
      Months Ended March 31,2010
                  
                  
                  2009
                  
                  
                  $
      Increase
                  
                  
                  %
      IncreaseDistribution
      productsRevenues
                  
                  $
                  9,554,508
                  
                  
                  $
                  9,646,423
                  
                  
                  $
                  (91,915
                  )
                  
                  
                  (1.0
                  )%Cost
      of revenues
                  
                  
                  6,768,683
                  
                  
                  
                  7,017,428
                  
                  
                  
                  (248,745
                  )
                  
                  
                  (3.5
                  )%Gross
      profit
                  
                  $
                  2,785,825
                  
                  
                  $
                  2,628,995
                  
                  
                  $
                  156,830
                  
                  
                  
                  6.0
                  %Gross
      margin %
                  
                  
                  29.2
                  %
                  
                  
                  27.3
                  %Proprietary
      products and Medical technologyRevenues
                  
                  $
                  1,017,781
                  
                  
                  $
                  451,967
                  
                  
                  $
                  565,814
                  
                  
                  
                  125.2
                  %Cost
      of revenues
                  
                  
                  556,218
                  
                  
                  
                  301,334
                  
                  
                  
                  254,884
                  
                  
                  
                  84.6
                  %Gross
      profit
                  
                  $
                  461,563
                  
                  
                  $
                  150,633
                  
                  
                  $
                  310,930
                  
                  
                  
                  206.4
                  %Gross
      margin %
                  
                  
                  45.3
                  %
                  
                  
                  33.3
                  %,TotalRevenues
                  
                  $
                  10,572,289
                  
                  
                  $
                  10,098,390
                  
                  
                  $
                  473,899
                  
                  
                  
                  4.7
                  %Cost
      of revenues
                  
                  
                  7,324,901
                  
                  
                  
                  7,318,762
                  
                  
                  
                  6,139
                  
                  
                  
                  0.1
                  %Gross
      profit
                  
                  $
                  3,247,388
                  
                  
                  $
                  2,779,628
                  
                  
                  $
                  467,760
                  
                  
                  
                  16.8
                  %Gross
      margin %
                  
                  
                  30.7
                  %
                  
                  
                  27.5
                  %





Total
cost of revenues for the three months ended March 31, 2010 was $7,324,901, or
69.3% of total revenues, compared to $7,318,762, or 72.5% of total revenues in
the three months ended March 31, 2009.





Cost of
revenues for distribution products for the three months ended March 31, 2010 was
$6,768,683, or 64.0% of total revenues, compared to $7,017,428, or 69.5% of
total revenues in the three months ended March 31, 2009. This decrease was due
to the increase of the higher gross margin products.




Cost of
revenues for proprietary products and medical technology revenues for the three
months ended March 31, 2010 was $556,218, or 5.3% of total revenues, compared to
$301,334, or 3.0% of total revenues in the three months ended March 31,
2009.





Total
gross profit for the three months ended March 31, 2010 was $3,247,388, an
increase of $467,760, or 16.8%, from $2,779,628 for the three months ended March
31, 2009. Our gross margin for the three months ended March 31, 2010 was 30.7%,
as compared with 27.5% for the three months ended March 31, 2009.





Gross
profit for distribution revenues for the three months ended March 31, 2010 was
$2,785,825, an increase of $156,830, or 6.0%, from $2,628,995 for the three
months ended March 31, 2009. Our gross margin for the three months ended March
31, 2010 was 29.2%, as compared with 27.3% for the three months ended March 31,
2009. This increase was due to the increase of the higher gross margin
products.





Gross
profit for proprietary products and medical technology for the three months
ended March 31, 2010 was $461,563, an increase of $310,930, or 206.4%, from
$150,633 for the three months ended March 31, 2009. Our gross margin for the
three months ended March 31, 2010 was 45.3%, as compared with 33.3% for the
three months ended March 31, 2009. This increase was due to the revenues of the
medical technology, whose cost was expensed when incurred, and the higher gross
margin of LifeTech’s products.




33




Research
and Development Expenses





Research
and development expenses were $364,407 for the three months ended March 31,
2010, as compared with $330,742 for the three months ended March 31, 2009.  Research and
development expenses consisted primarily of the depreciation of $146,871 and
$145,862 of Co-Win, for the testing and technology optimization of rADTZ for the
three months ended March 31, 2010 and 2009 respectively.





Selling,
General and Administrative Expenses





Selling,
general and administrative expenses were $1,636,653 for the three months ended
March 31, 2010, an increase of $955,331 from $681,322 for the three months ended
March 31, 2009. The increase was mainly due to: (i) combined headcounts of
LifeTech upon acquisition and hiring of new officers, an increase of $182,428,
(ii) amortization and depreciation of LifeTech, an increase of $168,588,
especially revaluation upon acquisition, (iii) professional fee, an increase of
$141,881, and (iv) travel expenses for building up the new sales channel, an
increase of $120,678.





