**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**





**FORM
      10-QSB**





**[X]
      Quarterly Report Pursuant to Section 13 or 15(d) of the**


**Securities
      Exchange Act of 1934**





For
      the
      quarterly period ended June 30, 2006





Commission
      File Number: 033-15096




**TELESTONE
      TECHNOLOGIES CORPORATION**


(Exact
      Name of Small Business Issuer as Specified in Its Charter)




Delaware
            84-1111224(State
                or Other Jurisdiction of
            (I.R.S.
                Employer Identification No.)Incorporation
                or Organization)




Floor
      6,
      Saiou Plaza


No.
      5
      Haiying Road


Fengtai
      Technology Park


Beijing,
      People's Republic of China 100070


(Address
      of Principal Executive Offices)




(86
      10)
      8367-0505


(Issuer’s
      Telephone Number, Including Area Code)





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


Yes þ No  ̈




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


Yes  ̈ No þ




As
      of
      August 10, 2006, 8,602,106 shares of the Issuer's $.001 par value common stock
      were outstanding.




Transitional
      Small Business Disclosure Format :


Yes  ̈ No þ







**ITEM
      1. FINANCIAL STATEMENTS**




**Telestone
      Technologies Corporation**




**Index
      to Financial Statements**









**Page**Condensed
                Consolidated Statements of Operations
            3Condensed
                Consolidated Balance Sheets
            4Condensed
                Consolidated Statement of Cash Flows
            5****Condensed
              Consolidated Statement of Changes in Stockholders’ Equity
            6Notes
                to Condensed Consolidated Financial Statements
            7-12








2
 
 **Telestone
          Technologies Corporation**
 
 **Condensed
          Consolidated Statements of Operations**
 
  **(Unaudited)**
                
                **(Unaudited)****Three
                    months ended June 30,**
                
                **Six
                    months ended**
                  **June
                    30,****2006**
                
                2005
                
                **2006**
                
                2005***Note***
                
                ***US$’000***
                
                *US$’000*
                
                ***US$’000***
                
                *US$’000***Operating
                    revenues**Net
                    sales of equipment
                
                
                
                
                
                **3,571**
                
                
                2,783
                
                
                **6,826**
                
                
                5,635Service
                    income
                
                
                
                
                
                **1,648**
                
                
                1,621
                
                
                **2,168**
                
                
                2,302**5,219**
                
                
                4,404
                
                
                **8,994**
                
                
                7,937**Operating
                    expenses**Equipment
                    and services
                
                
                
                
                
                **2,637**
                
                
                2,346
                
                
                **4,445**
                
                
                3,892Sales
                    and marketing
                
                
                
                
                
                **576**
                
                
                630
                
                
                **1,230**
                
                
                1,220General
                    and administrative
                
                
                
                
                
                **205**
                
                
                445
                
                
                **508**
                
                
                916Research
                    and development
                
                
                
                
                
                **167**
                
                
                146
                
                
                **280**
                
                
                154Depreciation
                    and amortization
                
                
                
                
                
                **42**
                
                
                53
                
                
                **98**
                
                
                96Total
                    operating expenses
                
                
                
                
                
                **3,627**
                
                
                3,620
                
                
                **6,561**
                
                
                6,278**Operating
                    income**
                
                
                
                
                
                **1,592**
                
                
                784
                
                
                **2,433**
                
                
                1,659Interest
                    expense
                
                
                
                
                
                **—**
                
                
                (2
                )
                
                **—**
                
                
                (22
                )Other
                    income, net
                
                
                
                
                
                **141**
                
                
                2
                
                
                **145**
                
                
                6**Income
                    before income taxes**
                
                
                
                
                
                **1,733**
                
                
                784
                
                
                **2,578**
                
                
                1,643Income
                    taxes
                
                
                *6*
                
                
                **(214**
                **)**
                
                —
                
                
                **(342**
                **)**
                
                —**Net
                    income**
                
                
                
                
                
                **1,519**
                
                
                784
                
                
                **2,236**
                
                
                1,643**Earnings
                    per share:**
                
                
                *3***Weighted
                    average number of shares outstanding**Basic
                
                
                
                
                
                **8,602,106**
                
                
                8,528,590
                
                
                **8,592,824**
                
                
                8,420,393Dilutive
                    effect of warrants
                
                
                
                
                
                **121,043**
                
                
                154,892
                
                
                **104,738**
                
                
                205,021Diluted
                
                
                
                
                
                **8,723,149**
                
                
                8,683,482
                
                
                **8,697,562**
                
                
                8,625,414**Net
                    income per share of common stock****Basic:**Net
                    income
                
                
                
                
                
                **0.18**
                
                
                0.09
                
                
                **0.26**
                
                
                0.20**Diluted:**Net
                    income
                
                
                
                
                
                **0.17**
                
                
                0.09
                
                
                **0.26**
                
                
                0.19
 
 The
          accompanying notes are an integral part of these
          condensed consolidated financial statements.
 3
  **Telestone
          Technologies Corporation**
 
 **Condensed
          Consolidated Balance Sheets**
 
  **(Unaudited)**
                  **As
                    of**
                  **June
                    30,**
                  **2006**
                
                As
                    of
                  December
                    31,
                  2005***Note***
                
                ***US$’000***
                
                *US$’000***ASSETS****Current
                    assets**Cash
                    and cash equivalents
                
                
                
                
                
                **3,824**
                
                
                3,605Accounts
                    receivable
                
                
                *4*
                
                
                **22,807**
                
                
                22,530Due
                    from related parties
                
                
                *7*
                
                
                **1,462**
                
                
                1,322Inventories
                    - Finished goods
                
                
                
                
                
                **4,404**
                
                
                2,287Prepayment
                
                
                
                
                
                **223**
                
                
                535Other
                    current assets
                
                
                
                
                
                **273**
                
                
                240Total
                    current assets
                
                
                
                
                
                **32,993**
                
                
                30,519Property,
                    plant and equipment, net
                
                
                
                
                
                **866**
                
                
                1,031**Total
                    assets**
                
                
                
                
                
                **33,859**
                
                
                31,550**LIABILITIES
                    AND STOCKHOLDERS’ EQUITY****Current
                    liabilities**Short-term
                    bank loan
                
                
                *5*
                
                
                **1,239**
                
                
                —Accounts
                    payable - Trade
                
                
                
                
                
                **4,811**
                
                
                4,223Customer
                    depositsfor sales of equipment
                
                
                
                
                
                **2**
                
                
                4Due
                    to related parties
                
                
                *7*
                
                
                **1,989**
                
                
                2,133Taxes
                    payable
                
                
                
                
                
                **4,563**
                
                
                5,556Accrued
                    expenses and other accrued liabilities
                
                
                
                
                
                **1,013**
                
                
                1,703Total
                    current liabilities
                
                
                
                
                
                **13,617**
                
                
                13,619**Commitments
                    and contingencies**
                
                
                *9***Minority
                    interests****Stockholders’
                    equity**Preferred
                    stock, US$0.001 par value, 10,000,000 shares authorized, no shares
                    issued
                
                
                
                
                
                **—**
                
                
                —Common
                    stock and paid-in capital, US$0.001 par value:
                  Authorized
                    - 100,000,000 shares as of June 30, 2006
                  and
                    December 31, 2005
                
                
                
                
                
                **—**
                
                
                —Issued
                    and outstanding - 8,567,106 shares as of June 30, 2006 and 8,060,106
                    shares as of December 31, 2005
                
                
                
                
                
                **8**
                
                
                8Dedicated
                    reserves
                
                
                
                
                
                **2,131**
                
                
                2,131Additional
                    paid-in capital
                
                
                
                
                
                **7,476**
                
                
                7,401Other
                    comprehensive income
                
                
                
                
                
                **365**
                
                
                365Retained
                    earnings
                
                
                
                
                
                **10,262**
                
                
                8,026Total
                    stockholders’ equity
                
                
                
                
                
                **20,3242**
                
                
                17,931**Total
                    liabilities and stockholders’ equity**
                
                
                
                
                
                **33,859**
                
                
                31,550
 
 The
          accompanying notes are an integral part of these
          condensed consolidated financial statements.
 
