**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**WASHINGTON,
      D.C. 20549**





(Mark
      One)




**FORM
      10-Q**




[√]
            **QUARTERLY
                REPORT PURSUANT TO SECTION 13 OR 15(****d****)
                OF THE SECURITIES EXCHANGE ACT OF
                1934**




FOR
      THE
      QUARTERLY PERIOD ENDED MARCH 31, 2008




OR




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




FOR
        THE
        TRANSITION PERIOD FROM ____________ TO ____________




COMMISSION
        FILE NUMBER: 000-30451


LOTUS
                PHARMACEUTICALS, INC.(Name
                of registrant as specified in its charter)





NEVADA
            20-0507918(State
                or other jurisdiction of incorporation or organization)
            (I.R.S.
                Employer Identification No.)





16
                Cheng Zhuang Road, Feng Tai District, Beijing 100071
              People’s
                Republic of China
            N/A(Address
                of principal executive offices)
            (Zip
                Code)





86-10-63899868(Registrant's
                telephone number, including area
                code)





**N/A**(Former
                name, former address and former fiscal year, if changed since last
                report)





Indicate
      by check mark whether the registrant (1) has filed all reports required to
      be
      filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
      the
      preceding 12 months (or for such shorter period that the registrant was required
      to file such reports), and (2) has been subject to such filing requirements
      for
      the past 90 days.





Yes
      [X]
      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 smaller reporting company)
            [
                ]
            Smaller
                reporting company
            [√]





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





Yes
      [ ]
      No [X]





Indicated
      the number of shares outstanding of each of the issuer's classes of common
      stock, as of the latest practicable date, 42,384,945 shares
      of
      common stock are issued and outstanding as of May 19, 2008.





1


**TABLE
      OF CONTENTS**





PageNo.**PART
                I. - FINANCIAL INFORMATION**Item
                1.
            Financial
                Statements
            4Item
                2.
            Management's
                Discussion and Analysis of Financial Condition and Results of
                Operations.
            5Item
                3.
            Quantitative
                and Qualitative Disclosures About Market Risk.
            12Item
                4T
            Controls
                and Procedures.
            12**PART
                II - OTHER INFORMATION**Item
                1.
            Legal
                Proceedings.
            13Item
                1A.
            Risk
                Factors.
            13Item
                2.
            Unregistered
                Sales of Equity Securities and Use of Proceeds.
            13Item
                3.
            Defaults
                Upon Senior Securities.
            13Item
                4.
            Submission
                of Matters to a Vote of Security Holders.
            13Item
                5.
            Other
                Information.
            13Item
                6.
            Exhibits.
            13





**CAUTIONARY
      STATEMENT REGARDING FORWARD-LOOKING INFORMATION**





Certain
      statements in this report contain or may contain forward-looking statements
      that
      are subject to known and unknown risks, uncertainties and other factors which
      may cause actual results, performance or achievements to be materially different
      from any future results, performance or achievements expressed or implied by
      such forward-looking statements. These forward-looking statements were based
      on
      various factors and were derived utilizing numerous assumptions and other
      factors that could cause our actual results to differ materially from those
      in
      the forward-looking statements. These factors include, but are not limited
      to,
      our ability to enforce the Contractual Arrangements, Lotus East's strategic
      initiatives, economic, political and market conditions and fluctuations, U.S.
      and Chinese government and industry regulation, interest rate risk, U.S.,
      Chinese and global competition, and other factors. Most of these factors are
      difficult to predict accurately and are generally beyond our control. You should
      consider the areas of risk described in connection with any forward-looking
      statements that may be made herein. Readers are cautioned not to place undue
      reliance on these forward-looking statements and readers should carefully review
      this report in its entirety together with our Annual Report on Form 10-K for
      the
      year ended December 31, 2007 as filed with the SEC, including the risks
      described in Item 1A. Risk Factors. Except for our ongoing obligations to
      disclose material information under the Federal securities laws, we undertake
      no
      obligation to release publicly any revisions to any forward-looking statements,
      to report events or to report the occurrence of unanticipated events. These
      forward-looking statements speak only as of the date of this report, and you
      should not rely on these statements without also considering the risks and
      uncertainties associated with these statements and our business.




**OTHER
      PERTINENT INFORMATION**





We
      maintain a web site at www.lotuseast.com. Information on this web site is not
      a
      part of this report.





**CERTAIN
      DEFINED TERMS USED IN THIS PROSPECTUS**





Unless
      specifically set forth to the contrary, when used in this report the
      terms:





•  " Lotus ,"
      " we ,"
      " us ,"
      " our ,"
      the
      " Company ,"
      and
      similar terms refer to Lotus Pharmaceuticals, Inc., a Nevada corporation
      formerly known as S.E. Asia Trading Company, Inc., and its
      subsidiary,





•  " Lotus
      International "
      refers
      to Lotus
      Pharmaceutical International, Inc., a Nevada corporation and a subsidiary of
      Lotus,





•  " Lotus
      Century "
      refers to Lotus Century Pharmaceutical (Beijing) Technology co., Ltd., a wholly
      foreign-owned enterprise (WFOE) Chinese company which is a subsidiary of
      Lotus,





•  " Liang
      Fang "
      refers to Beijing Liang Fang Pharmaceutical Co., Ltd., a Chinese limited
      liability company formed on June 21, 2000 and an affiliate of En Zhe
      Jia,





•  " En
      Zhe Jia "
      refers to Beijing En Zhe Jia Shi Pharmaceutical Co., Ltd., a Chinese limited
      liability company formed on September 17, 1999 and an affiliate of Liang
      Fang,





2


•  " Lotus
      East "
      collectively refers to Liang Fang and En Zhe Jia,





•  " Consulting
      Services Agreements "
      refers
      to the Consulting Services Agreements dated September 20, 2006 between Lotus
      and
      Lotus East.





•  " Operating
      Agreements "
      refers
      to the Operating Agreements dated September 20, 2006 between Lotus, Lotus East
      and the stockholders of Lotus East,





•  " Equity
      Pledge Agreements "
      refers
      to the Equity Pledge Agreements dated September 20, 2006 between Lotus, Lotus
      East and the stockholders of Lotus East,





•  " Option
      Agreements "
      refers
      to the Option Agreements dated September 20, 2006 between Lotus, Lotus East
      and
      the stockholders of Lotus East,





•  " Proxy
      Agreements "
      refers
      to the Proxy Agreements dated September 20, 2006 between Lotus, Lotus East
      and
      the stockholders of Lotus East,





•  " Contractual
      Arrangements "
      collectively refers to the Consulting Services Agreements, Operating Agreements,
      Equity Pledge Agreements, Option Agreements and the Proxy Agreements,





•  " China "
      or the
      " PRC "
      refers
      to the People's Republic of China,





•  " RMB "
      refers
      to the renminbi which is the currency of mainland PRC of which the yuan is
      the
      principal currency,





•  " 2006 "
      generally refers to the fiscal year ended December 31, 2006,





•  " 2007 "
      generally refers to the fiscal year ended December 31, 2007; and





•  " 2008 "
      generally refers to the fiscal year ending December 31, 2008.




3


**PART
      1. - FINANCIAL INFORMATION**





Item
      1.  Financial
      Statements.


**LOTUS
        PHARMACEUTICALS, INC. AND SUBSIDIARIES**
 **UNAUDITED
        CONSOLIDATED FINANCIAL STATEMENTS**
 **March
        31, 2008**
 
 4
 LOTUS
        PHARMACEUTICALS, INC. AND SUBSIDIARIES
 FORM
        10-Q
 QUARTERLY
        PERIOD ENDED MARCH 31, 2008
 
 INDEX
  Consolidated Financial Statements:Consolidated
                  Balance Sheets As of March 31, 2008 (Unaudited) and
                  December
                  31, 2007
              
              F-2Consolidated
                  Statements of Operations (Unaudited) For
                  the Three Months Ended March 31, 2008 and 2007
              
              F-3Consolidated
                  Statements of Cash Flows (Unaudited) For
                  the Three Months Ended March 31, 2008 and 2007
              
              F-4Notes to Unaudited Consolidated Financial
                Statements
              
              F-5
                  to
                  F-22
 
 F-1


LOTUS
          PHARMACEUTICALS, INC. AND SUBSIDIARIES
 CONSOLIDATED
            BALANCE SHEETS
 March
                  31,
              
              December
                  31,2008
              
              2007(Unaudited)ASSETSCURRENT
                  ASSETS:Cash
              
              $
              3,589,377
              
              $
              4,557,957Accounts
                  receivable, net of allowance for doubtful accounts and sale
                  returns
              
              
              21,344,090
              
              
              20,430,827Inventories,
                  net of reserve for obsolete inventory
              
              
              6,782,982
              
              
              3,410,739Prepaid
                  expenses
              
              
              461,381
              
              
              1,009,382Deferred
                  debt costs
              
              
              -
              
              
              29,340Other
                  receivable
              
              
              2,825,321
              
              
              -Total
                  Current Assets
              
              
              35,003,151
              
              
              29,438,245PROPERTY
                  AND EQUIPMENT - Net
              
              
              6,311,684
              
              
              6,169,966OTHER
                  ASSETSIntangible
                  assets, net of accumulated amortization
              
              
              1,307,619
              
              
              1,291,322Deferred
                  debt costs
              
              
              762,961
              
              
              -Total
                  Assets
              
              $
              43,385,415
              
              $
              36,899,533LIABILITIES
                  AND SHAREHOLDERS' EQUITYCURRENT
                  LIABILITIES:Convertible
                  debt, net of debt discount
              
              $
              -
              
              $
              2,561,645Accounts
                  payable and accrued expenses
              
              
              638,464
              
              
              764,491Value-added
                  and service taxes payable
              
              
              638,691
              
              
              572,200Advances
                  from customers
              
              
              -
              
              
              34,531Unearned
                  revenue
              
              
              774,606
              
              
              530,063Due
                  to related parties
              
              
              701,805
              
              
              323,178Total
                  Current Liabilities
              
              
              2,753,566
              
              
              4,786,108LONG-TERM
                  LIABILITIES:Due
                  to related parties
              
              
              768,990
              
              
              738,300Notes
                  payable - related parties
              
              
              4,935,479
              
              
              4,738,508Series
                  A convertible redeemable preferred stock, $.001 par value; 10,000,000
                  sharesauthorized;
                  5,747,118 and -0- shares issued and outstanding at March 31,
                  2008and
                  December 31, 2007, respectively
              
              
              3,051,684
              
              
              -Total
                  Liabilities
              
              
              11,509,719
              
              
              10,262,916SHAREHOLDERS'
                  EQUITY:Common
                  stock ($.001 par value; 200,000,000 shares authorized;42,044,200
                  and 41,794,200 shares issued and outstandingat
                  Mach 31, 2008 and December 31, 2007, respectively)
              
              
              42,044
              
              
              41,794Additional
                  paid-in capital
              
              
              10,884,375
              
              
              8,095,848Statutory
                  reserves
              
              
              2,318,356
              
              
              2,161,505Retained
                  earnings
              
              
              15,195,161
              
              
              14,355,913Other
                  comprehensive gain - cumulative foreign currency translation
                  adjustment
              
              
              3,435,760
              
              
              1,981,557Total
                  Shareholders' Equity
              
              
              31,875,696
              
              
              26,636,617Total
                  Liabilities and Shareholders' Equity
              
              $
              43,385,415
              
              $
              36,899,533
  See
          notes to unaudited consolidated financial statements
  F-2
 LOTUS
          PHARMACEUTICALS, INC. AND SUBSIDIARIES
 CONSOLIDATED
          STATEMENTS OF OPERATIONS
 (UNAUDITED)
  For
                    the Three Months EndedMarch
                    31,2008
                
                2007(As
                    Restated)NET
                    REVENUES:Wholesale
                
                $
                9,770,097
                
                $
                5,049,121Retail
                
                
                683,748
                
                
                501,242Other
                    revenues
                
                
                1,255,332
                
                
                2,739,172Total
                    Net Revenues
                
                
                11,709,177
                
                
                8,289,535COST
                    OF SALES
                
                
                7,768,425
                
                
                5,662,916GROSS
                    PROFIT
                
                
                3,940,752
                
                
                2,626,619OPERATING
                    EXPENSES:Selling
                    expenses
                
                
                1,122,337
                
                
                558,724Research
                    and development
                
                
                710,225
                
                
                91,822General
                    and administrative
                
                
                626,417
                
                
                802,865Total
                    Operating Expenses
                
                
                2,458,979
                
                
                1,453,411INCOME
                    FROM OPERATIONS
                
                
                1,481,773
                
                
                1,173,208OTHER
                    INCOME (EXPENSE):Debt
                    issuance costs
                
                
                (62,886
                )
                
                (29,340
                )Registration
                    rights penalty
                
                
                -
                
                
                (54,000
                )Interest
                    income
                
                
                561
                
                
                -Interest
                    expense
                
                
                (423,349
                )
                
                (252,567
                )Total
                    Other Income (Expense)
                
                
                (485,674
                )
                
                (335,907
                )INCOME
                    BEFORE INCOME TAXES
                
                
                996,099
                
                
                837,301INCOME
                    TAXES
                
                
                -
                
                
                -NET
                    INCOME
                
                $
                996,099
                
                $
                837,301COMPREHENSIVE
                    INCOME:NET
                    INCOME
                
                $
                996,099
                
                $
                837,301OTHER
                    COMPREHENSIVE INCOME:Unrealized
                    foreign currency translation gain
                
                
                1,454,203
                
                
                123,517COMPREHENSIVE
                    INCOME
                
                $
                2,450,302
                
                $
                960,818NET
                    INCOME PER COMMON SHARE:Basic
                
                $
                0.02
                
                $
                0.02Diluted
                
                $
                0.02
                
                $
                0.02WEIGHTED
                    AVERAGE COMMON SHARES OUTSTANDING:Basic
                
                
                42,035,958
                
                
                41,280,000Diluted
                
                
                47,783,076
                
                
                44,280,000
  See
          notes to unaudited consolidated financial statements
  F-3
 LOTUS
          PHARMACEUTICALS, INC. AND SUBSIDIARIES
 CONSOLIDATED
        STATEMENTS OF CASH FLOWS
 (UNAUDITED)
 For
                    the Three Month EndedMarch
                    31,2008
                