Other
(Expense) Income, net





Other
expense primarily consists of interest on the short-term loans, including
interest of $16,731 for Konzern’s loans and the interest of $77,482 for
LifeTech’s loans.





Due to
the change of the market price from $4.30 on December 31, 2009 to $3.44 on March
31, 2010, there was a fair value gain on warrant liabilities of $1,109,694 for
the three month ended March 31, 2010.





Income
Taxes





The
provision for income taxes was $512,955 for the three months ended March 31,
2010, compared with $545,486 for the three months ended March 31, 2009. The
income tax rate is 25% based on the tax law of PRC.





Net
Income Attributable to China Medicine Corporation





Net
income attributable to China Medicine Corporation for the three months ended
March 31, 2010 was $1,797,805, an increase of $1,247,723, or 226.8% from
$550,082 for the three months ended March 31, 2010. The increase was mainly due
to the change in the fair value of warrant liabilities.





Deemed
Preferred Stock Dividend





Pursuant
to the Stock Subscription Agreement (“Subscription Agreement”) dated on December
31, 2009 between the Company and OEP CHME Holdings, LLC (“OEP”), 1,920,000
shares of convertible preferred stock, which can be converted into 19,200,000
shares of common stock, were issued at the price of $30.00 per share on January
29, 2010, using the closing price of our common stock on January 29, 2010 of
$3.32. The beneficial conversion feature was accounted for at $6,144,000, being
treated as deemed preferred stock dividend in the income statement according to
the SAB No.98.




34




Net
Loss Available to Common Shareholders





After the
beneficial conversion feature was included, the net loss available to common
shareholders was $4,346,195.





We use
non-GAAP adjusted net earnings to measure the performance of our business
internally by excluding non-cash charges related to the warrants. We believe
that the non-GAAP adjusted financial measure allows us to focus on managing
business operating performance because the measure reflects our essential
operating activities and provides a consistent method of comparison to
historical periods. We believe that providing the non-GAAP measures that we use
internally is useful to investors for a number of reasons. The non-GAAP measure
provides a consistent basis for investors to understand our financial
performance in comparison to historical periods without variation of
non-recurring items and non-operating related charges.  In addition,
it allows investors to evaluate our performance using the same methodology and
information as that used by our management.  Non-GAAP measures are
subject to inherent limitations because they do not include all of the expenses
included under GAAP and because they involve the exercise of judgment regarding
which charges are excluded from the non-GAAP financial measure. However, we
compensate for these limitations by providing the relevant disclosure of the
items excluded.





The
following table provides a non-GAAP financial measure and a reconciliation of
that non-GAAP measure to the GAAP net income:





Three months EndedMarch 312010
                    
                    
                    2009Net
      Loss available to common shareholders
                    
                    $
                    (4,346,195
                    )
                    
                    $
                    550,082Deemed
      preferred stock dividend
                    
                    
                    6,144,000Change
      in fair value of warrant liabilities
                    
                    
                    (1,109,694
                    )
                    
                    
                    758,689Adjusted
      Net Income
                    
                    $
                    688,111
                    
                    
                    $
                    1,308,771Diluted
      EPS
                    
                    $
                    (0.23
                    )
                    
                    $
                    0.04Add
      back (Deduct):Deemed
      preferred stock dividend
                    
                    
                    0.33Change
      in fair value of warrant liabilities
                    
                    
                    (0.06
                    )
                    
                    
                    0.05Adjusted
      EPS
                    
                    $
                    0.04
                    
                    
                    $
                    0.09Diluted
      weighted average commons shares outstanding
                    
                    
                    18,897,099
                    
                    
                    
                    15,226,742





Excluding
these non-cash expenses, adjusted net income of the three months ended March 31,
2010 was approximately $0.69 million, or $0.04 per fully diluted share. Earnings
per share were calculated using a diluted weighted commons shares count of 18.9
million shares for the three months ended March 31, 2010 and 15.2 million shares
for the three months ended March 31, 2009.





Liquidity
and Capital Resources





As of
March 31, 2010, we had $72.9 million in cash and cash equivalents, which
included the restricted cash. We have historically funded our working capital
needs from operations, advance payments from customers, bank borrowings, and
capital from shareholders. Our working capital requirements are influenced by
the level of our operations, seasonal factors, the progress of our contract
execution, and the timing of accounts receivable collections.




35




Pursuant
to the Subscription Agreement, on January 29, 2010, the Company completed an
equity private placement with OEP, and issued to OEP 4,000,000 shares of the
Company's common stock at $3.00 per share and 1,920,000 shares of the Company's
redeemable convertible preferred stock at $30 per share, for an aggregate
purchase price of $69.6 million. Each share of redeemable convertible preferred
stock is initially convertible into 10 shares of common stock.