 4
 **Telestone
              Technologies Corporation**
 
 **Condensed
              Consolidated Statement of Cash Flows**
 **(Unaudited)****Six
                    months ended June 30,****2006**
                
                2005***US$’000***
                
                *US$’000***Cash
                    flows from operating activities****Net
                    income**
                
                
                **2,236**
                
                
                1,643Adjustments
                    to reconcile net income to net cash used in operating
                    activities:Depreciation
                    and amortization
                
                
                **98**
                
                
                96Provision
                    for doubtful accounts
                
                
                **—**
                
                
                169Changes
                    in assets and liabilities:Accounts
                    receivable
                
                
                **(277**
                **)**
                
                (3,572
                )Inventories,
                    net
                
                
                **(2,117**
                **)**
                
                (499
                )Due
                    from related parties
                
                
                **(140**
                **)**
                
                (55
                )Gain
                    on disposal of PPE
                
                
                **(138**
                **)**
                
                (66
                )Prepayment
                
                
                **313**
                
                
                (163
                )Other
                    current assets
                
                
                **(34**
                **)**
                
                82Accounts
                    payable
                
                
                **588**
                
                
                600Due
                    to related parties
                
                
                **(144**
                **)**
                
                (88
                )Customer
                    deposits for sales of equipment
                
                
                **(2**
                **)**
                
                22Taxes
                    payable
                
                
                **(993**
                **)**
                
                205Accrued
                    expenses and other accrued liabilities
                
                
                **(690**
                **)**
                
                722**Net
                    cash used in operating activities**
                
                
                **(1,300**
                **)**
                
                (904
                )**Cash
                    flows from investing activities**Purchase
                    of property, plant and equipment
                
                
                **(27**
                **)**
                
                (314
                )Proceeds
                    from disposal of PPE
                
                
                **232****Net
                    cash provided by (used in) investing activities**
                
                
                **205**
                
                
                (314
                )**Cash
                    flows from financing activities**Proceeds
                    from short-term bank loan
                
                
                **1,239**
                
                
                —Proceeds
                    from issuance of shares
                
                
                **75**
                
                
                1,071**Net
                    cash provided by financing**
                
                
                **1,314**
                
                
                1,071**Net
                    increase (decrease) in cash and cash equivalents**
                
                
                **219**
                
                
                (147
                )**Cash
                    and cash equivalents, beginning of the period**
                
                
                **3,605**
                
                
                2,230**Cash
                    and cash equivalents, end of the period**
                
                
                **3,824**
                
                
                2,083
 
 The
          accompanying notes are an integral part of these
          condensed consolidated financial statements.
  5
 **Telestone
          Technologies Corporation**
 
 **Condensed
          Consolidated Statement of Changes in Stockholders’ Equity**
 
 **(Unaudited)**
                
                **(Unaudited)****Three
                    months ended**
                  **June
                    30,**
                
                **Six
                    months ended**
                  **June
                    30,****2006**
                
                2005
                
                **2006**
                
                2005***Note***
                
                ***US$’000***
                
                *US$’000*
                
                ***US$’000***
                
                *US$’000***Operating
                    revenues**Net
                    sales of equipment
                
                
                
                
                
                **3,571**
                
                
                2,783
                
                
                **6,826**
                
                
                5,635Service
                    income
                
                
                
                
                
                **1,648**
                
                
                1,621
                
                
                **2,168**
                
                
                2,302**5,219**
                
                
                4,404
                
                
                **8,994**
                
                
                7,937**Operating
                    expenses**Equipment
                    and services
                
                
                
                
                
                **2,637**
                
                
                2,346
                
                
                **4,445**
                
                
                3,892Sales
                    and marketing
                
                
                
                
                
                **576**
                
                
                630
                
                
                **1,230**
                
                
                1,220General
                    and administrative
                
                
                
                
                
                **205**
                
                
                445
                
                
                **508**
                
                
                916Research
                    and development
                
                
                
                
                
                **167**
                
                
                146
                
                
                **280**
                
                
                154Depreciation
                    and amortization
                
                
                
                
                
                **42**
                
                
                53
                
                
                **98**
                
                
                96Total
                    operating expenses
                
                
                
                
                
                **3,627**
                
                
                3,620
                
                
                **6,561**
                
                
                6,278**Operating
                    income**
                
                
                
                
                
                **1,592**
                
                
                784
                
                
                **2,433**
                
                
                1,659Interest
                    expense
                
                
                
                
                
                **-**
                
                
                (2
                )
                
                **-**
                
                
                (22
                )Other
                    income, net
                
                
                
                
                
                **141**
                
                
                2
                
                
                **145**
                
                
                6**Income
                    before income taxes**
                
                
                
                
                
                **1,733**
                
                
                784
                
                
                **2,578**
                
                
                1,643Income
                    taxes
                
                
                *6*
                
                
                **(214**
                **)**
                
                -
                
                
                **(342**
                **)**
                
                -**Net
                    income**
                
                
                
                
                
                **1,519**
                
                
                784
                
                
                **2,236**
                
                
                1,643**Earnings
                    per share:**
                
                
                *3***Weighted
                    average number of shares outstanding**Basic
                
                
                
                
                
                **8,602,106**
                
                
                8,528,590
                
                
                **8,592,824**
                
                
                8,420,393Dilutive
                    effect of warrants
                
                
                
                
                
                **121,043**
                
                
                154,892
                
                
                **104,738**
                
                
                205,021Diluted
                
                
                
                
                
                **8,723,149**
                
                
                8,683,482
                
                
                **8,697,562**
                
                
                8,625,414**Net
                    income per share of common stock****Basic:**Net
                    income
                
                
                
                
                
                **0.18**
                
                
                0.09
                
                
                **0.26**
                
                
                0.20**Diluted:**Net
                    income
                
                
                
                
                
                **0.17**
                
                
                0.09
                
                
                **0.26**
                
                
                0.19
  The
          accompanying notes are an integral part of these
          condensed consolidated financial statements.
  6
 **Telestone
            Technologies Corporation**
 