                2007(As
                    Restated)CASH
                    FLOWS FROM OPERATING ACTIVITIES:Net
                    income
                
                $
                996,099
                
                $
                837,301Adjustments
                    to reconcile net income from operations to net cashprovided
                    by (used in) operating activities:Depreciation
                    and amortization
                
                
                148,884
                
                
                124,634Amortization
                    of deferred debt issuance costs
                
                
                62,512
                
                
                29,340Amortization
                    of debt discount
                
                
                208,355
                
                
                144,578Amortization
                    of discount on convertible redeemable preferred
                    stock
                
                
                84,709Increase
                    in allowance for doubtful accounts and sales returns
                
                
                53,305
                
                
                -Changes
                    in assets and liabilities:Accounts
                    receivable
                
                
                (115,927
                )
                
                214,114Inventories
                
                
                (3,161,360
                )
                
                (1,159,619
                )Prepaid
                    expenses and other current assets
                
                
                752,227
                
                
                (98,927
                )Other
                    receivable
                
                
                (2,764,883
                )
                
                -Accounts
                    payable and accrued expenses
                
                
                (98,515
                )
                
                35,097Value-added
                    and service taxes payable
                
                
                41,792
                
                
                427,048Unearned
                    revenue
                
                
                217,749
                
                
                256,493Advances
                    from customers
                
                
                (35,197
                )
                
                (144,365
                )NET
                    CASH (USED IN) PROVIDED BY OPERATING ACTIVITIES
                
                
                (3,610,250
                )
                
                665,694CASH
                    FLOWS FROM INVESTING ACTIVITIES:Collections
                    from related party advances
                
                
                -
                
                
                259,575Purchase
                    of property and equipment
                
                
                -
                
                
                (366,218
                )NET
                    CASH USED IN INVESTING ACTIVITIES
                
                
                -
                
                
                (106,643
                )CASH
                    FLOWS FROM FINANCING ACTIVITIES:Net
                    (payments) proceeds from convertible debt
                
                
                (2,520,000
                )
                
                2,950,000Proceeds
                    from sale of convertible redeemable peferred stocks
                
                
                5,000,000
                
                
                -Payment
                    of debt issuance costs
                
                
                (468,568
                )
                
                (231,526
                )Proceeds
                    from related party advances
                
                
                357,382
                
                
                2,866Repayments
                    of related party advances
                
                
                -
                
                
                (232,744
                )Repayments
                    of notes payable - related parties
                
                
                -
                
                
                (700,866
                )NET
                    CASH PROVIDED BY FINANCING ACTIVITIES
                
                
                2,368,814
                
                
                1,787,730EFFECT
                    OF EXCHANGE RATE ON CASH
                
                
                272,856
                
                
                20,122NET
                    (DECREASE) INCREASE IN CASH
                
                
                (968,580
                )
                
                2,366,903CASH
                    - beginning of period
                
                
                4,557,957
                
                
                2,089,156CASH
                    - end of period
                
                $
                3,589,377
                
                $
                4,456,059SUPPLEMENTAL
                    DISCLOSURE OF CASH FLOW INFORMATION:Cash
                    paid for:Interest
                
                $
                -
                
                $
                55,489Income
                    taxes
                
                $
                -
                
                $
                -Non-cash
                    operting, investing and financing activities:Warrants
                    issued for prepaid financing costs and consulting expenses
                
                $
                505,752
                
                $
                -Common
                    stock issued for conversion of convertible debt
                
                $
                250,000
                
                $
                -Debt
                    discount for grant of warrants and beneficial conversion
                    feature
                
                $
                2,033,025
                
                $
                -
  See
          notes to unaudited consolidated financial statements.
  F-4


LOTUS
        PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
        TO
        UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
        31,
        2008
  
 NOTE
        1 - ORGANIZATION
        AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
 Organization
 
 Lotus
        Pharmaceuticals, Inc. (“Lotus” or the “Company”), formerly S.E. Asia Trading
        Company, Inc. (“SEAA”), was incorporated on January 28, 2004 under the laws of
        the State of Nevada. SEAA operated as a retailer of jewelry, framed art and
        home
        accessories. In December 2006, SEAA changed its name to Lotus Pharmaceuticals,
        Inc.
  On
        September 6, 2006, the Company entered into a definitive Share Exchange
        Agreement with Lotus Pharmaceutical International, Inc. (“Lotus International”),
        whereby the Company acquired all of the outstanding common stock of Lotus
        International in exchange for newly-issued stock of the Company to Lotus
        International’s shareholders. On September 28, 2006 (the closing date), Lotus
        International became a wholly-owned subsidiary of the Company and Lotus
        International’s shareholders became the owners of the majority of the Company’s
        voting stock. The acquisition of Lotus International by the Company was
        accounted for as a reverse merger because on a post-merger basis, the former
        shareholders of Lotus International hold a majority of the outstanding
        common stock of the Company on a voting and fully-diluted basis. As a result,
        Lotus International is deemed to be the acquirer for accounting
        purposes.
  Lotus
        International was incorporated under the laws the State of Nevada on August
        28, 2006 to develop and market pharmaceutical products in the People’s Republic
        of China (“PRC” or “China”). PRC law currently has limits on foreign ownership
        of certain companies. To comply with these foreign ownership restrictions,
        Lotus
        operates its pharmaceutical business in China through Beijing Liang Fang
        Pharmaceutical Co., Ltd. (“Liang Fang”) and an affiliate of Liang Fang, Beijing
        En Zhe Jia Shi Pharmaceutical Co., Ltd. (“En Zhe Jia”), both of which are
        pharmaceutical companies headquartered in the PRC and organized under the
        laws
        of the PRC (hereinafter, referred to together as “Lotus East”). Lotus
        International has contractual arrangements with Lotus East and its shareholders
        pursuant to which Lotus International will provide technology consulting
        and
        other general business operation services to Lotus East. Through these
        contractual arrangements, Lotus International also has the ability to
        substantially influence Lotus East’s daily operations and financial affairs,
        appoint its senior executives and approve all matters requiring shareholder
        approval. As a result of these contractual arrangements, which enable Lotus
        International to control Lotus East, Lotus International is considered
        the primary beneficiary of Lotus East. Accordingly, the consolidated financial
        statements include the accounts of Lotus Pharmaceuticals, Inc. and its
        wholly-owned subsidiary, Lotus International and companies under its control
        (Lotus East).
  On
        September 6, 2006, Lotus International entered into the following
        contractual arrangements:
  Operating
        Agreement .
        Pursuant to the operating agreement among Lotus, Lotus East and the shareholders
        of Lotus East, (collectively “Lotus East’s Shareholders”), Lotus provides
        guidance and instructions on Lotus East’s daily operations, financial management
        and employment issues. The shareholders of Lotus East must designate the
        candidates recommended by Lotus as their representatives on Lotus East’s Board
        of Directors. Lotus has the right to appoint senior executives of Lotus East.
        In
        addition, Lotus agreed to guarantee Lotus East’s performance under any
        agreements or arrangements relating to Lotus East’s business arrangements with
        any third party. Lotus East, in return, agreed to pledge its accounts receivable
        and all of its assets to Lotus. Moreover, Lotus East agreed that without
        the
        prior consent of Lotus, Lotus East would not engage in any transaction that
        could materially affect the assets, liabilities, rights or operations of
        Lotus
        East, including, without limitation, incurrence or assumption of any
        indebtedness, sale or purchase of any assets or rights, incurrence of any
        encumbrance on any of its assets or intellectual property rights in favor
        of a
        third party or transfer of any agreements relating to its business operation
        to
        any third party. The term of this agreement is ten (10) years from September
        6,
        2006 and may be extended only upon Lotus’s written confirmation prior to the
        expiration of the this agreement, with the extended term to be mutually agreed
        upon by the parties.
 
 F-5
 LOTUS
          PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
          TO
          UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
          31,
          2008
 NOTE
        1 - ORGANIZATION
        AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
 
 Organization
        (continued)
 
 Consulting
        Services Agreement .
        Pursuant to the exclusive consulting services agreements between Lotus and
        Lotus
        East, Lotus has the exclusive right to provide to Lotus East general
        pharmaceutical business operations services as well as consulting services
        related to the technological research and development of pharmaceutical products
        as well as general business operation advice and strategic planning (the
        “Services”). Under this agreement, Lotus owns the intellectual property rights
        developed or discovered through research and development, in the course of
        providing the Services, or derived from the provision of the Services. Lotus
        East is required to pay quarterly consulting service fees in Renminbi (“RMB”),
        the functional currency of the PRC, to Lotus that is equal to Lotus East’s
        profits, as defined, for such quarter. To date, no consulting fees have been
        paid by Lotus East.
  Equity
        Pledge Agreement *.* Under
        the equity pledge agreement between the shareholders of Lotus East and Lotus,
        the shareholders of Lotus East pledged all of their equity interests in Lotus
        East to Lotus to guarantee Lotus East’s performance of its obligations under the
        technology consulting agreement. If Lotus East or Lotus East’s Shareholders
        breaches its respective contractual obligations, Lotus, as pledgee, will
        be
        entitled to certain rights, including the right to sell the pledged equity
        interests. Lotus East’s Shareholders also agreed that upon occurrence of any
        event of default, Lotus shall be granted an exclusive, irrevocable power
        of
        attorney to take actions in the place and stead of Lotus East’s
        Shareholders to carry out the security provisions of the equity pledge agreement
        and take any action and execute any instrument that Lotus may deem necessary
        or
        advisable to accomplish the purposes of the equity pledge agreement. The
        shareholders of Lotus East agreed not to dispose of the pledged equity interests
        or take any actions that would prejudice Lotus’ interest. The equity pledge
        agreement will expire two (2) years after Lotus East’s obligations under the
        exclusive consulting services agreements have been fulfilled.
  Option
        Agreement *.* Under
        the option agreement between the shareholders of Lotus East and Lotus, the
        shareholders of Lotus East irrevocably granted Lotus or its designated person
        an
        exclusive option to purchase, to the extent permitted under PRC law, all
        or part
        of the equity interests in Lotus East for the cost of the initial contributions
        to the registered capital or the minimum amount of consideration permitted
        by
        applicable PRC law. Lotus or its designated person has sole discretion to
        decide
        when to exercise the option, whether in part or in full. The term of this
        agreement is 10 years from September 6, 2006 and may be extended prior to
        its
        expiration by written agreement of the parties.
  Proxy
        Agreement *.* Pursuant to the proxy agreement among Lotus and Lotus East’s Shareholders, Lotus
        East’s Shareholders agreed to irrevocably grant a person to be designated by
        Lotus with the right to exercise Lotus East’s Shareholders’ voting rights and
        their other rights, including the attendance at and the voting of Lotus East’s
        Shareholders’ shares at the shareholders’ meetings (or by written consent in
        lieu of such meetings) in accordance with applicable laws and its Article
        of
        Association, including but not limited to the rights to sell or transfer
        all or
        any of his equity interests of Lotus East, and appoint and vote for the
        directors and Chairman as the authorized representative of the shareholders
        of
        Lotus East. The term of this Proxy Agreement is ten (10) years from September 6,
        2006 and may be extended prior to its expiration by written agreement of
        the
        parties.
  Liang
        Fang is a Chinese limited liability company and was formed under laws of
        the
        People’s Republic of China on June 21, 2000. Liang Fang is engaged in the
        production, trade and retailing of pharmaceuticals. Further, Liang Fang is
        focused on development of innovative medicines and investing strategic growth
        to
        address various medical needs for patients worldwide. Liang Fang’s operations
        are based in Beijing, China.
  As
        of March 31, 2008, Liang Fang owns and operates 10 drug stores throughout
        Beijing, China. These drugstores sell Western and traditional Chinese medicines,
        and medical treatment accessories.
 F-6
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
   NOTE
          1 - ORGANIZATION
          AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
          (continued)
 
 Organization
        (continued)
 
 Liang
        Fang’s affiliate, En Zhe Jia is a Chinese limited liability company and was
        formed under laws of the People’s Republic of China on September 17, 1999. En
        Zhe Jia is the sole manufacturer for Liang Fang and maintains facilities
        for the
        production of medicines, patented Chinese medicine, as well as the research
        and
        production of other new medicines.
 
 As
        a result of the management agreements between Lotus International and Lotus
        East, Lotus East was deemed to be the acquirer of Lotus International for
        accounting purposes. Accordingly, the financial statement data presented
        are
        those of Lotus East for all periods prior to the Company’s acquisition of Lotus
        International on September 28, 2006, and the financial statements of the
        consolidated companies from the acquisition date forward.
  On
        May 29, 2007, the Company formed a new entity, Lotus Century Pharmaceutical
        (Beijing) Technology Co., Ltd. (‘‘Lotus Century’’), a wholly
        foreign-owned enterprise (“WFOE”) organized under the laws of the Peoples’
Republic of China .
        Lotus Century is a Chinese limited liability company and a wholly-owned
        subsidiary of Lotus Pharmaceutical International, Inc. Lotus Century intends
        to
        be engaged in development of innovative medicines, medical technology consulting
        and outsourcing services, and related training services.
 
 Basis
        of presentation
  The
        interim consolidated financial statements included herein have been prepared
        by
        the Company, pursuant to the rules and regulations of the Securities and
        Exchange Commission (the “SEC”). Certain information and footnote disclosures
        normally included in an annual financial statement prepared in accordance
        with
        generally accepted accounting principles in the United States (“GAAP”) have been
        condensed or omitted pursuant to such rules and regulations. In the opinion
        of
        management, the interim consolidated financial statements reflect all
        adjustments (consisting only of normal recurring adjustments) necessary for
        a
        fair presentation of the statement of the results for the interim periods
        presented. These interim consolidated financial statements should be read
        in
        conjunction with the audited consolidated financial statements and notes
        thereto, as well as the accompanying Management’s Discussion and Analysis of
        Financial Condition and Results of Operations for the year ended December
        31,
        2007 included in its Annual Report on Form 10-K. Interim financial results
        are
        not necessarily indicative of the results that may be expected for a full
        year.
 