At the
closing, $57,600,000 of the proceeds was placed in an escrow account. In April
2010, $8,000,000 of the escrowed proceeds was released to strengthen the working
capital and fund LifeTech’s facility expansion plan.





Operating
Activities





Net cash
provided by operating activities was $1,428,701 for the three months ended March
31, 2010, an increase of $2,879,736 from net cash of $1,451,035 used in our
operations for the three months ended March 31, 2009. The increase in net cash
provided by operating activities was largely due to the increase in operating
income, the decrease in accounts receivable, and the increase in accounts
payable, trade.





As of
March 31, 2010, we had working capital of $84,301,325, an increase of
$68,457,018 or 432.1%, from $15,844,307 as of December 31, 2009. The increase
was mainly due to the cash and the restricted cash coming from the completed
placement under the Subscription Agreement with OEP.




The
following table sets forth the changes in certain balance sheet items, in U.S.
dollars and percentages, comparing March 31, 2010 and December 31,
2009.





Balance Sheet Caption
                  
                  Change in US dollars
                    12/31/09 to 3/31/10
                  
                  
                  Percentage Change
                    12/31/09 to 3/31/10Accounts receivable
                  
                  
                  (789,022
                  )
                  
                  
                  (3.5
                  )%Inventories
                  
                  
                  972,630
                  
                  
                  
                  35.6
                  %Advances
      to suppliers
                  
                  
                  1,124,348
                  
                  
                  
                  44.6
                  %Accounts
      payable, trade
                  
                  
                  1,330,534
                  
                  
                  
                  100.5
                  %Customer
      deposits
                  
                  
                  309,247
                  
                  
                  
                  64.0
                  %





The
changes in these balance sheet captions reflect the nature of the cash
requirements of our business. Comparing March 31, 2010 and December 31, 2009,
our inventories increased 35.6%.





In the
course of our business, we must make significant deposits with our suppliers
when we place orders. Our advances to suppliers increased 44.6% from December
31, 2009 to March 31, 2010. The increase was intended to obtain for the Company
better purchase prices from our suppliers. As of March 31, 2010, our advance
payments to our suppliers totaled approximately $3,642,744.





In
addition, our customer deposits increased 64.0% comparing March 31, 2010 and
December 31, 2009, which reflects our advantage of having LifeTech as a
manufacturer. We require our customers to pay a certain percentage of the sales
price as a deposit before we ship products to them, in the same way that Konzern
has to pay deposits to other manufacturers.




36




Investing
Activities





Net cash
used in investing activities was $77,032 during the three months ended March 31,
2010, an decrease of $521,503, from net cash $444,471 provided by investing
activities during the three months ended March 31, 2009.





Financing
Activities





Net cash
provided by financing activities was $9,257,236 during the three months ended
March 31, 2010.  Net cash provided by financing activities consisted
of $69,600,000 in gross proceeds from the issuance of common stock and
convertible preferred stock to OEP, $1,070,338 in proceeds from exercise of
warrants and options and $1,906,450 in loan proceeds, and was offset by payments
on private placement related expenses of $3,219,552 and an increase in
restricted cash of $60,100,000.





Critical
Accounting Policies and Estimates





Management's
discussion and analysis of its financial condition and results of operations are
based upon our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States.
Our financial statements reflect the selection and application of accounting
policies which require management to make significant estimates and judgments.
See note 2 to our consolidated financial statements, "Summary of Significant
Accounting Policies." Management bases its estimates on historical experience
and on various other assumptions that are believed to be reasonable under the
circumstances. Actual results may differ from these estimates under different
assumptions or conditions. We believe that the following reflect the more
critical accounting policies that currently affect our financial condition and
results of operations.





Revenues
Recognition





We
recognize revenues when all four of the following criteria are met: (1)
persuasive evidence has been received that an arrangement exists; (2) delivery
of the products and/or services has occurred; (3) the selling price is fixed or
determinable; and (4) collectibility is reasonably assured. We follow the
provisions of the SEC’s Staff Accounting Bulleting No. 104, which sets forth
guidelines for the timing of revenues recognition based upon factors such as
passage of title, installation, payments and customer acceptance. Any amounts
received prior to satisfying our revenues recognition criteria are recorded as
deferred revenues.




Sales
revenues represent the invoiced value of goods, net of a value-added tax (VAT).
All of the Company’s products, which are sold exclusively in the PRC, are
subject to a Chinese value-added tax at a rate of 13% to 17% of the gross sales
price. This VAT may be offset by VAT paid by the Company on raw materials and
other materials included in the cost of producing their finished
products.