 **Notes
            to Condensed Consolidated Financial Statements**
 **1.** **ORGANIZATION
          AND PRINCIPAL ACTIVITIES**
  Telestone
          Technologies Corporation (“TTC”), formerly known as Milestone Capital, Inc. was
          organized under the laws of the State of Colorado in February 1987 under
          the
          name Shield Enterprises, Inc. In August 2004, the Company reincorporated
          in the
          State of Delaware under the name Telestone Technologies
          Corporation.
  Success
          Million International Limited (“SMI”), a company established in the Hong Kong
          Special Administrative Region of the People’s Republic of China (the “PRC”) on
          August 23, 2004, is a wholly owned subsidiary of TTC and had no business
          operations since incorporation. Beijing Telestone Technology Company Limited
          (“Beijing Telestone”), a wholly-owned subsidiary of SMI, established in Beijing,
          the People’s Republic of China (the “PRC”) with an operating period for an
          initial term of 20 years until April 12, 2004, is engaged in the business
          of
          design, development, installation and trading of wireless telecommunication
          coverage system equipment.
  Beijing
          Telestone Wireless Telecommunication Company Limited (“BTWTC”), being considered
          as a variable interest entity (“VIE”) owned by TTC’s directors and stockholders,
          was established in Beijing, the People’s Republic of China (the “PRC”) with a
          tenure of 20 years. As TTC adopted FIN 46 for all periods presented, the
          financial statements of BTWTC are consolidated in the financial statements
          of
          Beijing Telestone.
  In
          this
          report, TTC, SMI, Beijing Telestone and BTWTC are collectively referred
          to as
          the “Company”.
  The
          consolidated financial statements include the financial statements of TTC
          and
          its subsidiaries. All intercompany transactions and balances have been
          eliminated upon consolidation.
  **2.** **PREPARATION
          OF INTERIM FINANCIAL STATEMENTS**
  The
          accompanying unaudited condensed consolidated financial statements as of
          June
          30, 2006, have been prepared based upon Securities and Exchange Commission
          ("SEC") rules that permit reduced disclosure for interim periods and include,
          in
          the opinion of management, all adjustments (consisting of
          normal
          recurring adjustments and reclassifications) necessary to present fairly
          the
          financial position, results of operations and cash flows as of June 30,
          2006 and
          for all periods presented.
  Certain
          information and footnote disclosures normally included in financial statements
          prepared in accordance with accounting principles generally accepted in
          the
          United States of America ("USA") have been condensed or omitted. These
          condensed
          consolidated financial statements should be read in conjunction with the
          audited
          financial statements and notes thereto incorporated by reference in the
          Company's Form 10-KSB/A for the year ended December 31, 2005 filed on March
          31,
          2006. The results of operations for the six-month periods ended June 30,
          2006
          and 2005 are not necessarily indicative of the operating results to be
          expected
          for the full year.
  7
  **Telestone
          Technologies Corporation**
 
 **Notes
          to Condensed Consolidated Financial Statements**
 
 **2.** **PREPARATION
          OF INTERIM FINANCIAL STATEMENTS (CONTINUED)**
  The
          condensed consolidated financial statements and accompanying notes are
          presented
          in United States dollars and prepared in conformity with accounting principles
          generally accepted in the USA ("USGAAP") which requires management to make
          certain estimates and assumptions that affect the reported amounts of assets
          and
          liabilities and disclosure of contingent assets and liabilities at the
          date of
          financial statements and the reported amounts of revenues and expenses
          during
          the reporting period. Actual results could differ from those
          estimates.
  **3.** **EARNINGS
          PER SHARE**
  Basic
          earnings per share is computed based upon the weighted average number of
          shares
          of common stock outstanding during each period.
  Diluted
          earnings per share is computed based on net income for the periods presented
          attributable to shareholders on the weighted average number of common stock
          outstanding during the periods presented, adjusted for the effect of the
          dilutive common stock equivalents outstanding during the periods presented.
          The
          dilutive effect of warrants to purchase common stock which were outstanding
          during the period is reflected in diluted earnings per share by application
          of
          the treasury stock method.
  **4.**
                **ACCOUNTS
                    RECEIVABLE**
   **(Unaudited)**
                  **As
                    of**
                  **June
                    30,**
                  **2006**
                
                As
                    of
                  December
                    31,
                  2005***US$’000***
                
                *US$’000*Completed
                    contracts
                
                
                **24,521**
                
                
                24,139Retentions
                
                
                **826**
                
                
                931**25,347**
                
                
                25,070Less:
                    Allowance for doubtful accounts
                
                
                **(2,540**
                **)**
                
                (2,540
                )**22,807**
                
                
                22,530
  Of
          the
          retentions balance as of June 30, 2006 and December 31, 2005, approximately
          US$261,000 and US$777,000 respectively are expected to be collected after
          one
          year.
  **5.** **SHORT-TERM
          BANK LOAN**
  The
            bank
            loan was secured by a personal guarantee by Mr. Han Daqing, the Company’s Chief
            Executive Officer, repayable on June 16, 2007, and interest bearing at
            an
            interest rate that is adjusted monthly at 130% of the national standard
            rate
            established on a monthly basis by the People’s Bank of China.
  8
 
 **Telestone
                Technologies Corporation**
 
 **Notes
                to Condensed Consolidated Financial Statements**
  **6.** **TAXATION**
  TTC
          and
          its subsidiaries are subject to income taxes on an entity basis on income
          arising in or derived from the tax jurisdictions in which each entity is
          domiciled.
  TTC
          had a
          net operating loss carry-forward for income tax reporting purposes that
          might be
          offset against future taxable income. These net operating loss carry-forwards
          are severely limited when the Company experiences a change in control.
          Therefore, following the re-capitalization in August 2005, the amount available
          to offset future taxable income is limited. No tax benefit has been reported
          in
          the financial statements, because the Company believes that it is more
          likely
          than not that the carry-forwards will expire unused. Accordingly, the potential
          tax benefits of the loss carry-forwards are offset by a valuation allowance
          of
          the same amount.
  No
          provision for withholding or United States federal or state income taxes
          or tax
          benefits on the undistributed earnings and/or losses of the Company's
          subsidiaries has been provided as the earnings of these subsidiaries, in
          the
          opinion of the management, will be reinvested indefinitely.
 
 Determination
          of the amount of unrecognized deferred taxes on these earnings is not practical,
          however, unrecognized foreign tax credits would be available to reduce
          a portion
          of the tax liability.
  All
          of
          the Company’s income is generated in the PRC by Beijing Telestone and is subject
          to PRC income taxes at a rate of 24%. Since Beijing Telestone has registered
          as
          a wholly-owned foreign investment enterprise (“WOFIE”), it is subject to tax
          laws applicable to WOFIE in the PRC and is fully exempt from the PRC enterprise
          income tax of 24% for two years, followed by a 50% reduction for the next
          three
          years commencing in fiscal year 2006.
  **7.** **RELATED
          PARTY TRANSACTIONS**
 
 **Summary
          of related party transactions**
  **(Unaudited)**
                  **As
                    of**
                  **June
                    30,**
                  **2006**
                
                As
                    of
                  December
                    31,
                  2005***US$’000***
                
                *US$’000***Due
                    from related parties**Other
                    employees (Note (a))
                
                
                **254**
                
                
                114Ex-stockholders
                    of SMI (Note (b))
                
                
                **1,208**
                
                
                1,208**1,462**
                
                
                1,322**Due
                    to related parties**A
                    director (Note (a))
                
                
                **693**
                
                
                835Related
                    company (Note (c))
                
                
                **50**
                
                
                52Ex-stockholders
                    of Beijing Telestone (Note (b))
                
                
                **1,246**
                
                
                1,246**1,989**
                
                
                2,133
  9
  **Telestone
          Technologies Corporation**
 
 **Notes
          to Condensed Consolidated Financial Statements**
 
 **7.** **RELATED
          PARTY TRANSACTIONS (CONTINUED)**
 
 Note:
  (a)
                The
                    amounts due from/to directors and employees represent unsecured
                    advances
                    made to those parties from time to time. These amounts are interest
                    free
                    and repayable on demand.
  
 (b)
                The
                    amounts due to ex-stockholders of Beijing Telestone of US$1,246,000
                    represent the consideration arising from the consummation of
                    the business
                    combination. The ex-stockholders of SMI had represented that
                    they had
                    fully settled the amount with the ex-stockholders of Beijing
                    Telestone and
                    also undertaken to fully indemnify SMI against any claims from
                    the
                    ex-stockholders of Beijing Telestone (the “Indemnification”). However, an
                    ex-stockholder of Beijing Telestone has initiated lawsuit against
                    SMI and
                    Beijing Telestone on December 14, 2005 alleging that the consideration
                    amount has not been settled. The court hearing process has commenced
                    since
                    May 10, 2006 and is now in the preliminary stage in collecting
                    evidence
                    from both parties, and therefore no verdict has been drawn yet.
                    According
                    to the legal opinion issued on March 6, 2006 from Beijing Telestone’s
                    attorney (Da Du Law Firm, registered in the PRC), the lawsuit
                    as referred
                    to above related to the dispute between the ex-stockholders of
                    Beijing
                    Telestone and there is no legal relationship between the ex-stockholder
                    and SMI/Beijing Telestone. Accordingly, the outcome of the legal
                    case, in
                    the opinion of the directors, will have no legal implications
                    on the
                    ownership structure and control of Beijing Telestone. Up to the
                    date of
                    this report, the hearing has not finalized
                    yet.
 