 The
        accompanying unaudited consolidated financial statements are prepared in
        accordance with generally accepted accounting principles in the United States
        of
        America (“US GAAP”). The consolidated statements include the accounts of Lotus
        Pharmaceuticals, Inc. and its wholly-owned subsidiaries, Lotus and Lotus
        Century
        and variable
        interest entities under its control (Liang Fang and En Zhe Jia). All significant inter-company
        balances and transactions have been eliminated.
 
 The
        Company has adopted FASB Interpretation No. 46R "Consolidation of Variable
        Interest Entities" ("FIN 46R"), an Interpretation of Accounting Research
        Bulletin No. 51. FIN 46R requires a Variable Interest Entity (VIE) to be
        consolidated by a company if that company is subject to a majority of the
        risk
        of loss for the VIE or is entitled to receive a majority of the VIE's residual
        returns. VIEs are those entities in which the Company, through contractual
        arrangements, bears the risks of, and enjoys the rewards normally associated
        with ownership of the entities, and therefore the Company is the primary
        beneficiary of these entities.  As
        a VIE, Lotus
        East’s revenues are included in the Company’s total revenues, its income from
        operations is consolidated with the Company’s, and the Company’s net income
        includes all of Lotus
        East’s net income.
 
 Use
        of estimates
  The
        preparation of financial statements in conformity with US GAAP requires
        management to make estimates and assumptions that affect certain reported
        amounts and disclosures. Accordingly, actual results could differ from those
        estimates. Significant estimates in 2008 and 2007 include the allowance for
        doubtful accounts, the allowance for obsolete inventory, the useful life
        of
        property and equipment and intangible assets, and accruals for taxes
        due.
  F-7
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
   NOTE
          1 - BASIS
          OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
          (continued)
 
 Fair
        value of financial instruments
  The
        carrying amounts reported in the balance sheet for cash, accounts receivable,
        accounts payable and accrued expenses, convertible debt, customer advances,
        and
        amounts due to related parties approximate their fair market value based
        on the
        short-term maturity of these instruments.
  Cash
        and cash equivalents
  For
        purposes of the consolidated statements of cash flows, the Company considers
        all
        highly liquid instruments purchased with a maturity of three months or less
        and
        money market accounts to be cash equivalents. The
        Company maintains cash and cash equivalents with various financial institutions
        mainly in the PRC and the United States. Balances in the United States are
        insured up to $100,000 at each bank.
 
 Accounts
        receivable
 
 The
        Company records accounts receivable, net of an allowance for doubtful accounts
        and sales returns. The Company maintains allowances for doubtful accounts
        for
        estimated losses. The Company reviews the accounts receivable on a periodic
        basis and makes general and specific allowances when there is doubt as to
        the
        collectability of individual balances. In evaluating the collectability of
        individual receivable balances, the Company considers many factors, including
        the age of the balance, customer’s historical payment history, its current
        credit-worthiness and current economic trends. The amount of the provision,
        if
        any is recognized in the consolidated statement of operations within “General
        and administrative expenses”. Accounts are written off after exhaustive efforts
        at collection. The Company policy regarding sales returns is discussed below.
        The activity in the allowance for doubtful accounts and sales returns accounts
        for accounts receivable for the periods ended March 31, 2008 and December
        31,
        2007 are as follows:
 
 Allowance
                  fordoubtful accounts
              
              Allowance
                  forsales returns
              
              TotalBalance
                  - December 31, 2006
              
              $
              539,627
              
              $
              2,297,399
              
              $
              2,837,026Reductions
              
              
              (26,617
              )
              
              (2,354,720
              )
              
              (2,381,337
              )Foreign
                  currency translation adjustments
              
              
              35,073
              
              
              57,321
              
              
              92,394Balance
                  - December 31, 2007
              
              
              548,083
              
              
              -
              
              
              548,083Additions
              
              
              53,305
              
              
              -
              
              
              53,305Foreign
                  currency translation adjustments
              
              
              23,947
              
              
              -
              
              
              23,947Balance
                  - March 31, 2008
              
              $
              625,335
              
              $
              -
              
              $
              625,335
  Inventories
 
 Inventories,
        consisting of raw materials and finished goods related to the Company’s products
        are stated at the lower of cost or market utilizing the weighted average
        method.
        An allowance is established when management determines that certain inventories
        may not be saleable. If inventory costs exceed expected market value due
        to
        obsolescence or quantities in excess of expected demand, the Company will
        record
        reserves for the difference between the cost and the market value. These
        reserves are recorded based on estimates and reflected in cost of sales.
 F-8
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
   NOTE
          1 - ORGANIZATION
          AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
          (continued)
 
 Property
        and equipment
 
 Property
        and equipment are carried at cost and are depreciated on a straight-line
        basis
        over the estimated useful lives of the assets. The cost of repairs and
        maintenance is expensed as incurred; major replacements and improvements
        are
        capitalized. When assets are retired or disposed of, the cost and accumulated
        depreciation are removed from the accounts, and any resulting gains or losses
        are included in income in the year of disposition. In accordance with Statement
        of Financial Accounting Standards (SFAS) No. 144, “Accounting for the Impairment
        or Disposal of Long-Lived Assets”, the Company examines the possibility of
        decreases in the value of fixed assets when events or changes in circumstances
        reflect the fact that their recorded value may not be recoverable.
 
 I mpairment
        of long-lived assets
 
 In
        accordance with Statement of Financial Accounting Standards (SFAS) No. 144,
        “Accounting for the Impairment or Disposal of Long-Lived Assets”, the Company
        periodically reviews its long-lived assets for impairment whenever events
        or
        changes in circumstances indicate that the carrying amount of the assets
        may not
        be fully recoverable. The Company recognizes an impairment loss when the
        sum of
        expected undiscounted future cash flows is less than the carrying amount
        of the
        asset. The amount of impairment is measured as the difference between the
        asset’s estimated fair value and its book value. The
        Company did not consider it necessary to record any impairment charges during
        the year ended December 31, 2007 and during the three months ended March
        31,
        2008.
 
 Advances
        from customers
 
 Advances
        from customers at March 31, 2008 and December 31, 2007 of $0 and $34,531,
        respectively,consist
        of prepayments from third party customers to the Company for merchandise
        that had not yet shipped. The Company will recognize the deposits as revenue
        as
        customers take delivery of the goods, in compliance with its revenue recognition
        policy.
 
 Income
        taxes
 
 The
        Company is governed by the Income Tax Law of the People’s Republic of China and
        the United States. Income taxes are accounted for under Statement of Financial
        Accounting Standards No. 109, “Accounting for Income Taxes,” which is an asset
        and liability approach that requires the recognition of deferred tax assets
        and
        liabilities for the expected future tax consequences of events that have
        been
        recognized in the Company’s financial statements or tax returns.
 
 Earnings
        per common share
  Basic
        earnings per share is computed by dividing net earnings by the weighted average
        number of shares of common stock outstanding during the period. Diluted income
        per share is computed by dividing net income by the weighted average number
        of
        shares of common stock, common stock equivalents and potentially dilutive
        securities outstanding during each period. Potentially dilutive common shares
        consist of the common shares issuable upon the conversion of convertible
        debt
        (using the if-converted method). The following table presents a reconciliation
        of basic and diluted earnings per share:
  **For
                  the Three Months Ended March 31,****2008**
              
              **2007**Net
                  income for basic and diluted earnings per share
              
              $
              996,099
              
              $
              837,301Weighted
                  average shares outstanding - basic
              
              
              42,035,958
              
              
              41,280,000Effect
                  of dilutive securities:Unexercised
                  warrants
              
              
              —
              
              
              —Convertible
                  debentures
              
              
              —
              
              
              3,000,000Convertible
                  redeemable preferred shares
              
              
              5,747,118
              
              
              —Weighted
                  average shares outstanding- diluted
              
              
              47,783,076
              
              
              44,280,000Earnings
                  per share - basic
              
              $
              0.02
              
              $
              0.02Earnings
                  per share - diluted
              
              $
              0.02
              
              $
              0.02
 F-9
 LOTUS
          PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
          TO
          UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
          31,
          2008
 NOTE
          1 -
ORGANIZATION
          AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
          (continued)
  At
          March
          31, 2008 and 2007, 5,227,000 and 1,500,000 outstanding warrants have not
          been
          included in the calculation of diluted earnings per shares as the effect
          would
          be anti-dilutive. The closing market price of the Company on March 31,
          2008 and
          2007 was lower than the exercise price of all outstanding warrants. Because
          of
          that, the Company assumes that none of the outstanding warrants at that
          date
          would have been exercised and therefore none were included in the computation
          of
          the diluted earnings per share for period ended March 31, 2008 and 2007.
          Accordingly, the Company has excluded any effect of outstanding warrants
          as
          their effect would be anti-dilutive.
 
 Revenue
        recognition
 
 *Product
        sales*
  Product
        sales are generally recognized when title to the product has transferred
        to
        customers in accordance with the terms of the sale. The Company recognizes
        revenue in accordance with the Securities and Exchange Commission’s (SEC) Staff
        Accounting Bulletin (SAB) No. 101, “ *Revenue Recognition in Financial Statements* “
as
        amended by SAB No. 104 (together, “SAB 104”), and Statement of
        Financial Accounting Standards (SFAS) No. 48 “ *Revenue Recognition When Right of Return Exists.* “
        SAB 104 states that revenue should not be recognized until it is
        realized or realizable and earned. In general, the Company records revenue
        when
        persuasive evidence of an arrangement exists, services have been rendered
        or
        product delivery has occurred, the sales price to the customer is fixed or
        determinable, and collectability is reasonably assured.
  SFAS No. 48 states
        that revenue from sales transactions where the buyer has the right to return
        the
        product shall be recognized at the time of sale only if the seller’s price to
        the buyer is substantially fixed or determinable at the date of sale, the
        buyer
        has paid the seller, or the buyer is obligated to pay the seller and the
        obligation is not contingent on resale of the product, the buyer’s obligation to
        the seller would not be changed in the event of theft or physical destruction
        or
        damage of the product, the buyer acquiring the product for resale has economic
        substance apart from that provided by the seller, the seller does not have
        significant obligations for future performance to directly bring about resale
        of
        the product by the buyer, and the amount of future returns can be
        reasonably estimated.
  The
        Company’s net product revenues represent total product revenues less allowances
        for returns.
  *Allowance
        for returns*
 
 The
        Company accounts for sales returns in accordance with Statements of Financial
        Accounting Standards (SFAS) No. 48, *Revenue
        Recognition When Right of Return Exists* ,
        by
        establishing an accrual in an amount equal to its estimate of sales recorded
        for
        which the related products are expected to be returned. The Company determines
        the estimate of the sales return accrual primarily based on historical
        experience regarding sales returns, but also by considering other factors
        that
        could impact sales returns. These factors include levels of inventory in
        the
        distribution channel, estimated shelf life, product discontinuances, and
        price
        changes of competitive products, introductions of generic products and
        introductions of competitive new products. In general, for wholesale sales,
        the
        Company provides credit for product returns that are returned six months
        prior
        to and up to six months after the product expiration date. Upon sale, the
        Company estimates an allowance for future product returns. The Company provides
        additional reserves for contemporaneous events that were not known and knowable
        at the time of shipment. In order to reasonably estimate future returns,
        the
        Company analyzed both quantitative and qualitative information including,
        but
        not limited to, actual return rates, the level of product manufactured by
        the
        Company, the level of product in the distribution channel, expected shelf
        life
        of the product, current and projected product demand, the introduction of
        new or
        generic products that may erode current demand, and general economic and
        industry wide indicators. The Company also utilizes the guidance provided
        in
        SAB 104 in establishing its return estimates. At March 31, 2008 and
        December 31, 2007, the Company’s allowance for returns was $0.
 F-10
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
   NOTE
          1 - ORGANIZATION
          AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
          (continued)
 
 *Other
        revenues*
  Other
        revenues consist of (i) leasing revenues received for the lease of retail
        space
        to various retail merchants; (ii) advertising revenues from the lease of
        counter
        space at the Company’s retail locations; (iii) leasing revenue from the lease of
        retail space to licensed medical practitioners; (iv) revenues received by
        the
        Company for research and development projects and lab testing jobs conducted
        on
        behalf of third party companies, and; (v) revenues received for performing
        third
        party contract manufacturing projects. In connection with third-party
        manufacturing, the customer supplies the raw materials and the Company is
        paid a
        fee for manufacturing their product and revenue is recognized at the completion
        of the manufacturing job. The Company recognizes revenues from leasing of
        space
        and advertising revenues as earned from contracting third parties. The Company
        recognizes revenues upon performance of any research or lab testing jobs.
        Revenues received in advance are reflected as deferred revenue on the
        accompanying balance sheet. Additionally, the Company receives income from
        the
        sale of developed drug formulas. Income from the sale of drug formulas are
        recognized upon performance of all of the Company’s obligations under the
        respective sales contract and are included in other income on the accompanying
        consolidated statement of operations.
  Concentrations
        of credit risk
  Financial
        instruments which potentially subject the Company to concentrations of credit
        risk consist principally of cash and trade accounts receivable. Substantially
        all of the Company’s cash is maintained with state-owned banks within the
        People’s Republic of China of which no deposits are covered by insurance. The
        Company has not experienced any losses in such accounts and believes it is
        not
        exposed to any risks on its cash in bank accounts. A significant portion
        of the
        Company’s sales are credit sales which are primarily to customers whose ability
        to pay is dependent upon the industry economics prevailing in these areas;
        however, concentrations of credit risk with respect to trade accounts
        receivables is limited due to generally short payment terms. The Company
        also
        performs ongoing credit evaluations of its customers to help further reduce
        credit risk.
 