Research
and Development Costs




Research
and development costs are expensed as incurred. To the extent that research and
development services are performed for us by third parties, these costs are
expensed when the services are performed by the third party. The costs of
material and equipment that are acquired or constructed for research and
development activities, and have alternative future uses, either in research and
development, marketing, or sales, are classified as property and equipment or
depreciated over their estimated useful lives.




37




Use
of Estimates





The
preparation of financial statements in conformity with generally accepted
accounting principles of the United States of America requires management to
make estimates and assumptions that affect the amounts reported in the combined
financial statements and accompanying notes. Management believes that the
estimates utilized in preparing its financial statements are reasonable and
prudent. Actual results could differ from these estimates.





Inventories





We record
reserves against our inventory in our warehouse to provide for estimated
obsolete or unsalable inventory based on assumptions about future demand for our
products and market conditions. If future demand and market conditions are less
favorable than management's assumptions, additional reserve could be required.
Likewise, favorable future demand and market conditions could positively impact
future operating results if previously reserved inventory is sold.





Item
      3.
            Quantitative and
      Qualitative Disclosures About Market
Risk





Not
applicable.





Item
      4T.
            Controls and
      Procedures





Disclosure
Controls and Procedures





As
required by Rule 13a-15 under the Exchange Act, our management, including our
Chief Executive Officer and our Chief Financial Officer, evaluated the
effectiveness of the design and operation of our disclosure controls and
procedures as of March 31, 2010.





Disclosure
controls and procedures refer to controls and other procedures designed to
ensure that information required to be disclosed in the reports we file or
submit under the Securities Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the rules and forms of the SEC and
that such information is accumulated and communicated to our management,
including our Chief Executive Officer and Chief Financial Officer, as
appropriate, to allow timely decisions regarding required disclosure. In
designing and evaluating our disclosure controls and procedures, management
recognizes that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurance of achieving the desired control
objectives, and management is required to apply its judgment in evaluating and
implementing possible controls and procedures.





Management
conducted its evaluation of disclosure controls and procedures under the
supervision of our Chief Executive Officer and our Chief Financial Officer.
Based on that evaluation, management concluded that our disclosure controls and
procedures were not effective as of March 31, 2010, due principally to a
material weakness in internal control over financial reporting because of
significant deficiencies in our U.S. GAAP expertise and internal audit
functions. We are working to enhance the effectiveness of our disclosure
controls and procedures. We recently hired a Chief Financial Officer who has
extensive experience in internal control and certain level of knowledge
on U.S. GAAP reporting compliance, to take charge of the financial
reporting process and training of the accounting staff.   We
intend to hire and we are in the process of recruiting additional individuals
with the requisite expertise and experience to strengthen our financial
reporting and internal control functions. We expect that these enhancements,
will improve the effectiveness of our disclosure controls and procedures and
remediate the ineffectiveness of certain controls and procedures that existed as
of March 31, 2010.




38




Changes
in Internal Controls over Financial Reporting





There
were no changes in our internal controls over financial reporting during the
most recent quarter of fiscal year 2010 that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.





PART
II OTHER INFORMATION


Item
      5.
            Unregistered Sales of
      Equity Securities and Use of
Proceeds





On May
11, 2010, we issued 2,666,667 shares of common stock to OEP CHME Holdings, LLC
upon the conversion of 266,666.7 shares of redeemable convertible preferred
stock. This transaction was exempt from registration pursuant to Section 3(a)(9)
of the Securities Act.





Item
      6.
            Exhibits





The
exhibits required by this item are set forth on the Exhibit Index attached
hereto.





39


SIGNATURES


Pursuant
to the requirements of the Securities Act of 1934, the Registrant has duly
caused this report to be signed on its behalf by the undersigned thereunto duly
authorized.





CHINA
      MEDICINE CORPORATIONDate:
      May 13, 2010
                  BY:
                  /s/Senshan
      YangSenshan
      YangPresident
      and Chief Executive Officer
                    (Principal
      Executive Officer)Date:
      May 13, 2010
                  BY:
                  /s/   Fred
      W. CheungFred
      W. CheungChief
      Financial Officer
                    (Principal
      Financial Officer and
                    Accounting
      officer)




40




Exhibit
Index





Exhibit
                  Number
                
                Exhibit
      Title10.1*
                
                Amendment
      to Stock Subscription Agreement, dated as of April 30, 2010, by and among
      the Registrant, Yang Senshan, and OEP CHME Holdings,
  LLC.10.2*
                
                Employment
      Agreement, dated April 30, 2010, by and between the Registrant and Fred W.
      Cheung.31.1
      *
                
                Certification
      of our Chief Executive Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.31.2
      *
                
                Certification
      of our Chief Financial Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.32.1
      *
                
                Certification
      of our Chief Executive Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.32.2
      *
                
                Certification
      of our Chief Financial Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of
2002.





*           Filed
herewith




41