 (c)
                The
                    Company is related to the extent that a director of the Company
                    has
                    beneficial interest in it. The amounts due to related company
                    represent
                    unsecured advances made to the Company. These amounts are interest
                    free
                    and repayable on demand.
  **8.** **SEGMENT
          INFORMATION**
 
 During
          the quarter ended June 30, 2006, all revenues of the Group are from its
          installation and trading of wireless telecommunication. Accordingly no
          financial
          information by business segment is presented.
 
 The
          Group
          operates in the PRC and over 90% of its revenue and operating profit are
          from
          the PRC. Accordingly, no geographical analysis is presented.
  10
 
 **Telestone
              Technologies Corporation**
 
 **Notes
              to Condensed Consolidated Financial Statements**
 **8.** **SEGMENT
          INFORMATION (CONTINUED)**
 
 Major
          customers and suppliers with revenues and purchases of more than 10% of
          the
          Company’s sales and purchases are as follows:
  **(Unaudited)**
                  **Six
                    months****ended
                    June 30,****2006**
                
                2005***US$’000***
                
                *US$’000*Major
                    customers with revenues of more than 10% of the Company’s
                    salesSales
                    to major customers
                
                
                **8,321**
                
                
                5,913Percentage
                    of sales
                
                
                **93**
                **%**
                
                75
                %Number
                
                
                **3**
                
                
                2Major
                    suppliers with purchases of more than 10% of the Company’s
                    purchasesPurchases
                    from major suppliers
                
                
                **2,065**
                
                
                2,296Percentage
                    of purchases
                
                
                **39**
                **%**
                
                70
                %Number
                
                
                **2**
                
                
                3
  Accounts
                    receivable related to the Company’s major customers comprised 93% and 95%
                    of all accounts receivables as of June 30, 2006 and December
                    31, 2005
                    respectively.
  **9.** **COMMITMENTS
          AND CONTINGENCIES**
  The
                    Company recognizes its revenue upon the completion of contract
                    and has
                    made full tax provision in accordance with relevant national
                    and local
                    laws and regulations of the PRC. A contract is considered completed
                    upon
                    completion of all essential contract work and the installation
                    has been
                    accepted by the customers. It is the common practice in the PRC
                    that
                    invoices are not issued to customers until payments are received.
                    The
                    Company follows the practice of reporting its revenue for PRC
                    tax purposes
                    when invoices are issued. All unbilled revenue will become taxable
                    when
                    invoices are issued. For PRC tax reporting purpose, Beijing Telestone
                    recognized revenue on an “invoice basis” instead of when goods are
                    delivered and service are rendered. This is not in strict
  compliance
          with the relevant laws and regulations. Accordingly, despite the fact that
          Beijing Telestone has made full tax provision in the financial statements,
          Beijing Telestone may be subject to a penalty for the deferred reporting
          of tax
          obligations. The exact amount of penalty cannot be estimated with any reasonable
          degree of certainty. The board of directors considers it is unlikely that
          the
          tax penalty will be imposed.
  11
 **Telestone
          Technologies Corporation**
  Notes
          to Condensed Consolidated Financial
          Statements
 
 **10.** **STOCK
          OPTION PLAN**
  On
          June
          27, 2005, a Stock Option Plan was approved at the 2005 annual meeting of
          stockholders. The purpose of the Plan is to promote the growth and general
          prosperity of the Company by permitting the Company to grant options to
          purchase
          common stock and restricted stock of the Company to key employees, non-employee
          directors, and advisors. The Plan is designed to help the Company and its
          subsidiaries and affiliates attract and retain superior personnel for positions
          of substantial responsibility and to provide key employees, non-employee
          directors, and advisors with an additional incentive to contribute to the
          success of the Company.
  No
          options have been granted to any parties as of the date of these financial
          statements.
  12


**ITEM
      2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION**




The
      following is management's discussion and analysis of certain significant factors
      which have affected our financial position and operating results during the
      periods included in the accompanying consolidated financial statements, as
      well
      as information relating to the plans of our current management. This report
      includes forward-looking statements. Generally, the words "believes,"
      "anticipates," "may," "will," "should," "expect," "intend," "estimate,"
      "continue," and similar expressions or the negative thereof or comparable
      terminology are intended to identify forward-looking statements. Such statements
      are subject to certain risks and uncertainties, including the matters set forth
      in this report or other reports or documents we file with the Securities and
      Exchange Commission from time to time, which could cause actual results or
      outcomes to differ materially from those projected. Undue reliance should not
      be
      placed on these forward-looking statements which speak only as of the date
      hereof. We undertake no obligation to update these forward-looking statements.




Unless
      we
      indicate otherwise, references below to "we", "us", "our" and "Telestone" mean
      Telestone Technologies Corporation and its subsidiaries.




**BUSINESS
      DESCRIPTION**




We
      are a
      wireless communications coverage solutions provider in the People’s
      Republic of China (the “PRC”) .
      We
      principally provide mobile telecommunication coverage solutions to our customers
      in service networks in
      the
      PRC.




Our
      wireless coverage solutions business enhances mobile telecommunication coverage
      signals through
      the use of signals received from base stations. Our base stations amplify these
      coverage signals directly to an extended or designated area of coverage, and
      this process improves the quality of reception for mobile phone users. These
      solutions are used in a variety of indoor and outdoor environments such as
      hotels, residential estates, office buildings, airports, exhibition centers,
      underground stations, highways, tunnels and vast countryside
      regions.




Our
      wireless coverage solutions business is comprised of research, development
      and
      application of wireless communications technology. In addition to sales of
      our
      internally designed wireless communication equipment, including repeaters,
      antennas and radio frequency accessories, we also provide project design,
      project management, installation, maintenance and other after-sales services
      in
      accordance with our customers' requirements. Since the establishment of
      Telestone in 1997, we have gradually developed business relationships with
      wireless operators. Our
      main
      customers are China Mobile Group (“China Mobile”), China Unicom Group (“China
      Unicom”), China Telecom Group (“China Telecom”) and China Netcom Group (“China
      Netcom”). China Mobile and China Unicom are the leading wireless operators in
      the PRC, and both of these entities operate the Code Division Multiple Access
      (“CDMA”) and Global System for Mobile Communications (“GSM”) networks. China
      Mobile operates the GSM and China Unicom operates the GSM and CDMA.




13


Competition
      amongst PRC wireless operators has been intensifying in recent years. Fixed-line
      operators, such as the China Telecom and the China Netcom, have expressed
      interest in obtaining wireless licenses and entering the wireless communication
      business. In recent years, telecommunication operators such as the China Telecom
      and China Netcom have deployed alternative wireless networks, specifically
      personal handy-phone system (“PHS”) networks, in some cities and rural
      areas.




During
      2005, there was an improvement of the revenue received from China Telecom and
      China Netcom.
      Based on a Ministry
      of Information Industry (“ MII”)
      report from June
      2006, the
      number of users of PHS, which is operated by China Telecom and China Netcom,
      increased to 92 million, an increase of 12 million from the corresponding period
      last year. In addition, both China Telecom and China Netcom increased their
      wireless coverage in anticipation of the launch of the third generation wireless
      communication network (the “3G network”). The
      Company has started to
      expand its business
      into overseas markets such as Vietnam ,
      India
      and Indonesia regions. Furthermore, the
      Company is planning on building new
      offices in Dallas, Texas .