 Shipping
        costs
 
 Shipping
        costs are included in cost of sales and totaled $91,949 and $240,425 for
        the
        three months ended March 31, 2008 and 2007, respectively.
 
 A dvertising
 
 Advertising
        is expensed as incurred. Advertising expenses amounted to $153,295 and $130,454
        for the three months ended March 31, 2008 and 2007, respectively.
 
 Research
        and development
 
 Research
        and development costs are expensed as incurred. These costs primarily consist
        of
        cost of material used and salaries paid for the development of the Company’s
        products and fees paid to third parties. For the three months ended March
        31,
        2008 and 2007, the Company expensed $710,225 and $91,822 as research and
        development expense, respectively, and paid for future research and development
        services in the amount of $156,246 and 769,742 at March 31, 2008 and December
        31, 2007, respectively, which has been included in prepaid expenses on the
        accompanying balance sheets and will be expensed over the contract
        term.
 F-11
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
   NOTE
          1 - ORGANIZATION
          AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
          (continued)
 
 Foreign
        currency translation
 
 The
        reporting currency of the Company is the U.S. dollar. The functional currency
        of
        the Company is the local currency, the Chinese Renminbi (“RMB”). Results of
        operations and cash flows are translated at average exchange rates during
        the
        period, assets and liabilities are translated at the unified exchange rate
        at
        the end of the period, and equity is translated at historical exchange rates.
        Translation adjustments resulting from the process of translating the local
        currency financial statements into U.S. dollars are included in determining
        comprehensive income. The cumulative translation adjustment and effect of
        exchange rate changes on cash for the three months ended March 31, 2008 and
        2007
        was $272,856 and $20,122, respectively. 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.
 
 Asset
        and
        liability accounts at March 31, 2008 and December 31, 2007 were translated
        at
        7.0222 RMB to $1.00 USD and at 7.3141 RMB to $1.00 USD, respectively. Equity
        accounts were stated at their historical rate. The average translation rates
        applied to income statements for the three months ended March 31, 2008 and
        2007
        were 7.1757 RMB and 7.7714 RMB to $1.00 USD, respectively. In accordance
        with
        Statement of Financial Accounting Standards No. 95, "Statement of Cash Flows,"
        cash flows from the Company's operations is calculated based upon the local
        currencies using the average translation rate. As a result, amounts related
        to
        assets and liabilities reported on the statement of cash flows will not
        necessarily agree with changes in the corresponding balances on the balance
        sheet.
 
 Accumulated
        other comprehensive income
  Accumulated
        other comprehensive income consisted of unrealized gains on currency translation
        adjustments from the translation of financial statements from Chinese RMB
        to US
        dollars. As of March 31, 2008 and December 31, 2007, accumulated other
        comprehensive income was $3,435,760 and $1,981,557, respectively.
 
 Recent
        Accounting Pronouncements
 
 In
        September 2006, the FASB issued SFAS No. 157, *“Fair
        Value Measurements”* (SFAS 157), which provides guidance for how companies should measure fair
        value when required to use a fair value measurement for recognition or
        disclosure purposes under generally accepted accounting principle (GAAP).
        SFAS 157 is effective for fiscal years beginning after November 15,
        2007. The adoption of this interpretation did not have an impact on the
        Company’s financial position, results of operations, or cash flows.
 
 In
        September 2006, the EITF reached a consensus on EITF Issue No. 06-1, *Accounting
        for Consideration Given by a Service Provider to Manufacturers or Resellers
        of
        Equipment Necessary for an End-Customer to Receive Service from the Service
        Provider* (EITF 06-1).
        EITF 06-1 provides that consideration provided to the manufacturers or
        resellers of specialized equipment should be accounted for as a reduction
        of
        revenue if the consideration provided is in the form of cash and the service
        provider directs that such cash be provided directly to the customer. Otherwise,
        the consideration should be recorded as an expense. The provisions of
        EITF 06-1 will be effective on January 1, 2008. The
        adoption of this interpretation did not have an impact on the Company’s
        financial position, results of operations, or cash flows.
 
 In
        December 2006, FASB Staff Position No. EITF 00-19-2, *“Accounting
        for Registration Payment Arrangements”* was
        issued. The FSP specifies that the contingent obligation to make future payments
        or otherwise transfer consideration under a registration payment arrangement,
        whether issued as a separate agreement or included as a provision of a financial
        instrument or other agreement, should be separately recognized and measured
        in
        accordance with SFAS No. 5, *“Accounting
        for Contingencies.”* The Company believes that its current accounting is consistent with the
        FSP.
 F-12
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
 NOTE
        1 - ORGANIZATION
        AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
 
 In
        February 2007, the FASB issued SFAS No. 159, *“The
        Fair Value Option for Financial Assets and Financial Liabilities, Including
        an
        Amendment of FASB Statement No. 115”* , under which entities will now be permitted to measure many financial
        instruments and certain other assets and liabilities at fair value on an
        instrument-by-instrument basis. This Statement is effective as of the beginning
        of an entity’s first fiscal year that begins after November 15, 2007. Early
        adoption is permitted as of the beginning of a fiscal year that begins on
        or
        before November 15, 2007, provided the entity also elects to apply the
        provisions of SFAS 157. The adoption of this interpretation did not have an
        impact on the Company’s financial position, results of operations, or cash
        flows.
 
 In
        December 2007, the FASB issued Statement of Financial Accounting Standards
        No.
        141R, Business Combinations (SFAS 141R) and Statement of Financial Accounting
        Standards No. 160, Accounting and Reporting of Non-controlling Interests
        in
        Consolidated Financial Statements, an amendment of ARB No. 51 (SFAS 160).
        These
        two standards must be adopted in conjunction with each other on a prospective
        basis. The most significant changes to business combination accounting pursuant
        to SFAS 141R and SFAS 160 are the following: (a) recognize, with certain
        exceptions, 100 percent of the fair values of assets acquired, liabilities
        assumed and non-controlling interests in acquisitions of less than a 100
        percent
        controlling interest when the acquisition constitutes a change in control
        of the
        acquired entity, (b) acquirers’ shares issued in consideration for a business
        combination will be measured at fair value on the closing date, not the
        announcement date, (c) recognize contingent consideration arrangements at
        their
        acquisition date fair values, with subsequent changes in fair value generally
        reflected in earnings, (d) the expensing of all transaction costs as incurred
        and most restructuring costs, (e) recognition of pre-acquisition loss and
        gain
        contingencies at their acquisition date fair values, with certain exceptions,
        (f) capitalization of acquired in-process research and development rather
        than
        expense recognition, (g) earn-out arrangements may be required to be re-measured
        at fair value and (h) recognize changes that result from a business combination
        transaction in an acquirer’s existing income tax valuation allowances and tax
        uncertainty accruals as adjustments to income tax expense. The Company
        anticipates these new standards will significantly affect the Company’s
        accounting for future business combinations following adoption on January
        1,
        2009.
 
 In
        March 2008, the FASB issued SFAS No. 161, *Disclosures about Derivative Instruments and Hedging Activities* (“SFAS 161”). This statement requires companies to provide enhanced
        disclosures about (a) how and why they use derivative instruments,
        (b) how derivative instruments and related hedged items are accounted for
        under Statement 133 and its related interpretations, and (c) how derivative
        instruments and related hedged items affect a company’s financial position,
        financial performance, and cash flows. SFAS 161 is effective for financial
        statements issued for fiscal years and interim periods beginning after
        November 15, 2008. The Company will adopt the new disclosure requirements
        on or before the required effective date and thus will provide additional
        disclosures in its consolidated financial statements when adopted.
 
 In
        April 2008, FASB Staff Position No. 142-3, Determination of the Useful Life
        of Intangible Assets (FSP 142-3) was issued. This standard amends the factors
        that should be considered in developing renewal or extension assumptions
        used to
        determine the useful life of a recognized intangible asset under FASB Statement
        No. 142, Goodwill and Other Intangible Assets. FSP 142-3 is effective for
        financial statements issued for fiscal years beginning after December 15,
        2008, and interim periods within those fiscal years. Early adoption is
        prohibited. The Company has not determined the impact on its financial
        statements of this accounting standard.
 F-13
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
   NOTE
          2 - ACCOUNTS
          RECEIVABLE
 
 At
        March
        31, 2008 and December 31, 2007, accounts receivable consisted of the
        following:
 
 March
                  31, 2008
              
              December
                  31, 2007Accounts
                  receivable
              
              $
              21,969,425
              
              $
              20,978,910Less:
                  allowance for doubtful accounts
              
              
              (625,345
              )
              
              (548,083
              )$
              21,344,090
              
              $
              20,430,827
 
 NOTE
        3 - INVENTORIES
 
 At
        March
        31, 2008 and December 31, 2007, inventories consisted of the
        following:
 
 March
                  31, 2008
              
              December
                  31, 2007Raw
                  materials
              
              $
              2,727,781
              
              $
              2,312,111Work
                  in process
              
              
              -
              
              
              279,759Packaging
                  materials
              
              
              60,125
              
              
              52,967Finished
                  goods
              
              
              4,039,399
              
              
              808,4566,827,305
              
              
              3,453,293Less:
                  reserve for obsolete inventory
              
              
              (44,323
              )
              
              (42,554
              )$
              6,782,982
              
              $
              3
                  ,410,739
 
 NOTE
        4 - PROPERTY
        AND EQUIPMENT
 
 At
        March
        31, 2008 and December 31, 2007, property and equipment consist of the
        following:
 
 Useful
                  Life
              
              March
                  31, 2008
              
              December
                  31, 2007Office
                  equipment and furniture
              
              5-8
                  Years
              
              $
              160,910
              
              $
              154,488Manufacturing
                equipment
              
              10
                  - 15 Years
              
              
              5,241,797
              
              
              5,032,601Building
                and building improvements
              
              20
                  - 40 Years
              
              
              3,061,134
              
              
              2,938,9668,463,841
              
              
              8,126,055Less:
                accumulated depreciation
              
              
              
              
              
              (2,152,157
              )
              
              (1,956,089
              )$
              6,311,684
              
              $
              6,169,966
 
 For
        the three months ended March 31, 2008 and 2007, depreciation expense amounted
        to
        $112,302 and $88,293, of which $91,058 and $80,785 is included in cost of
        sales,
        respectively.
 F-14
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
 
  NOTE
        5 - INTANGIBLE
        ASSETS
 
 The
        Company has manufacturing rights for two issued drugs. The manufacturing
        rights
        issued are in connection with the Company’s products Valsartan and Brimonidine.
        The manufacturing rights for Valsartan became effective in November 2000
        and had
        a life of 6.5 years, which expired in 2007. The manufacturing rights for
        Brimonidine became effective on August 27, 2005 and have a life of 5
        years.
 
 On
        October 9, 2006, the Company entered into a five-year loan agreement and
        a
        contract with Wu Lan Cha Bu Emergency Hospital (“Wu Lan”), whereby the Company
        agreed to lend to Wu Lan approximately $3,840,000 for the construction of
        a
        hospital ward in Inner Mongolia, China. In exchange for agreeing to lend
        to Wu
        Lan the funds, Wu Lan agreed that
        the Company will be the exclusive provider for all medicines and disposable
        medical treatment apparatus to Wu Lan for a period of twenty (20) years.
        In
        October 2006, the Company’s chief executive officer, Mr. Liu, lent these funds
        to Wu Lan on behalf of the Company. The Company entered into an assignment
        agreement whereby the Company assigned all of its rights, obligations, and
        receipts under the Loan Agreement to Mr. Liu, except for the rights to revenues
        from the sale of medical and disposable medical treatment apparatus which
        will
        remain with the Company. As compensation to Mr. Liu for accepting the assignment
        under the loan agreement including all of the risks and obligations and for
        Liu
        not accepting the rights to revenues from the sale of medical and disposable
        medical treatment apparatus which will remain with the Company, the Company
        agreed to pay Mr. Liu an aggregate of approximately $1,150,000 in 5 equal
        annual
        installments of approximately $230,000. Accordingly, the Company recorded
        an
        intangible asset of $1,151,263 related to exclusive rights to provide all
        medicines and disposable medical treatment apparatus to Wu Lan for a period
        of
        twenty (20) years. The Company will amortize this exclusive right over a
        term of
        20 years.
 
 At
        March 31, 2008 and December 31, 2007, intangible assets consist of the
        following:
  March
                  31, 2008
              
              December
                  31, 2007Manufacturing
                  rights
              
              $
              1,236,898
              
              $
              1,187,569Revenue
                  rights
              
              
              1,281,686
              
              
              1,230,5002,518,584
              
              
              2,418,069Less:
                  accumulated amortization
              
              
              (1,210,965
              )
              
              (1,126,747
              )$
              1,307,619
              
              $
              1,291,322
 
 Amortization
        expense amounted to approximately $36,582 and $36,341 for three months ended
        March 31, 2008 and 2007, respectively.
 
 NOTE
        6 - OTHER
        RECEIVABLES
 
 In
        February 2008, the Company entered into an agreement with a Beijing based
        biotech company to advance the biotech company approximately RMB 19.8 million
        ($2,825,321). In return, the biotech company agreed to assist the Company
        to
        complete certain transactions. The advance is non-interest bearing and short
        term in nature. As of May 15, 2008, such advanced amount has been fully repaid.
        At March 31, 2008 and December 31, 2007, the Company’s other receivable balance
        amounted to $2,825,321 and $0, respectively.
 F-15
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
 NOTE
        7 - RELATED
        PARTY TRANSACTIONS
  **Notes
        payable - related parties**
 
 Notes
        payable - related parties consisted of the following at March 31, 2008 and
        December 31, 2007:
 
 March
                  31, 2008
              
              December
                  31, 2007Note
                  to Song Guoan, father of Song Zheng Hong, director and spouse of
                  Liu Zhong
                  Yi, due on December 30, 2015 with variable annual interest at 80%
                  of
                  current bank rate (6.26% at March 31, 2008 and December 31, 2007),
                  and
                  unsecured
              
              $
              743,666
              
              $
              1,895,424Note
                  to Zheng Gui Xin, employee, due on December 30, 2015 with with
                  variable
                  annual interest at 80% of current bank rate (6.26% at March 31,
                  2008 and
                  December 31, 2007), and unsecured
              
              
              1,609,894
              
              
              1,545,645Note
                  to Ma Zhao Zhao, employee, due on December 30, 2015 with variable
                  annual
                  interest at 80% of current bank rate (6.26% at March 31, 2008 and
                  December
                  31, 2007), and unsecured
              
              
              644,759
              
              
              619,027Note
                  to Liu Zhong Yi, officer and director, due on December 30, 2015
                  with
                  variable annual interest at 80% of current bank rate (6.26% at
                  March 31,
                  2008 and December 31, 2007), and unsecured
              
              
              1,372,454
              
              
              136,244Note
                  to Song Zheng Hong, director and spouse of the Company chief executive
                  officer, Liu Zhong Yi, due on December 30, 2015 with variable annual
                  interest at 80% of current bank rate (6.26% at March 31, 2008 and
                  December
                  31, 2007), and unsecured
              
              
              564,706
              
              
              542,168Total
                  notes payable - related parties, long term
              
              $
              4,935,479
              
              $
              4,738,508
 
 For
        the
        three months ended March 31, 2008 and 2007, interest expense related to these
        related loans amounted to $76,258 and $55,489, respectively.
 
 **Due
        to related parties**
 
 Several
        employees of the Company, from time to time, provided advances to the Company
        for operating expenses. During the three months ended March 31, 2008 and
        2007,
        the Company repaid approximately $0 and $58,300 of these advances, respectively.
        At March 31, 2008 and December 31, 2007, the Company had a payable to these
        employees amounting to $89,956 and $95,280, respectively. These advances
        are
        short-term in nature and non-interest bearing.
 
 The
        chief
        executive officer of the Company and his spouse, from time to time, provided
        advances to the Company for operating expenses. During
        the three months ended March 31, 2008 and 2007, the Company repaid approximately
        $0 and $116,500 of these advances, respectively.  At
        March
        31, 2008 and December 31, 2007, the Company had a payable to the chief executive
        officer and his spouse amounting to $317,854 and $0, respectively. These
        advances are short-term in nature and non-interest bearing.
 F-16
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
  NOTE
        7 - RELATED
        PARTY TRANSACTIONS (continued)
 
 On
        October 9, 2006, the Company entered into a five-year loan agreement and
        a
        contract with Wu Lan Cha Bu Emergency Hospital (“Wu Lan”), whereby the Company
        agreed to lend to Wu Lan approximately $3,840,000 for the construction of
        a
        hospital ward in Inner Mongolia, China. In exchange for agreeing to lend
        to Wu
        Lan the funds, Wu Lan agreed that the Company will be the exclusive provider
        for
        all medicines and disposable medical treatment apparatus to Wu Lan for a
        period
        of twenty (20) years. In October 2006, the Company’s chief executive officer,
        Mr. Liu, lent these funds to Wu Lan on behalf of the Company. Accordingly,
        the
        Company entered into an assignment agreement whereby the Company assigned
        all of
        its rights, obligations, and receipts under the Loan Agreement to Mr. Liu,
        except for the rights to revenues from the sale of medical and disposable
        medical treatment apparatus which will remain with the Company. As compensation
        to Mr. Liu for accepting the assignment under the loan agreement including
        all
        of the risks and obligations and for Mr. Liu not accepting the rights to
        revenues from the sale of medical and disposable medical treatment apparatus
        which will remain with the Company, the Company agreed to pay Mr. Liu an
        aggregate of approximately $1,137,000 to be paid in 5 equal annual installments
        of approximately $230,000. Accordingly, the Company recorded an intangible
        asset
        of approximately $1,137,000 related to exclusive rights to provide all medicines
        and disposable medical treatment apparatus to Wu Lan for a period of twenty
        (20)
        years and a corresponding related party liability. For the three months ended
        March 31, 2008 and for the year ended December 31, 2007, the Company paid
        approximately $0 and $195,000 of this related party liability, respectively.
        At
        March 31, 2008 and December 31, 2007, amounts due under this assignment
        agreement amounted to $1,062,985 and $966,198 of which $768,990 and $ 738,300
        is
        included in long-term liabilities and has been included in due to related
        parties on the accompanying balance sheet, respectively.
 
 At
        March 31, 2008 and December 31, 2007, the Company has recorded accrued interest
        relating to notes payable - related parties of $77,925 and $61,208, respectively
        which has been included in due to related parties on the accompanying balance
        sheets.
 
 NOTE
        8 - CONVERTIBLE
        DEBT
 
 The
        convertible debenture liability is as follows at December 31, 2007:
  Convertible
                debentures payable
              
              $
              2,770,000Less:
                unamortized discount on
                debentures
              
              
              (208,355
              )Convertible
                debentures, net
              
              $
              2,561,645
  In
        February 2008, in connection with a private placement (See Note 9), the
        convertible debt and any unpaid interest was repaid in full. As of March
        31,
        2008, the balance of the convertible debt is $0.
 
 NOTE
        9 - CONVERTIBLE
        REDEEMABLE PREFERRED STOCKS
  On
        February 25, 2008, the Company entered into a Convertible Redeemable Preferred
        Share and Warrant Purchase Agreement (the "Purchase Agreement") by and among
        the
        Company, Dr. Liu Zhong Yi and Mrs. Song Zhenghong (the "Founders"), and
        accredited investors (each a "Purchaser" and collectively, the "Purchasers"),
        pursuant to which the Company sold to the Purchasers 5,747,118 shares of
        the
        Company's series A convertible redeemable preferred stock and warrants
        to purchase 2,873,553 shares of the Company's common stock, in a private
        placement ( the
        “February 2008 Private Placement”) pursuant
        to Regulation D under the Securities Act of 1933, for the aggregate purchase
        price of $5 million (the "Transaction"). The Transaction closed on February
        25,
        2008 (the "Closing Date"). Net proceeds, exclusive of expenses of the
        Transaction, from the sale to the Company were $4.6 million, after the Company
        paid fees of  approximately
        $469,000 of which $400,000 was paid to Maxim Group, LLC, its placement agent
        for
        the Transaction. The Company used $2,576,556 of the net proceeds of the
        Transaction to repay in full all of its outstanding principal obligations
        including accrued interest under the 14% Secured Convertible Notes due February
        2008 and the Company will use the remainder of the net proceeds for working
        capital and general corporate purposes.
 F-17
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
 NOTE
        9 - CONVERTIBLE
        REDEEMABLE PREFERRED STOCKS (continued)
 
 The
        Purchase Agreement includes customary representations and warranties by each
        party thereto. The following is a brief description of the terms and conditions
        of the Purchase Agreement and the transactions contemplated there under that
        are material
        to the Company:
 
 Pursuant
        to the Purchase Agreement, the Company issued to the Purchasers an aggregate
        of
        5,747,118 shares of the Company's series A convertible redeemable preferred
        stock, par value $0.001 per share, at a price equal to $0.87 per share (the
        "Preferred Shares"). Each of these Preferred Shares may be converted into
        one
        share of the Company's common stock, par value $0.001 per share (as adjusted
        for
        stock splits, stock dividends, reclassification and the like). The Preferred Shares
        pay an 8% dividend annually, which is payable in additional Preferred Shares.
        Preferred Shares also pay any dividend paid on the common shares on an as
        converted basis. For a period of 90 days after February 25, 2010, these Preferred
        Shares may also be redeemed at the option of the Purchasers at the redemption
        price of $0.87 per share (as adjusted for stock splits, stock dividends,
        reclassification and the like), and no other capital stock of the Company
        may be
        redeemable prior to the Preferred Shares. Holders of Preferred Shares may
        not
        convert Preferred Shares to common shares if the conversion would result
        in the
        holder beneficially owning more than 4.99% of the Company's outstanding common
        shares. That limitation may be waived by a holder of Preferred Shares on
        not
        less than 61 days written notice to the Company. In addition, the Company
        issued
        to the Purchasers warrants to purchase up to 2,873,553 shares of the Company's
        common stock in the aggregate. The warrants have an initial exercise price
        of
        $1.20 (subject to adjustment pursuant to the terms of the warrants). The
        warrants are exercisable for a period of five (5) years from the Closing
        Date.
        Holders of the warrants may not exercise the warrants if the exercise would
        result in the holder beneficially owning more than 4.99% of the Company's
        outstanding common shares. That limitation may be waived by a holder of the
        warrants on not less than 61 days written notice to the Company.
 
 Other
        key provisions of the Feburary 2008 Private Placement:
 
 ·
            The
                Preferred Shares vote with the common stock on an as converted basis,
                except that the Preferred Shares are not entitled to vote for directors.
                The Company is prohibited from taking certain corporate actions,
                including, without limitation, issuing securities senior to the Preferred
                Shares, selling substantially all assets, repurchasing securities
                and
                declaring or paying dividends, without the approval of the holders
                of a
                majority of the Preferred Shares
                outstanding. 
 ·
            The
                Company agreed to undertake to file a registration statement within
                60
                days following the Closing Date in order to register the maximum
                number of
                common stock issuable from conversion of the Preferred Shares and
                underlying the warrants that is allowable under applicable federal
                securities regulations. The Company is also obligated to have the
                registration statement declared effective within 120 days following
                the
                Closing Date. If the Company is informed by the SEC that there are
                no
                comments to the registration statement, then the registration statement
                must be effective within five (5) business days thereafter or on
                the 60th
                day after the filing date, whichever is sooner. The registration
                statement
                must be declared effective by the 120th day after its filing if the
                SEC
                has comments. Otherwise, the Company is subject to liquidated damages,
                equal to 1% of the total conversion price and exercise price for
                the
                common stock being registered under the registration statement, for
                every
                30-day period following the date that the registration statement
                should
                have been effective, prorated for any period less than 30 days, until
                either all of common shares registered under the registration statement
                have been sold or all such common shares may be sold in any three
                (3)
                month period pursuant to Rule 144 promulgated under the Securities
                Act,
                whichever is earlier. The Company must also pay the liquidated damages
                if
                sales cannot be made pursuant to the registration statement for any
                reason
                (excepting market conditions). The maximum amount of liquidated damages
                is
                $500,000. 
 ·
            The
                Founders delivered in the aggregate 7,500,000 shares of the Company's
                common stock owned by them (the "Escrow Shares") to an escrow account.
                Portions of the Escrow Shares are being held in escrow subject to
                the
                Company meeting certain earning targets in fiscal years 2007, 2008
                and
                2009. The target for 2007 is $8.5 million in net income. The target
                for
                2008 is 95% of $13.8 million in net income after eliminating the
                effect of
                non-cash charges associated with the Transaction and adjusting for
                differences in the exchange rate between Chinese F-18
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
 NOTE
        9 - CONVERTIBLE
        REDEEMABLE PREFERRED STOCKS (continued)
 
 Renminbi
        and US dollars used in the Company's 2008 financial statements and an exchange
        rate of RMB 7.30 to USD 1.00. The target for 2009 is 95% of $17.5 million
        in net
        income after eliminating the effect of non-cash charges associated with the
        Transaction and adjusting for differences in the exchange rate between Chinese
        Renminbi and US dollars used in the Company's 2009 financial statements and
        an
        exchange rate of RMB 7.30 to USD 1.00. These Escrow Shares will be transferred
        to the Purchasers if the Company does not meet the earning targets, and released
        back to the Founders if the Company does. Another portion of the Escrow Shares
        is being held in escrow subject to the Company listing on the NASDAQ Stock
        Market within 18 months following the Closing Date. These Escrow Shares will
        be
        transferred to the Purchasers if the listing is not completed within that
        time
        period, and released back to the Founders if it is. Finally, two-thirds of
        the
        Escrow Shares are held in escrow to ensure that the Purchasers receive their
        full redemption payments if they choose to redeem their Preferred Shares.
        Each
        Preferred Share may be redeemed for $0.87 per share (adjusted for stock splits,
        stock dividends, reclassification and the like). If a Purchaser receives
        less
        than the full redemption amount for each Preferred Share being redeemed,
        the
        Purchaser will receive a number of Escrow Shares to make up the difference,
        based on the then-current market price of the common shares. Following the
        end
        of the redemption period, these Escrow Shares, less those transferred to
        any
        Purchasers that redeemed their Preferred Shares, will be released back to
        the
        Founders.
 
 In
        connection with the issuance of the series  A
        convertible redeemable preferred stock and warrants to purchase 2,873,553
        shares
        of the Company's common stock, the Company recorded a total debt discount
        of
        $2,033,025 to be amortized over the term of this Purchase Agreement. For
        the
        three months ended March 31, 2008, amortization of debt discount amounted
        to
        $84,709 and has been included in interest expense.
 
 For
        the
        three months ended March 31, 2008, the Company evaluated whether or not the
        series A convertible redeemable preferred stock contain embedded conversion
        options, which meet the definition of derivatives under SFAS 133 “Accounting for
        Derivative Instruments and Hedging Activities” and related interpretations. The
        Company concluded that since the series A convertible redeemable preferred
        stock
        had a fixed redemption price of $0.87, the convertible redeemable preferred
        stock was not a derivative instrument. The Company analyzed this provision
        under
        EITF 05-04 and therefore it qualified as equity under EITF 00-19.
 
 The series
        A
        convertible redeemable preferred stock is as follows at March 31, 2008:
  Series
                A convertible redeemable preferred
                stock
              
              $
              5,000,000Less:
                unamortized discount
              
              
              (1,948,316
              )Series
                A convertible redeemable preferred
                stock,
                net
              
              $
              3,051,684
 
 NOTE
        10 - SHAREHOLDERS’
        EQUITY
  In
        January 2008, the Company issued 250,000 shares of its common in connection
        with
        the conversion of $250,000 of convertible debt.
 