In 2005,
      the
      Company completed the research & development (“R&D”) of 3G application
      equipments, such as WCDMA, CDMA2000 and TD-SCDMA, three
      expected licenses in the 3G network . Before
      3G
      licensed Chinese domestic carriers will face the problems of multi-carriers
      and
      multi-mobile telecommunication systems, our R&D center has developed a new
      third generation indoor coverage solution, which uses the fiber technology
      in
      the radio frequency signal distribution to transmit high speed data
      signals.




**BUSINESS
      REVIEW**




Our
      net
      revenues during the six months period ended June 30, 2006 were derived from
      installation and trading of wireless telecommunication. The majority of our
      revenues for the period were generated from mobile operators, while revenues
      from system integration providers were comparatively small.




For
      the
      reporting period, the Company provided new
      products and innovative solutions and we also developed new leads into other
      mobile telecommunication markets. We continue to deepen our penetration in
      the
      domestic markets such as Shanghai,
      Beijing, Tianjin, and Guangdong. The Company anticipates that we will increase
      our marketing in these areas in fiscal year 2006. **** The
      Company is currently developing
      overseas markets for its products in south-east Asia, specifically Vietnam,
      Indonesia and India. We have also established business relationships with telecommunication
      carriers in these
      regions .
      We
      expect that new products, solutions and markets will enhance our business
      prospects.




14


Along
      with our R & D
      capabilities in developing new products, we have also implemented a series
      of
      effective cost control measures, including implementing price controls,
      optimizing our supply chain, and decreasing the use of raw materials, which
      we
      expect will improve our gross margin.




We
      believe that our revenues in 2006
      will
      and eventually eclipse fiscal 2005's revenue totals with the application of
      our new
      products, solutions and the contribution of our newly developing markets,
      especially as the expected 3G network begins its construction. There has not
      been any public disclosure from the PRC about the anticipated launch of the
      3G
      network, and as a result, the Company is not certain when the launch of the
      3G
      network will occur. However, the Company believes that the anticipated 3G
      rollout will have a positive impact on our Company .




According
      to an MII report in 2005, revenue from the telecommunication industry in the
      PRC
      increased 11.7% compared to 2004. The growth included revenue from mobile
      communication, which increased by 17.2%. We
      reiterate our earlier guidance for growth in 2006 of 20% to 30% in revenue,
      compared to 2005, without the inclusion of anticipated revenue generated from the
      upcoming 3G network deployment in China.




**Telestone
      Patents**




The
      PRC
      recognizes two types of patents, the practical new patent and the invention
      patent. There are two types of patent in the PRC, the practical new patent
      and
      the invention patent. The practical new patent remains effective for 10 years
      after being granted, while the invention patent remains effective for 20 years.
      According to the Chinese Patent Law, there are also different procedures and
      time limits for the government to deal with the two types of patents. By the
      end
      of June 2006, Telestone was granted 11 patents from the National Intellectual
      Right Bureau of the PRC, among which 10 are practical new patents and the other
      is an invention patent.




**New
      solutions of Telestone**




As
      of
      June 30, 2006, the Company has developed three new solutions:




The
      Company’s 3D coverage system solution has been using optical fiber plus Cat-5E/6
      or thin net cable distribution mode for indoor or outdoor coverage, which is
      the
      global leading 2G/3G coverage system. Because the 3D coverage system uses the
      intermediate frequency transmission, it has unique characteristics such as
      flexibility, high output, low uplink noise and intelligence, which can satisfy
      all kinds of coverage requirements. It focuses on providing stable indoor voice
      and wireless data service at a reasonable price, and is especially suitable
      for
      large-scale construction sites. It also has a consummate monitor system which
      can monitor each antenna. The trials include: Dongguan Mobile Hui Huang Da
      Sha,
      Dongguan Mobile Ju Hao Mu Zu Cheng, Shenzhen Mobile Guo Tong Fu lou, Hohhot
      Bridge Huabei Cellular Coverage and the Chinese Telecommunication Headquarters
      Building.




15


The
      PHS
      system optimization solution has transitioned to a network optimization period
      from network maintenance, aiming at solving the four major problems of the
      wireless network; namely, network
      coverage, network planning, network capacity and network disturbance. Our
      solutions have the following merits: investment reduction, traffic increase,
      increase of network utilization ratio and high quality network operation. The
      projects include:  Zhuhai
      Telecommunication Correspondence Building, Hohhot network optimization, Baise
      network optimization and Guilin road coverage optimization.




The
      Company’s TD-SCDMA repeaters application solutions have the following merits:
      flexible network grouping, low construction cost, convenient and fast equipment
      installation and removal. It can be applied for signal coverage of blind spots
      such as signal blocked areas, tunnels and temporary meeting rooms. Because
      the
      TD-SCDMA system works in 2GHz
      frequency bands, it has weak penetrability compared with the 800MHz and the
      900MHz frequency band of the 2G network. This weak penetrability will cause
      many
      blind signal spots and TD-SCDMA repeaters can be used to cover these blind
      signal spots. The Company anticipates that the TD-SCDMA repeaters application
      solutions will be very marketable in the PRC, because the development of the
      TD-SCDMA network will be completed in the PRC.




**CRITICAL
      ACCOUNTING POLICIES AND MANAGEMENT ESTIMATES**




Our
      discussion and analysis of our financial condition and results of operations
      are
      based upon our consolidated financial statements, which have been prepared
      in
      accordance with accounting principles generally accepted in the United States.
      The preparation of these financial statements requires us to make estimates
      and
      judgments that affect the reported amounts of assets, liabilities, revenues
      and
      expenses, and related disclosure of contingent assets and liabilities. On an
      on-going basis, we evaluate our estimates based on historical experience and
      on
      various other assumptions that are believed 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. We believe critical accounting policies as disclosed
      in our Annual Report on Form 10-KSB/A for the year ended December 31, 2005,
      reflect the more significant judgments and estimates used in preparation of
      our
      financial statements. We believe there have been no material changes to our
      critical accounting policies and estimates during the six months ended June
      30,
      2006, compared to those discussed in our Annual Report on Form 10-KSB/A for
      the
      year ended December 31, 2005.




16


**RESULTS
      OF OPERATIONS**




**REVENUES**




For
      the
      three months and six months ended June 30, 2006, net revenues were $5,219,000
      and $8,994,000, representing an increase of 18.51% and 13.32%, respectively,
      when compared to the corresponding periods of 2005. The increase in net revenues
      was due to a mixed effect of: (1) China Mobile and China Telecom boosting its
      capital investment; and (2) China Unicom temporarily lowering its capital
      expenditure.




During
      the six months ended June 30 2006, we managed to expand our revenue stream
      from
      sales of the indoor coverage solution, which included products and system
      integration services, to China Mobile and China Telecom. This revenue stream
      offset some of the negative effect on our revenues caused by China Unicom's
      drop
      in capital expenditure, which resulted in a slight increase in total revenues
      for the second quarter of 2006.




**BREAKDOWN
      BY NATURE**




Three
        months ended June 30, 2006
  2006
              2005
              IncreaseUSD'000
              %
                  of revenue
              USD'000
              %
                  of revenue
              USD'000
              %Product
                  sales
              3571
              68.42%
              2783
              63.19%
              788
              28.31%System
                  integration service sales
              1648
              31.58%
              1621
              36.81%
              27
              1.67%Total
              5219
              100.00%
              4404
              100.00%
              815
              18.51%
 
 Six
        months ended June 30, 2006
  2006
              2005
              IncreaseUSD'000
              %
                  of revenue
              USD'000
              %
                  of revenue
              USD'000
              %Product
                  sales
              6826
              75.90%
              5635
              71.00%
              1191
              21.14%System
                  integration service sales
              2168
              24.10%
              2302
              29.00%
              -134
              -5.82%Total
              8994
              100.00%
              7937
              100.00%
              1057
              13.32%
  For
        the
        three months and six months ended June 30, 2006, revenues generated from
        product
        sales were $3,571,000 and $6,826,000, which represented an increase of 28.31%
        and 21.14%, respectively, compared to the corresponding periods of 2005.
        For the
        three months and six months ended June 30, 2006, revenues generated from
        system
        integration service sales were $1,648,000 and $2,168,000, which represented
        an
        increase of 1.67% and a decrease of 5.82% respectively, compared to the same
        periods of 2005.