 Stock
        warrants
 
 In
        January, 2008, the Company granted 250,000 stock warrants to a consulting
        company at an exercise price of $1.50 per share in connection with a one
        year
        contract. The warrants are not vested until January 2009. The Company valued
        these warrants utilizing the Black-Scholes options pricing model at
        approximately $0.71 per warrant or $171,187 in total and recorded a prepaid
        consulting expense of $171,187 for the period ended March 31, 2008. Those
        warrants will expire in January 2012. For the three months ended March 31,
        2008,
        the Company recorded amortization expenses of $ 29,698 related to the consulting
        contract.
 F-19
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
 NOTE
        10 - SHAREHOLDERS’
        EQUITY (continued)
 
 In
        connection with the preferred share financing (See Note 9), the Company granted
        2,873,553 warrants to investors purchase up to 2,873,553 shares of common
        stock
        of the Company at an exercise price of $1.20 per share. The Warrants have
        a term
        of 5 years after the issue date of February 12, 2007. Additionally, the
        Company granted 603,446 stock warrants to an investment banking firm at an
        exercise price of $1.21 per share. The Company valued these warrants utilizing
        the Black-Scholes options pricing model at approximately $0.54 per warrant
        or
        $323,565 in total and recorded a deferred financing costs of $323,565. Those
        warrants will expire in February 2013 .
 
 On
        February 25, 2008, pursuant to a Convertible Redeemable Preferred Share and
        Warrant Purchase Agreement (See Note
        9),
        the exercise price of the 1,500,000 warrants granted in February 2007 were
        reduced to $0.87 per share.
 
 Stock
        warrants issued, terminated/forfeited and outstanding during the three months
        ended March 31, 2008 (unaudited) are as follows:
  **Shares**
              
              **Average**
                **Exercise**
                **price per**
                **share**Warrants
                  outstanding December 31, 2007
              
              
              1,500,000
              
              
              0.87Warrants
                  issued
              
              
              3,726,999
              
              
              1.22Warrants
                  terminated/forfeited
              
              
              -
              
              
              -Warrants
                  exercised
              
              
              -
              
              
              -Warrants
                  outstanding, March 31, 2008
              
              
              5,226,999
              
              
              1.12
  N OTE
        11 - SEGMENT
        INFORMATION
 
 The
        following information is presented in accordance with SFAS No. 131, Disclosure
        about Segments of an Enterprise and Related Information. For the three months
        ended March 31, 2008 and 2007, the Company operated in two reportable business
        segments - (1) the manufacture and distribution of pharmaceutical products
        and
        (2) the retailing of traditional and Chinese medicines and supplies through
        ten
        drug stores located in Beijing China and other ancillary revenues generated
        from
        retail location such as advertising income, rental income, and examination
        income. The Company's reportable segments are strategic business units that
        offer different products. They are managed separately based on the fundamental
        differences in their operations.
  Information
        with respect to these reportable business segments for the three months ended
        March 31, 2008 and 2007 is as follows:
  
 **2008**
              
              **Wholesale
                  andthird-party manufacturing**
              
              **RetailOperations**
              
              **Unallocated**
              
              **Total****Net
                  Revenues**
              
              $
              10,678,987
              
              $
              863,483
              
              $
              166,707
              
              $
              11,709,177**Cost
                  of Sales (excluding depreciation)**
              
              
              7,189,964
              
              
              481,996
              
              
              5,407
              
              
              7,677,367**Operating
                  expenses (excluding depreciation and
                  amortization)**
              
              
              -
              
              
              -
              
              
              2,401,153
              
              
              2,401,153**Depreciation
                  and Amortization**
              
              
              86,505
              
              
              4,553
              
              
              57,826
              
              
              148,884**Other
                  Expense**
              
              
              -
              
              
              -
              
              
              62,886
              
              
              62,886**Interest
                  Expense**
              
              
              -
              
              
              -
              
              
              422,788
              
              
              422,788**Net
                  Income**
              
              $
              3,402,518
              
              $
              376,934
              
              $
              (2,783,353
              )
              $
              996,099
 F-20
 LOTUS
          PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
          TO
          UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
          31,
          2008
 
 N OTE
          11 - SEGMENT
          INFORMATION (continued)
  **2007**
              
              **Wholesale
                  andthird-party manufacturing**
              
              **RetailOperations**
              
              **Unallocated**
              
              **Total****Net
                  Revenues**
              
              $
              7,285,050
              
              $
              926,551
              
              $
              77,934
              
              $
              8,289,535**Cost
                  of Sales (excluding depreciation)**
              
              
              5,140,930
              
              
              429,973
              
              
              7,029
              
              
              5,577,932**Operating
                  expenses (excluding depreciation and
                  amortization)**
              
              
              -
              
              
              -
              
              
              1,413,761
              
              
              1,413,761**Depreciation
                  and Amortization**
              
              
              80,735
              
              
              4,249
              
              
              39,650
              
              
              124,634**Other
                  Expense**
              
              
              -
              
              
              -
              
              
              83,340
              
              
              83,340**Interest
                  Expense**
              
              
              -
              
              
              -
              
              
              252,567
              
              
              252,567**Net
                  Income**
              
              $
              2,063,385
              
              $
              492,329
              
              $
              (1,718,413
              )
              $
              837,301
 
 The
        Company does not allocate all of its operating expenses to its reportable
        segments, because these activities are managed at a corporate
        level.
 
 Asset
        information by reportable segment is not reported to or reviewed by the chief
        operating decision maker and, therefore, the Company has not disclosed asset
        information for each reportable segment. Substantially all of the Company’s
        assets are located in China.
 
 NOTE
        12 - OPERATING
        RISK
 
 (a)
        Country risk
 
 Currently,
        the Company’s revenues are primarily derived from the sale of pharmaceutical
        products to customers in the Peoples Republic of China (PRC). The Company
        hopes
        to expand its operations to countries outside the PRC, however, such expansion
        has not been commenced and there are no assurances that the Company will
        be able
        to achieve such an expansion successfully. Therefore, a downturn or stagnation
        in the economic environment of the PRC could have a material adverse effect
        on
        the Company’s financial condition.
 
 (b)
        Products risk
 
 In
        addition to competing with other manufacturers of pharmaceutical product
        offerings, the Company competes with larger Chinese and International companies
        who may have greater funds available for expansion, marketing, research and
        development and the ability to attract more qualified personnel. These Chinese
        companies may be able to offer products at a lower price. There can be no
        assurance that the Company will remain competitive.
 
 (c)
        Political risk
 
 Currently,
        PRC is in a period of growth and is openly promoting business development
        in
        order to bring more business into PRC. Additionally PRC allows a Chinese
        corporation to be owned by a United States corporation. If the laws or
        regulations are changed by the PRC government, the Company's ability to operate
        the PRC subsidiaries could be affected.
 F-21
 LOTUS
            PHARMACEUTICALS, INC. AND SUBSIDIARIES
 NOTES
            TO
            UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 MARCH
            31,
            2008
   NOTE
          13 - SUBSEQUENT
          EVENTS
 
 In
        April 2008, the Company issued in aggregate 331,668 shares of restricted
        common
        stock to the several directors, consultants and officers of the Company for
        services rendered. The Company valued these common shares at
        the
        fair market value on the date of grant at $1.16 per share or $384,735 in total. In
        connection with issuance of these shares, the Company recorded stock-based
        expenses of approximately $385,000.
 
 In
        April 2008, in connection with a cashless exercise of 60,000 warrants, the
        Company issued 9,077 shares of common stock accordingly.




F-22


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





**Overview**





We
      operate, control and beneficially own the pharmaceutical businesses in China
      of
      Lotus East under the terms of the Contractual Arrangements. Other than the
      Contractual Arrangements with Lotus East, we do not have any business or
      operations. Pursuant to the Contractual Arrangements we provide business
      consulting and other general business operation services to Lotus East. Through
      these Contractual Arrangements, we have the ability to control the daily
      operations and financial affairs of Lotus East, appoint each of their senior
      executives and approve all matters requiring stockholder approval. As a result
      of these Contractual Arrangements, which enable us to control Lotus East, we
      are
      considered the primary beneficiary of Lotus East. Accordingly, we consolidate
      Lotus East's results, assets and liabilities in our financial statements. The
      creditors of Lotus East, however, do not have recourse to any assets we may
      have.





PRC
      law
      currently places certain limitations on foreign ownership of Chinese companies.
      To comply with these foreign ownership restrictions, we operate our business
      in
      China through the Contractual Arrangements with Lotus East. The contractual
      relationship among the above companies as follows:







Based
      in
      Beijing, China, Lotus East is engaged in the production, trade and retailing
      of
      pharmaceuticals, focusing on the development of innovative medicines and
      investing in strategic growth to address various medical needs. Lotus East
      owns
      and operates 10 drug stores throughout Beijing, China that sell Western and
      traditional Chinese medications, lease medical treatment facilities to licensed
      physicians, and generate revenues from the leasing of retail space to third
      party vendors and the leasing of advertising locations at its retail stores.




When
      used in this section, and except as may be set forth otherwise, the terms "we,"
      "us," "ours," and similar terms includes Lotus and its subsidiary Lotus
      International as well as Lotus East.




CRITICAL
      ACCOUNTING POLICIES AND ESTIMATES





Our
      discussion and analysis of our financial condition and results of operations
      are
      based on our financial statements, which have been prepared in accordance with
      accounting principles generally accepted in the United States of America. The
      preparation of these financial statements requires us to make estimates and
      judgments that affect the reported amounts of assets, liabilities and expenses.
      On an ongoing basis, we evaluate our estimates and judgments, including those
      related to accrued expenses, fair valuation of stock related to stock-based
      compensation and income taxes. We based our estimates on historical experience
      and on various other assumptions that we believe to be reasonable under the
      circumstances, the results of which form the basis for making judgments about
      the carrying values of assets and liabilities that are not readily apparent
      from
      other sources. Actual results may differ from these estimates under different
      assumptions or conditions.





REVENUE
      RECOGNITION





Product
      sales. Product sales are generally recognized when title to the product has
      transferred to customers in accordance with the terms of the sale. We recognize
      revenue in accordance with the Securities and Exchange Commission's (SEC) Staff
      Accounting Bulletin (SAB) No. 101, " Revenue Recognition in Financial Statements
      " as amended by SAB No. 104 (together, "SAB 104"), and Statement of Financial
      Accounting Standards (SFAS) No. 48 " Revenue Recognition When Right of Return
      Exists. " SAB 104 states that revenue should not be recognized until it is
      realized or realizable and earned. In general, we record revenue when persuasive
      evidence of an arrangement exists, services have been rendered or product
      delivery has occurred, the sales price to the customer is fixed or determinable,
      and collectability is reasonably assured.





5


SFAS
      No. 48 states that revenue from sales transactions where the buyer has the
      right
      to return the product shall be recognized at the time of sale only if the
      seller's price to the buyer is substantially fixed or determinable at the date
      of sale, the buyer has paid the seller, or the buyer is obligated to pay the
      seller and the obligation is not contingent on resale of the product, the
      buyer's obligation to the seller would not be changed in the event of theft
      or
      physical destruction or damage of the product, the buyer acquiring the product
      for resale has economic substance apart from that provided by the seller, the
      seller does not have significant obligations for future performance to directly
      bring about resale of the product by the buyer, and the amount of future returns
      can be reasonably estimated.





We
      recognize revenue for the sale of pharmaceutical products and for payments
      received, if any, under reimbursement of development costs as follows:





*Product
      Sales* .
      Revenue from product sales, net of estimated provisions, is recognized when
      there is persuasive evidence that an arrangement exists, delivery has occurred,
      the selling price is fixed or determinable, and collectability is reasonably
      probable. Our customers consist of pharmaceutical wholesalers who sell directly
      into the retail channel, hospitals, and retail customers. Provisions for sales
      discounts, and estimates for chargebacks, and product returns are established
      as
      a reduction of product sales revenue at the time revenues are recognized, based
      on historical experience adjusted to reflect known changes in the factors that
      impact these reserves. Factors include current contract prices and terms,
      estimated wholesaler inventory levels, remaining shelf life of product, and
      historical information for similar products in the same distribution channel.
      These revenue reductions are generally reflected either as a direct reduction
      to
      accounts receivable through an allowance, or as an addition to accrued expenses
      if the payment is due to a party other than the customer.





PRODUCT
      RETURNS.





We
      account for sales returns in accordance with Statements of Financial Accounting
      Standards (SFAS) No. 48, Revenue Recognition When Right of Return Exists, by
      establishing an accrual in an amount equal to its estimate of sales recorded
      for
      which the related products are expected to be returned. We determine the
      estimate of the sales return accrual primarily based on historical experience
      regarding sales returns, but also by considering other factors that could impact
      sales returns. These factors include levels of inventory in the distribution
      channel, estimated shelf life, product discontinuances, and price changes of
      competitive products, introductions of generic products and introductions of
      competitive new products. In general, for wholesale sales, we provide credit
      for
      product returns that are returned six months prior to and up to six months
      after
      the product expiration date. Upon sale, we estimate an allowance for future
      product returns. We provide additional reserves for contemporaneous events
      that
      were not known and knowable at the time of shipment.





In
      order to reasonably estimate future returns, we analyzed both quantitative
      and
      qualitative information including, but not limited to, actual return rates,
      the
      level of product manufactured by us, the level of product in the distribution
      channel, expected shelf life of the product, current and projected product
      demand, the introduction of new or generic products that may erode current
      demand, and general economic and industry wide indicators. We also utilize
      the
      guidance provided in SAB 104 in establishing our return estimates.