17


For
      the
      three months and six months ended June 30, 2006, revenues generated from product
      sales accounted for 68.42% and 75.90% of total revenues, respectively, compared
      to 63.19% and 71% for the corresponding periods of 2005. For the three months
      and six months ended June 30, 2006, revenues generated from system integration
      service sales accounted for 31.58% and 24.10% of total revenues, respectively,
      compared to 36.81% and 29.00% for the same periods of 2005.




**BREAKDOWN
      BY CUSTOMERS**




Three
      months ended June 30, 2006




2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %China
                Mobile
            1034
            19.81%
            532
            12.08%
            502
            94.36%China
                Unicom
            2058
            39.43%
            2979
            67.64%
            -921
            -30.92%China
                Netcom
            229
            4.39%
            295
            6.70%
            -66
            -22.37%China
                Telecom
            1889
            36.19%
            472
            10.72%
            1417
            300.21%Others
            9
            0.17%
            126
            2.86%
            -117
            -92.86%Total
            5219
            
            4404
            
            815
            18.51%





Six
      months ended June 30, 2006




2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %China
                Mobile
            2166
            24.08%
            783
            9.87%
            1383
            176.63%China
                Unicom
            3726
            41.43%
            4635
            58.40%
            -909
            -19.61%China
                Netcom
            662
            7.36%
            297
            3.74%
            365
            122.90%China
                Telecom
            2429
            27.01%
            1278
            16.10%
            1151
            90.06%Others
            11
            0.12%
            944
            11.89%
            -932
            -98.73%Total
            8994
            
            7937
            
            1057
            13.32%





For
      the
      three months and six months ended June 30, 2006, revenues generated from China
      Mobile were $1,034,000 and $2,166,000, which represented an increase of 94.36%
      and 176.63%, respectively, compared to the corresponding periods of 2005. For
      the three months and six months ended June 30, 2006, revenues generated from
      China Unicom were $2,058,000 and $3,726,000, which represented a decrease of
      30.92% and a decrease of 19.61% respectively, compared to the same periods
      of
      2005. The increase in revenues from China Mobile was due to the carrier's
      decision to increase its capital expenditure. In certain regions, specifically,
      the Gui Zhou province, Guang Xi province, Hu Bei province, Beijing and Shanghai
      city, we captured more market shares from China Mobile, which increased our
      business. However, China Unicom slowed its infrastructure investment because
      they were still busy with new bidding work during the second quarter of 2006.




18


For
      the
      three months and six months ended June 30, 2006, revenues generated from China
      Netcom were $229,000 and $662,000, which represented a decrease of 22.37% and
      an
      increase of 122.90%, respectively, compared to the corresponding periods of
      2005. For the three months and six months ended June 30, 2006, revenues
      generated from China Telecom were 1,889,000 and 2,429,000, which represented
      an
      increased of 300.21% and 90.06%, respectively, compared to the corresponding
      periods of 2005. The decrease in revenues from China Netcom was due to its
      bidding work in the second quarter of 2006. In the bidding stage, our Company’s
      tower mounted amplifiers successfully enrolled, which will improve our business
      in the next quarter. We managed to expand our revenue stream from sales of
      the
      PHS coverage solution to China Netcom and China Telecom during 2006. Our
      Company’s equipment and products have been enrolled in Shanghai Telecom and we
      acquired new business with Guangdong Telecom. The Company believes that this
      acquisition will aid in the development of our business.




Revenues
      from telecom carriers were our major revenue source for the six months ended
      June 30, 2006 and China Mobile, China Unicom and China Telecom accounted for
      the
      majority change in revenue, compared to the corresponding period in 2005. The
      change in the composition ratio of revenues was primarily driven by the
      following factors: (1) an increase in revenues received from China Mobile;
      (2)
      increased revenues of PHS coverage solutions derived from China Netcom and
      China
      Telecom.




**BREAKDOWN
      BY SOLUTIONS**




Three
      months ended June 30, 2006


2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %Indoor
            4840
            92.74%
            3469
            78.77%
            1371
            39.52%Outdoor
            104
            1.99%
            711
            16.14%
            -607
            -85.37%Others
            275
            5.27%
            224
            5.09%
            51
            22.77%Total
            5219
            
            4404
            
            815
            18.51%





19





Six
      months ended June 30, 2006


2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %Indoor
            7831
            87.06%
            6152
            77.51%
            1679
            27.29%Outdoor
            540
            6.00%
            743
            9.36%
            -203
            -27.32%Others
            623
            6.93%
            1042
            13.13%
            -418
            -40.12%Total
            8994
            
            7937
            
            1057
            13.32%





For
      the
      three months and six months ended June 30, 2006, revenues generated from indoor
      wireless coverage solutions were $4,840,000 and $7,831,000, which represented
      an
      increase of 39.52% and 27.29%, respectively, compared to the corresponding
      periods of 2005. For the three months and six months ended June 30, 2006,
      revenues generated from outdoor wireless coverage solutions were $104,000 and
      $540,000, which represented a decrease of 85.37% and a decrease of 27.32%
      respectively, compared to the same periods of 2005.




For
      the
      three months and six months ended June 30, 2006, revenues generated from indoor
      wireless coverage solutions accounted for 92.74% and 87.06% of total revenues,
      respectively, compared to 78.77% and 77.51% for the corresponding periods of
      2005. For the three months and six months ended June 30, 2006, revenues
      generated from outdoor wireless coverage solutions accounted for 1.99% and
      6.00%
      of total revenues, respectively, compared to 16.14% and 9.36% for the same
      periods of 2005.




The
      significant increase in indoor coverage revenues in the second quarter of 2006
      was due to sales made to China Mobile and China Telecom that increased their
      capital expenditure.




**BREAKDOWN
      BY REGIONS**




Three
      months ended June 30, 2006


2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %North
            1809
            34.66%
            1601
            36.35%
            208
            12.99%South
            2426
            46.48%
            2690
            61.08%
            -264
            -9.81%East
            984
            18.85%
            113
            2.57%
            871
            770.80%Total
            5219
            
            4404
            
            815
            18.51%








20


Six
      months ended June 30, 2006


2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %North
            4043
            44.95%
            3093
            38.97%
            950
            30.71%South
            3097
            34.43%
            4165
            52.48%
            -1068
            -25.64%East
            1854
            20.61%
            679
            8.55%
            1176
            173.20%Total
            8994
            
            7937
            
            1057
            13.32%





For
      the
      three months and six months ended June 30, 2006, revenues generated from the
      North (covering areas such as Beijing, Tianjin, Xinjiang and etc.) were
      $1,809,000 and $4,043,000, which represented an increase of 12.99% and 30.71%,
      respectively, compared to the corresponding periods of 2005. For the three
      months and six months ended June 30, 2006, revenues generated from the South
      (covering areas such as Guangdong, Fujian, Sichuan and etc.) were $2,426,000
      and
      $3,097,000, which represented a decrease of 9.81% and 25.64% respectively,
      compared to the same periods of 2005. For the identical periods, revenues
      generated from the East (covering areas such as Shanghai, Nanjing and etc.)
      were
      $984,000 and $1,855,000, which represented an increase of 770.80% and 173.20%,
      respectively, compared to the corresponding periods of 2005.