Other
      revenues. Other revenues consist of (i) rental income received for the lease
      of
      retail space to various retail merchants; (ii) advertising revenues from the
      lease of counter space at our retail locations; (iii) rental income from the
      lease of retail space to licensed medical practitioners; and (iv) revenues
      received by us for research and development projects. We recognize revenues
      upon
      performance of such funded research. We recognize revenues from leasing of
      space
      as earned from contracting third parties. Revenues received in advance are
      reflected as deferred revenue on the accompanying balance sheets. Additionally,
      we receive income from the sale of developed drug formulas. Income from the
      sale
      of drug formulas are recognized upon performance of all of our obligations
      under
      the respective sales contract and are included in other income on the
      accompanying consolidated statement of operations.





ACCOUNTS
      RECEIVABLE





Accounts
      receivable are carried at original invoice amount less an estimate made for
      doubtful receivables based on a review of all outstanding amounts on a monthly
      basis. Management judgment and estimates are made in connection with
      establishing the allowance for doubtful accounts. Specifically, we analyze
      the
      aging of accounts receivable balances, historical bad debts, customer
      concentrations, customer credit-worthiness, current economic trends and changes
      in our customer payment terms. Significant changes in customer concentration
      or
      payment terms, deterioration of customer credit-worthiness or weakening in
      economic trends could have a significant impact on the collectability of
      receivables and our operating results. If the financial condition of our
      customers were to deteriorate, resulting in an impairment of their ability
      to
      make payments, additional allowances may be required





INVENTORIES





Inventories
      are stated at the lower of cost or market with cost determined under the
      weighted-average method. Inventory consists of finished capsules, liquids,
      finished oral suspension powder and other western and traditional Chinese
      medicines and medical equipment. At least on a quarterly basis, we review our
      inventory levels and write down inventory that has become obsolete or has a
      cost
      basis in excess of its expected net realizable value or is in excess of expected
      requirements. Inventory levels are evaluated by management relative to product
      demand, remaining shelf life, future marketing plans and other factors, and
      reserves for obsolete and slow-moving inventories are recorded for amounts
      which
      may not be realizable.





6


PROPERTY
      AND EQUIPMENT





Property
      and equipment are carried at cost. The cost of repairs and maintenance is
      expensed as incurred; major replacements and improvements are capitalized.
      When
      assets are retired or disposed of, the cost and accumulated depreciation are
      removed from the accounts, and any resulting gains or losses are included in
      income in the year of disposition. In accordance with Statement of Financial
      Accounting Standards (SFAS) No. 144, "Accounting for the Impairment or Disposal
      of Long-Lived Assets", we examine the possibility of decreases in the value
      of
      fixed assets when events or changes in circumstances reflect the fact that
      their
      recorded value may not be recoverable.





Depreciation
      is calculated on a straight-line basis over the estimated useful lives of the
      assets. The useful lives for property and equipment are as follows:




Buildings and leasehold improvement
            
            20
                to 40 yearsManufacturing equipment
            
            10
                to 15 yearsOffice equipment and furniture
            
            5
                to 8
                years





INCOME
      TAXES





Taxes
      are calculated in accordance with taxation principles currently effective in
      the
      United States and PRC. We account for income taxes using the liability method.
      Deferred tax assets and liabilities are recognized for the future tax
      consequences attributable to differences between the financial statement
      carrying amounts of existing assets and liabilities and their respective tax
      bases. Deferred tax assets and liabilities are measured using enacted tax rates
      expected to apply to taxable income in the years in which those temporary
      differences are expected to be recovered or settled. The effect on deferred
      tax
      assets and liabilities of a change in tax rates is recognized as income in
      the
      period that includes the enactment date. A valuation allowance is provided
      for
      the amount of deferred tax assets that, based on available evidence, are not
      expected to be realized.





RECENT
      ACCOUNTING PRONOUNCEMENTS





In
      September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements" (SFAS
      157), which provides guidance for how companies should measure fair value when
      required to use a fair value measurement for recognition or disclosure purposes
      under generally accepted accounting principle (GAAP). SFAS 157 is effective
      for
      fiscal years beginning after November 15, 2007. The adoption of SFAS 157 did
      not
      have a material impact on our financial statements.





In
      December 2006, FASB Staff Position No. EITF 00-19-2, "Accounting for
      Registration Payment Arrangements," was issued. The FSP specifies that the
      contingent obligation to make future payments or otherwise transfer
      consideration under a registration payment arrangement, whether issued as a
      separate agreement or included as a provision of a financial instrument or
      other
      agreement, should be separately recognized and measured in accordance with
      SFAS
      No. 5, "Accounting for Contingencies." We believe that our current accounting
      is
      consistent with the FSP. Accordingly, adoption of the FSP had no effect on
      our
      financial statements.





In
      February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for
      Financial Assets and Financial Liabilities, Including an Amendment of FASB
      Statement No.115", under which entities will now be permitted to measure many
      financial instruments and certain other assets and liabilities at fair value
      on
      an instrument-by-instrument basis. This Statement is effective as of the
      beginning of an entity's first fiscal year that begins after November 15, 2007.
      Early adoption is permitted as of the beginning of a fiscal year that begins
      on
      or before November 15, 2007, provided the entity also elects to apply the
      provisions of SFAS 157. The adoption of SFAS 159 did not have a material impact
      on our financial statements.





In
      December 2007, the FASB issued Statement of Financial Accounting Standards
      No.
      141R, Business Combinations (SFAS 141R) and Statement of Financial Accounting
      Standards No. 160, Accounting and Reporting of Non-controlling Interests in
      Consolidated Financial Statements, an amendment of ARB No. 51 (SFAS 160). These
      two standards must be adopted in conjunction with each other on a prospective
      basis. The most significant changes to business combination accounting pursuant
      to SFAS 141R and SFAS 160 are the following: (a) recognize, with certain
      exceptions, 100 percent of the fair values of assets acquired, liabilities
      assumed and non-controlling interests in acquisitions of less than a 100 percent
      controlling interest when the acquisition constitutes a change in control of
      the
      acquired entity, (b) acquirers' shares issued in consideration for a business
      combination will be measured at fair value on the closing date, not the
      announcement date, (c) recognize contingent consideration arrangements at their
      acquisition date fair values, with subsequent changes in fair value generally
      reflected in earnings, (d) the expensing of all transaction costs as incurred
      and most restructuring costs, (e) recognition of pre-acquisition loss and gain
      contingencies at their acquisition date fair values, with certain exceptions,
      (f) capitalization of acquired in-process research and development rather than
      expense recognition, (g) earn-out arrangements may be required to be re-measured
      at fair value and (h) recognize changes that result from a business combination
      transaction in an acquirer's existing income tax valuation allowances and tax
      uncertainty accruals as adjustments to income tax expense. We anticipate these
      new standards will significantly affect our accounting for future business
      combinations following adoption on January 1, 2009.





7


In
      March 2008, the FASB issued SFAS No. 161, "Disclosures about Derivative
      Instruments and Hedging Activities-- an amendment of FASB Statement No. 133"
      ("FAS 161"). FAS 161 changes the disclosure requirements for derivative
      instruments and hedging activities. Entities are required to provide enhanced
      disclosures about (a) how and why an entity uses derivative instruments, (b)
      how
      derivative instruments and related hedged items are accounted for under
      Statement 133 and its related interpretations, and (c) how derivative
      instruments and related hedged items affect an entity's financial position,
      financial performance, and cash flows. The guidance in FAS 161 is effective
      for
      financial statements issued for fiscal years and interim periods beginning
      after
      November 15, 2008, with early application encouraged. This Statement encourages,
      but does not require, comparative disclosures for earlier periods at initial
      adoption. We are currently assessing the impact of FAS 161.





**Results
      of Operations**





***For
      the Three Months Ended March 31, 2008 Versus Three Months Ended March 31,
      2007***





**Total
      Net Revenues**





Total
      revenues for the three months ended March 31, 2008 were $11,709,177 as compared
      to total revenues of $8,289,535 for the three months ended March 31, 2007,
      an
      increase of $3,419,642 or approximately 41.25%. For the three months ended
      March
      31, 2008 and 2007, net revenues consisted of the following:





2008
            
            2007Wholesale
            
            $
            9,770,097
            
            $
            5,049,121Retail
            
            
            683,748
            
            
            501,242Other
                revenues
            
            
            1,255,332
            
            
            2,739,172Total
                net revenues
            
            $
            11,709,177
            
            $
            8,289,535





**•**
            For
                the three months ended March 31, 2008, wholesale revenues increased
                by
                $4,720,976 or 94%. The significant increase in tangible product revenues
                is mainly attributed to strong sales in Brimonidine Tartrate Eyes
                Drops, a
                drug used to constrict adrenaline receptors, an important step in
                treating
                glaucoma and VALSARTAN Capsules, a medicine for primary hypertension
                or
                high blood pressure. Additionally, sales of third party manufactured
                pharmaceutical products also increased significantly.**•**
            For
                the three months ended March 31, 2008, retail revenues increased
                by
                $182,506 or 36%. The increase is attributable to our continuous efforts
                to
                diversify products carried by our retail stores to provide more varieties
                as well as better quality products.**•**
            For
                the three months ended March 31, 2008, other revenues decreased by
                $1,483,840 or 54%. The decrease in other revenues is attributed to
                the
                following:




2008
            
            2007Leasing
                revenues
            
            $
            179,523
            
            $
            278,617Third-party
                manufacturing
            
            
            908,890
            
            
            2,235,929Advertising
                revenues
            
            
            212
            
            
            146,692Research
                and development and lab testing services
            
            
            166,707
            
            
            77,934Total
                other revenues
            
            $
            1,255,332
            
            $
            2,739,172






**•**
            We
                sublease certain portion our retail stores and counter spaces to
                various
                other vendors and generate leasing revenue. During the three months
                ended
                March 31, 2008, less counter spaces were leased to third parties.
                As a
                result, our leasing revenues
                decreased.




8




**•**
            For
                third-party manufacturing, customers supply the raw materials and
                we are
                paid a fee for manufacturing their products. We had less large
                manufacturing contracts during the three months ended March 31, 2008as
                the demand for the third-party manufacturing decreasedas compared to the same period in 2007, as a result, our third-party
                manufacturing revenue decreased. We anticipate that the third-party
                manufacturing revenue will decrease for the remainder of fiscal 2008.**•**
            A
                large advertisement contract whereby we receive approximately $50,000
                per
                month for the lease of counter and other space at our retail locations
                ended in December 2007. Accordingly, our advertising revenues decreased
                during the three months ended March 31, 2008 as compared to the same
                period in 2007. We are currently in the process of obtaining new
                customers
                to sign similar contracts.**•**
            We
                performed research and development and lab testing projects for various
                third parties and performed drug testing and
                analysis.





**Cost
      of Sales**





Cost
      of sales includes raw materials, packing materials, shipping, and manufacturing
      costs, which includes allocated portion of overhead expenses such as utilities
      and depreciation directly related to product production. For the three months
      ended March 31, 2008, cost of sales amounted to $7,768,425 or approximately
      66%
      of total revenues as compared to cost of sales of $5,662,916 or approximately
      68% of total revenues for the three months ended March 31, 2007. The slight
      decrease in cost of sales as a percentage of total revenue was primarily due
      to
      better purchase pricing management.





**Gross
      Profit**





Gross
      profit for the three months ended March 31, 2008 was $3,940,752 or 34% of total
      revenues, as compared to $2,626,619 or 32% of revenues for the three months
      ended March 31, 2007. The increase in gross profit was attributable to the
      decrease in cost of sales as a percentage of revenue. Although we recognized
      higher than average gross profits during the three months ended March 31, 2008,
      there could be no assurance that we will continue to recognize similar gross
      profit margin in the future.





**Operating
      Expenses**





Total
      operating expenses for the three months ended March 31, 2008 were $2,458,979,
      an
      increase of $1,005,568 or 69%, from total operating expenses in the three months
      ended March 31, 2007 of $1,453,411. This increase included the
      following:





For
      the three months ended March 31, 2008, selling expenses amounted to $1,122,337
      as compared to $558,724 for the three months ended March 31, 2007, an increase
      of $563,613 or 101%. This increase is primarily attributable to an increase
      in
      commission paid to our sales representatives to provide better incentives.
      Additionally, other selling related expenses such as travel and entertainment,
      and sales conferences and training also increased as the sales related
      activities increased. We expect our selling expenses to increase as our revenues
      increase and expect to spend increased funds on advertising and promotion of
      our
      products as well as sales training.





For
      the three months ended March 31, 2008, research and development costs amounted
      to $710,225 as compared to $91,822 for the three months ended March 31, 2007,
      an
      increase of $618,403 or 673%. In late 2007, we entered into several research
      and
      development agreements with third parties for the design, research and
      development of designated pharmaceutical projects and as a result, expenses
      related to those research and development projects increased during the three
      months ended March 31, 2008.





For
      the three months ended March 31, 2008, general and administrative expenses
      were
      $626,417 as compared to $802,865 for the three months ended March 31, 2007,
      a
      decrease of $176,448, or 22% as summarized below:




Three
                months ended
              March
                31,2008
            
            2007Salaries
                and related benefits
            
            $
            269,468
            
            $
            389,481Amortization
                and depreciation expenses
            
            
            57,826
            
            
            43,816Rent
            
            
            51,168
            
            
            67,277Travel
                and entertainment
            
            
            19,762
            
            
            51,504Professional
                fees
            
            
            39,980
            
            
            53,100Other
            
            
            188,213
            
            
            197,687Total
            
            $
            626,417
            
            $
            802,865





9


The
      changes in these expenses from the three months ended March 31, 2008 as compared
      to the three months ended March 31, 2007 included the following:





•
            Salaries
                and related benefits decreased $120,013 or 31% primarily due to decrease
                salary and bonuses paid to administrative personnel and decreased
                use of
                part time employees.•
            Amortization
                of our intangible assets and depreciation on our fixed assets increased
                by
                $14,010 or approximately 32% which is primarily attributable to certain
                fixed assets that were purchased in March 2007 and as a result, an
                increase in depreciation for the three months ended March 31,
                2008.•
            Rent
                decreased by $16,109 or approximately 24%.•
            Travel
                and entertainment expenses decreased by $31,742or 62% as a result
                of
                corporate spending control effort.•
            Professional
                fees decreased $13,120 or 25% due to primarily decreased in legal
                fees.•
            Other
                selling, general and administrative expenses, which includes utilities,
                office supplies and expenses decreased by $9,474 or approximately
                5%.