For
      the
      three months and six months ended June 30, 2006, revenues generated from the
      North accounted for 34.66% and 44.95% of total revenues, respectively, compared
      to 36.35% and 38.97% for the corresponding periods of 2005. For the three months
      and six months ended June 30, 2006, revenues generated from the South accounted
      for 46.48% and 34.43% of total revenues, respectively, compared to 61.08% and
      52.48% for the same periods of 2005. For the identical periods, revenues
      generated from the East accounted for 18.85% and 20.62% of total revenues,
      respectively, compared to 2.57% and 8.55% for the corresponding periods of
      2005.




For
      the
      six month 2006 reporting period, revenue increase in the North was mainly
      affected by an increase in sales made to Beijing Mobile, Hebei Netcom, Neimeng
      Netcom and Tianjin Unicom as they increased capital expenditure. On the other
      hand, the revenue decrease in the South was primarily due to several factors:
      (1) decreased business with Gugangzhou Unicom; and (2) our preparation to obtain
      market shares of Hubei Unicom and Yunnan Mobile.




21


**COSTS
      OF REVENUES**




Three
      months ended June 30, 2006


2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %Costs
                of product sales
            1861
            35.66%
            1283
            29.13%
            578
            45.05%Costs
                of system integration service sales
            776
            14.87%
            1063
            24.14%
            -287
            -27.00%Costs
                of R&D technologies sales
            0
            
            0
            
            0Total
            2637
            
            2346
            
            291
            12.40%





Six
      months ended June 30, 2006


2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %Costs
                of product sales
            3399
            37.79%
            2620
            33.01%
            779
            29.73%Costs
                of system integration service sales
            1046
            11.63%
            1216
            15.32%
            -170
            -13.98%Costs
                of R&D technologies sales
            0
            
            56
            
            -56
            -1Total
            4445
            
            3892
            
            553
            14.21%





For
      the
      three months and six months ended June 30, 2006, our total costs of revenues
      were $2,637,000 and $4,445,000, which represented an increase of 12.40% and
      14.21%, respectively, as compared to the corresponding periods of 2005.




Costs
      of
      revenues include costs of product sales, costs of system integration service
      sales and costs of R&D technologies sales.




For
      the
      three months and six months ended June 30, 2006, our costs of product sales
      were
      $1,861,000 and $3,399,000, which represented an increase of 45.05% and 29.73%,
      respectively, as compared to the same periods of 2005.  The
      percentage increase in costs of product sales was mainly due to the growth
      in
      cost of original materials, especially the cost of feeder lines. We are
      continuously working to lower our costs of product sales through a series of
      effective cost control measures, including reducing purchasing costs through
      large scale procurement, decreasing the use of raw materials through system
      design optimization, regularly improving our system integration technologies,
      and optimizing our supply chain to in turn receive better terms from
      suppliers.




For
      the
      three months and six months ended June 30, 2006, our costs of system integration
      service sales were $776,000 and $1,046,000, representing a decrease of 27%
      and
      13.98%, respectively, as compared to the same periods of 2005. For the three
      months and six months ended June 30, 2006, the drop in costs of service sales
      was mainly due to the fact that we were not required to employ a designated
      contractor to perform the construction work under this service contract. The
      costs paid to the designated contractor were higher than the average costs
      paid
      in other projects. We were not limited by this factor in this year which is
      different from the same period of last year, so the costs of service sales
      dropped.




22


The
      costs
      of R&D technologies sales were the same as R&D technologies sales made
      in the first quarter of 2005. During the six months ended June 30, 2006, no
      R&D technologies sales were made.




Our
      costs
      of product sales and costs of system integration service sales for the six
      months ended June 30, 2006, accounted for 76.47%, 23.53% of total costs,
      respectively, compared to 67.32%, and 31.24% for the corresponding period in
      2005.




**GROSS
      PROFIT AND GROSS MARGIN**




For
      the
      three months and six months ended June 30, 2006, our gross profit was $2,582,000
      and $4,549,000, which represented an increase of 25.50% and 12.46%,
      respectively, as compared to the same periods of 2005. Our gross margin for
      the
      three months and six months ended June 30, 2006 was 49.47% and 50.58%,
      respectively, a growth of 11.9% and 6.35%, respectively, for the same periods
      of
      last year.




Our
      gross
      profit increase during the reporting period is attributable to 1) a growth
      of
      revenue; and, 2) an increase in gross margin of system integration service
      sales. This increase occurred because the Company was not required to employ
      a
      designated contractor to perform the construction work and the cost of system
      integration service was more reasonable in comparison to the same periods of
      last year. We
      will
      take some effective measures to control product costs,
      and utilize
      our R&D capability to enhance our marketing competence.




**OPERATING
      EXPENSES**




Three
      months ended June 30, 2006


2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %Sales
                and marketing expenses
            576
            11.04%
            630
            14.31%
            -54
            -8.57%General
                and administrative expenses
            205
            3.93%
            445
            10.10%
            -240
            -53.93%Research
                and development expenses
            167
            3.20%
            146
            3.32%
            21
            14.38%total
            948
            
            1221
            
            -273
            -22.36%





23


Six
      months ended June 30, 2006


2006
            2005
            IncreaseUSD'000
            %
                of revenue
            USD'000
            %
                of revenue
            USD'000
            %Sales
                and marketing expenses
            1230
            13.67%
            1220
            15.37%
            10
            0.82%General
                and administrative expenses
            508
            5.65%
            916
            11.54%
            -408
            -44.54%Research
                and development expenses
            280
            3.11%
            154
            1.94%
            126
            81.82%Total
            2018
            
            2290
            
            -272
            -11.88%





Operating
      expenses include sales and marketing expenses, general and administrative
      expenses and research and development expenses.




**SALES
      AND MARKETING EXPENSES**




Sales
      and
      marketing expenses include all related expenses and remunerations for sales
      personnel and travel expenses related to sales of products and market
      development.




For
      the
      three months and six months ended June 30, 2006, sales and marketing expenses
      were $576,000 and $1,230,000, accounting for 11.04% and 13.67% of total
      revenues, as compared to $630,000 and $1,220,000, or14.31% and 15.37% of total
      revenues, respectively, for the corresponding periods of 2005.




Sales
      and
      marketing expenses increased in the second quarter of 2005 due to our efforts
      to
      expand our product sales range, penetrate into new markets, open new branches
      and representative offices, as well as investments related to business expansion
      in new markets. In the second quarter of 2006, our business benefited from
      investment, and we spent less o business development compared to the same period
      of last year.




**GENERAL
      AND ADMINISTRATIVE EXPENSES**




General
      and administrative expenses consist primarily of compensation for personnel,
      travel expenses, material expenses related to ordinary administration, fees
      for
      professional services, and allowance for doubtful accounts.




For
      the
      three months and six months ended June 30, 2006, general and administrative
      expenses were $205,000 and $508,000, accounting for 3.93% and 5.65% of total
      revenues, as compared to $445,000 and $916,000, or 10.10% and 11.54% of total
      revenues, respectively, for the corresponding periods of 2005. General and
      administrative expenses for the three months and six months ended June 30,
      2006
      decreased 53.93% and 44.54%, respectively, as compared to the same periods
      of
      last year.




24




The
      major
      reasons for the decrease in general and administrative expenses were due to
      our
      efforts to optimize the structure of the Company ,
      improve
      work efficiency and cut the
      level of daily expenses.




**RESEARCH
      AND DEVELOPMENT EXPENSES**




Research
      and development expenses include remunerations for R&D staff, material
      expenses, travel expenses and facilities.