**Income
      from Operations**





We
      reported income from operations of $1,481,773 for the three months ended March
      31, 2008 as compared to income from operations of $1,173,208 for the three
      months ended March 31, 2007, an increase of $308,565 or approximately
      26%.





**Other
      Expense**





For
      the three months ended March 31, 2008, total other expense amounted to $485,674
      as compared to other expense of $335,907 for the three months ended March 31,
      2007, an increase of $149,767 or 45%. This change is primarily attributable
      to:





•
            For
                the three months ended March 31, 2008, we recorded debt issuance
                costs of
                $62,886 compared to $29,340 for the three months ended March 31,
                2007 due
                to our recent funding during the first quarter of 2008.•
            For
                the three months ended March 31, 2007, we recorded registration rights
                penalties related to the late filing of our registration statement
                on Form
                SB-2 for which there was no comparable expense in the 2008
                period..•
            For
                the three months ended March 31, 2008, interest expense was $423,349
                as
                compared to $252,567 for the three months ended March 31, 2007, an
                increase of $149,767. This increase is primarily attributable to
                the
                amortization of discount on convertible redeemable preferred stock
                in
                connection with our February 2008 private placement financing.





**NET
      INCOME, OTHER COMPREHENSIVE INCOME AND COMPREHENSIVE
      INCOME**





As
      a result of these factors, we reported net income of $996,099 for the three
      months ended March 31, 2008 as compared to net income of $837,301 for the three
      months ended March 31, 2007. This translates to basic and diluted net income
      per
      common share of $0.02 and $0.02 for the three months ended March 31, 2008 and
      2007, respectively.





During
      the three months ended March 31, 2008, we reported an unrealized gain on foreign
      currency translation of $1,454,203, an increase of $1,330,686, or approximately
      1077%, from the same period in 2007. We report in U.S. dollars, but the
      functional currency of Lotus East is the RMB. Translation adjustments result
      from the process of translating the local currency financial statements into
      U.S. dollars, with the average translation rates applied to our income statement
      of 7.1757 RMB to $1.00 during the three months ended March 31, 2008. As a result
      of this non-cash gain, we reported comprehensive income of $2,450,302 for the
      three months ended March 31, 2008 as compared to $960,818 for the same period
      in
      2007.





**Liquidity
      and Capital Resources**





Liquidity
      is the ability of a company to generate funds to support its current and future
      operations, satisfy its obligations and otherwise operate on an ongoing
      basis.





10


At
      March 31, 2008, we had a cash balance of $3,589,377. These funds are located
      in
      financial institutions located as follows:





China
            
            $
            3,243,740USA
            
            
            345,637Total
            
            $
            3,589,377





Our
      working capital position increased $7,597,448 to $32,249,585 at March 31, 2008
      from $24,652,137 at December 31, 2007. This increase in working capital is
      primarily attributable to an increase in accounts receivable net of allowance
      of
      approximately $116,000 and an increase of approximately $3.2 million in
      inventories, an increase in other receivable of $2.8 million, a decrease in
      convertible debt of $2.5 million, a decrease in accounts payable and accrued
      expenses of approximately $100,000 offset by decrease in cash of approximately
      $1 million, a decrease in prepaid expense of approximately $750,000, increase
      in
      unearned revenue of approximately $218,000 and increase in due to related
      parties of approximately $357,000.





At
      March 31, 2008, our inventories of raw materials and finished goods totaled
      $6,782,982, an increase of approximately $3.2 million, or 93%, from December
      31,
      2007. We expect to maintain higher inventory levels to accommodate for
      anticipated future sales growth, new products development and productions as
      well as a wider variety of products.




At
      March 31, 2008, we maintain an allowance for doubtful accounts and sales return
      on accounts receivable balances of $625,335 as compared to $548,083 at December
      31, 2007, an increase of $77,252 ($53,305 reflects as an addition to allowance
      for doubtful accounts and sales return and $23,947 as foreign currency
      translation adjustment) and reflects our best estimate of probable losses.
      In
      determining the allowance for doubtful accounts, our management reviews our
      accounts receivable aging as well as the facts and circumstances of specific
      customers which may indicate the collection of specific amounts are at risk.
      As
      is customary in the PRC, we extend relatively long payment terms to our
      customers. Our terms of sale generally require payment within four months to
      a
      year, which is considerably longer than customary terms offered in the United
      States, however, we believe that our terms of sale are customary among our
      competitors for a company in our size within our industry. We also occasionally
      offer established customers longer payment terms on new products as an incentive
      to purchase these products, which has served to further increase the average
      days outstanding for accounts receivable. As the market for these new products
      is established, we will discontinue offering this sales incentive. Occasionally
      we will request a customer to prepay an order prior to shipment. At March 31,
      2008, our balance sheet reflected advances from customers of $0, a decrease
      of
      $34,531, or 100%, from December 31, 2007.





Our
      balance sheet at March 31, 2008, also reflects a balance due to related parties
      of $701,805 which was a working capital advances made to us by our president,
      vice-president and an officer of the Company and a Board member as well as
      an
      amount payable of approximately $768,990 related to an assignment agreement
      as
      discussed elsewhere in this report. These advances are non-interest bearing
      and
      are due on demand. We are currently repaying these balances as operating cash
      become available.





Our
      balance sheet at March 31, 2008 also reflects notes payable to related parties
      of approximately $4.9 million due on December 30, 2015 which is a working
      capital loan made to us by the Company’s Chief Executive Officer, two employees
      of the Company and a Board member. These loans bear a variable annual interest
      at 80% of current bank rate and are unsecured. During the three months ended
      March 31, 2008, we did not repay any portion of these loan
      balances.





Net
      cash used in operating activities for the three months ended March 31, 2008
      was
      $3,610,250 as compared to net cash provided by operating activities of $665,694
      for the three months ended March 31, 2007. For the three months ended March
      31,
      2008, net cash used in operating activities was attributable primarily to
      increase in accounts receivable of $115,927, increase in inventories of
      $3,161,360, increase in other notes receivable of $2,764,883, decrease in
      accounts payable and accrued expenses of $98,515, offset by the net income
      of
      $996,099, the add back of depreciation and amortization of $148,884,
      amortization of debt discount of $208,355, amortization of debt issuance costs
      of $62,512 and the amortization of discount on convertible redeemable preferred
      stock of $84,709, and increase in allowance for doubtful accounts and sales
      return of $53,305, a decrease in prepaid and other current assets of $752,227,
      and an increase in unearned revenue of $217,749. Net cash provided by operating
      activities for the three months ended March 31, 2007 was $665,694. For the
      three
      months ended March 31, 2007, net cash provided by operating activities was
      attributable primarily to our net income of $837,301, the add back of
      depreciation and amortization of $124,634, amortization of debt issuance costs
      of $29,340 and the amortization of debt discount of $144,578, a decrease in
      accounts receivable of $214,114, an increase in accounts payable and accrued
      expenses of $35,097, an increase in value-added and service taxes payable of
      $427,048, and an increase in unearned revenues of $256,493 offset by an increase
      in inventory balance of $1,159,619, an increase in prepaid expenses and other
      current assets of $98,927, and a decrease in advances from customers of
      $144,365.





Net
      cash used in investing activities for the three months ended March 31, 2008
      amounted to $0. Net cash used in investing activities for the three months
      ended
      March 31, 2007 was $106,643 attributable to the purchase of property and
      equipment of $366,218 offset by payment received on due from related parties
      of
      $259,575.





Net
      cash provided by financing activities was $2,368,814 for the three months ended
      March 31, 2008 and was attributable to the receipt of net proceeds of $5,000,000
      from our private financing and proceeds from related party advances of $357,382
      offset by payments on convertible debt of $2,520,000 and debt issuance costs
      of
      $468,568. Net cash provided by financing activities was $1,787,730 for the
      three
      months ended March 31, 2007 and was attributable to the receipt of net proceeds
      of $2,950,000 from our debt financing offset by payments on related party
      advances and loans of $930,744 and the payment of debt issuance costs of
      $231,526.





11


We
      reported a net decrease in cash for the three months ended March 31, 2008 of
      $968,580 as compared to a net increase in cash of $2,366,903 for the three
      months ended March 31, 2007.




In
      2007, we lent approximately $2 million of the net proceeds received from the
      sale of $3 million principal amount convertible debt to Lotus East, which they
      used as working capital. These advances are unsecured and interest free. During
      the first quarter of 2008, we used a portion of the proceeds from the sale
      of
      equity to satisfy these notes, lent Lotus East an additional $1.6 million and
      retained the balance to fund our operating expenses. We have no operations
      other
      than the Contractual Arrangements with Lotus East and, accordingly, we are
      dependent upon the quarterly service fees due us to provide cash to pay our
      operating expenses. Such payments have not been tendered to us and those funds
      are being retained by Lotus East to fund their operations. At March 31, 2008
      Lotus East owned us approximately $9 million for such fees and we do not know
      when such funds will be paid to us. Our CEO is also the CEO and principal
      shareholder of Lotus East. Accordingly, we are solely reliant upon his judgment
      to ensure that the funds advanced to Lotus East are repaid to us. If these
      funds
      should not be repaid, or if Lotus East should continue to withhold payment
      of
      the quarterly service fee due us under the Contractual Arrangement, it is
      possible that we will not have sufficient funds to pay our operating expenses
      in
      future periods.





Other
      than our existing cash we presently have no other alternative source of working
      capital. We currently have no material commitments for capital expenditures
      but
      believe that our working capital is sufficient to fund our current operations
      for approximately the next 12 months. Lotus East has historically funded its
      capital expenditures from their working capital and have advised us that they
      believe this capital is sufficient for their current needs. However, the ability
      of Lotus East to raise any significant capital to expand their operations is
      very limited. We believe that it is in our best long term interests to assist
      Lotus East in their growth plans. Accordingly, it is likely that we will seek
      to
      raise working capital to fund the expansion of its production line, upgrade
      of
      its manufacturing facilities and technologies, expand its retail operations,
      and
      fund research and development projects as well as providing working capital
      necessary for its ongoing operations and obligations. No assurances can be
      given
      that we will be successful in obtaining additional capital, or that such capital
      will be available in terms acceptable


to
      our company.





**Item
      3.**   **Quantitative
      and Qualitative Disclosures About Market Risk.**





Not
      applicable for a smaller reporting company.





**Item
      4T.** **Controls
      and Procedures.**





*Evaluation
      of Disclosure Controls and Procedures* .
      We
      maintain "disclosure controls and procedures" as such term is defined in Rule
      13a-15(e) under the Securities Exchange Act of 1934. In designing and evaluating
      our disclosure controls and procedures, our management recognized that
      disclosure controls and procedures, no matter how well conceived and operated,
      can provide only reasonable, not absolute, assurance that the objectives of
      disclosure controls and procedures are met. Additionally, in designing
      disclosure controls and procedures, our management necessarily was required
      to
      apply its judgment in evaluating the cost-benefit relationship of possible
      disclosure controls and procedures. The design of any disclosure controls and
      procedures also is based in part upon certain assumptions about the likelihood
      of future events, and there can be no assurance that any design will succeed
      in
      achieving its stated goals under all potential future conditions. Our
      management, including our Chief Executive Officer and Chief Financial Officer,
      has evaluated the effectiveness of our disclosure controls and procedures as
      of
      the end of the period covered by this report. Based on such evaluation, our
      Chief Executive Officer and Chief Financial Officer have concluded that, as
      of
      the end of the period covered by this report, our disclosure controls and
      procedures were effective:





• to
      give
      reasonable assurance that the information required to be disclosed by us in
      reports that we file under the Securities Exchange Act of 1934 is recorded,
      processed, summarized and reported within the time periods specified in the
      Securities and Exchange Commission's rules and forms, and





• to
      ensure
      that information required to be disclosed in the reports that we file or submit
      under the Securities Exchange Act of 1934 is accumulated and communicated to
      our
      management, including our CEO and our CFO, to allow timely decisions regarding
      required disclosure.





*Changes
      in Internal Control over Financial Reporting.* There
      have been no changes in our internal control over financial reporting during
      our
      last fiscal quarter that has materially affected, or is reasonably likely to
      materially affect, our internal control over financial reporting. **





12


PART
      II - OTHER INFORMATION




Item
        1. Legal
        Proceedings


None.




Item
      1A. Risk
      Factors.




Not
      applicable to smaller reporting company.




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


In
      April 2008, we issued in aggregate 331,668 shares of restricted common stock
      to
      our several directors, consultants and officers for services rendered. We valued
      these common shares at
      the
      fair market value on the date of grant at $1.16 per share or $384,735 in total. The receipients were accredited investors and
      the issuances were exempt from registraion under the Securities Act of 1933
      in
      reliance on exemptions provided by Section 4(2) of that act.




Item
        3. Defaults
        Upon Senior Securities




None.




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


None.




Item
        5. Other
        Information


None.




Item
        6. Exhibits




**No.**
            **Description**31.1
            Rule
                13a-14(a)/ 15d-14(a) Certificationof
                Chief Executive Officer31.2
            Rule
                13a-14(a)/ 15d-14(a) Certificationof
                Chief Financial Officer32.1
            Section
                1350 Certification of Chief Executive Officer32.2
            Section
                1350 Certification of Chief Financial
                Officer




13


SIGNATURES




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






Lotus
                Pharmaceuticals, Inc.Date: May
                20, 2008
            By:
            /s/ Liu
              Zhong YiLiu
                Zhong YiChief
                Executive Officer


Date: May
                  20, 2008
              By:
              /s/ Adam
                WassermanAdam
                    WassermanChief
                    Financial Officer
  14