For
      the
      three months and six months ended June 30, 2006, R&D expenses were $167,000
      and $280,000, accounting for 3.2% and 3.11% of total revenues, as compared
      to
      $146,000 and $154,000, or 3.32% and 1.94% of total revenues, respectively,
      for
      the corresponding periods of 2005. R&D expenses for the three months and six
      months ended June 30, 2006 increased by 14.38% and 81.82%, respectively, as
      compared to the same periods of last year.




We
      have
      directed some of our R&D efforts towards investing into wireless
      telecommunications research and development, primarily 3G related technologies
      and applications. We expect these research activities to enhance our
      technologies, reduce the cost of existing products and create future revenue
      streams through the launch of new products.




**Net
      Income**




For
      the
      six months ended June 30, 2006, our net income was $2,236,000, which represented
      an increase of 36.09%,
      as compared to the same period in 2005. The period-to-period increase in net
      income was primarily due to 1) an increase in revenue; 2) an increase in net
      income of system integration service sales; 3) decreased financial expenses;
      and
      4) a decrease in general and administrative expenses, making significant
      progress on our accounts receivable and lowering the turnover periods of our
      accounts receivable.




**LIQUIDITY

      AND SOURCE OF CAPITAL**




We
      generally finance our operations from cash flow generated internally and
      through bank loans .
      As of
      June 30, 2006, we had current assets of $32,993,000. Current assets are
      comprised of inventories of $4,404,000, accounts receivable of $22,807,000,
      prepayments, deposits and other receivables of $1,958,000, and cash and cash
      equivalents of $3,824,000. Current liabilities comprised of accounts payable
      of
      $4,811,000, tax payables of $4,563,000, a short-term bank loan for $1,239,000,
      and other payables and accruals of $3,004,000.




Our
      trading terms with our customers are mainly on credit. As of June 30, 2006,
      our
      accounts receivable were $22,807,000 compared to $22,530,000 as of December
      31,
      2005. The credit period is generally less than one year. The gradual increase
      in
      the accounts receivable is mainly due t o:
      1)
      steady growth in revenues resulting from growth in business scale; 2) change
      in
      the settlement pattern of the mobile operators; and 3) our
      account receivable with China Unicom.




25


During the
      second quarter there
      was great improvement in collection of our accounts
      receivable . We
      believe our accounts
      receivable will be
      recovered based
      on
      the fact that our
      major customers, China
      Unicom and China Mobile, are reputable and sizeable mobile operators in the
      PRC.
      Additionally, the
      Company has not
      experienced significant bad debts in
      the
      past .
      Notwithstanding this, we have paid special attention to lowering the turnover
      period of our accounts receivable balances and have taken the following
      measures:




(1)  The
      provincial branch managers and the headquarters district managers are in charge
      of the collection of the account receivables, which form an important element
      of
      their performance evaluation.




(2)  The
      Company will keep in touch with the management and the key department (such
      as
      the financial department and the planning department) of the carriers in
      headquarters as well as the provincial branches to monitor the collection of
      the
      account receivables.




(3)  Our
      business strategy is to encourage sales to China Mobile, China Telecom, China
      Netcom and certain provincial branches of China Unicom who have good payment
      records such as Shandong Unicom, Tianjin Unicom, and Beijing Unicom. We
      believe these measures will optimize the structure of our account receivables
      and minimize our financial risks in the future.





We
      believe the above-mentioned measures will im prove
      our
      accounts receivable turnover period and provide a better internal control
      environment for us to cope with the fast growing telecommunication industry
      in
      the PRC that we are facing in the coming future.




As
      of
      June 30, 2006, our inventories were $4,404,000, as compared to $2,287,000 as
      of
      December 31, 2005, which represented an increase of 92.57%. The increase in
      the
      inventories is due to the following factors: (1) inventory reservations based
      on
      anticipated growth in the third quarter; and (2) our ability to acquire a lower
      purchasing pricing through large scale procurement.




As
      of
      June 30, 2006, our cash and bank balances were mainly denominated in Renminbi
      ("RMB") and United States dollars ("US$"), while our bank borrowings were mainly
      denominated in RMB. Our revenue and expenses, assets and liabilities are mainly
      denominated in RMB and US$. Recently, the exchange
      rate fluctuations in the
      PRC  have
      led
      to an appreciation of currency. This may be a result of certain exchange
      risks.




We
      have
      experienced negative cash flows from operating activities for the periods ended
      June 30, 2006 and 2005, which is primarily the result of extended turnover
      periods related to our accounts receivable, as mentioned above.  A
      continuation of this situation could negatively impact our liquidity and in
      turn, our overall results of operations. In order to address this issue, apart
      from the implementation of the above-mentioned measures to reduce the turnover
      period, we are also exploring the possibility of obtaining third party financing as
      well
      as considering
      raising additional capital through debt or equity financing .
      On June
      16, 2006 we entered into a loan of $1,239,000 from Xing Ye Bank. The principal
      amount of the loan is 10 million RMB (approximately US$1,254,233), with an
      interest rate that is adjusted monthly at 130% of the national standard rate
      established on a monthly basis by the Central Bank of China (on August 1, 2006,
      the interest rate on the loan was 7.60%). The term of the loan is from June
      16,
      2006 to June 16, 2007. The loan is secured by a personal guarantee by Mr. Han
      Daqing, the Company's Chief Executive Officer. The purpose of securing the
      loan
      is for operational purposes. The Company believes that this loan will
      effectively improve our business development.




26


Our
      gearing ratio, calculated as total debts over total assets, was 40.22% as of
      June 30, 2006 and 43.17% as of December 31, 2005, respectively.




**CONTINGENT
      LIABILITIES**




We
      recognize our revenue upon the completion of contracts and have made full tax
      provision in accordance with the relevant national and local laws and
      regulations of the PRC. A contract is considered completed upon completion
      of
      all essential contract work and when installation has been accepted by the
      customer. It is the common practice in the PRC that invoices are not issued
      to
      customers until payments are received. We follow the practice of reporting
      our
      revenue for PRC tax purposes when invoices are issued. All unbilled revenue
      will
      become taxable when invoices are issued. For PRC tax reporting purposes, we
      recognize revenue on an "invoice basis" instead of when goods are delivered
      and
      services are rendered. This is not in strict compliance with the United States
      laws and regulation s.
      Accordingly, despite the fact that we have made full tax provision in the
      financial statements, we may be subject to a penalty from the PRC for the
      deferred reporting of tax obligations .
      The
      exact amount of any penalty cannot be estimated with any reasonable degree
      of
      certainty. The Board of Directors considers it is unlikely that such tax penalty
      will be imposed.




**EMPLOYMENT
      AND REMUNERATIONS**




We
      offer
      competitive remuneration schemes to our employees based on industry practices
      as
      well as our employees’ performance.




**Item
      3.**  **Controls
      and Procedures.**




Prior
      to
      the conclusion of the period covered by this report, we carried out an
      evaluation, under the supervision and with the participation of our management,
      including our Chief Executive Officer (“CEO”) and Chief Financial Officer
      (“CFO”), of the effectiveness of the design and operation of our disclosure
      controls and procedures pursuant to Exchange Act Rule 13(a)-14(c). Based upon
      that evaluation, our CEO and CFO concluded that our disclosure controls and
      procedures are effective in timely alerting them to material information
      relating to us (including our consolidated subsidiaries) required to be included
      in our periodic SEC filings.




27


There
      have been no significant changes in our internal controls or in other factors
      that could significantly affect internal controls subsequent to the date we
      carried out this evaluation.




While
      we
      believe that our existing disclosure controls and procedures have been effective
      to accomplish their objectives, we intend to continue to examine, refine and
      formalize our disclosure controls and procedures, and monitor ongoing
      developments in this area.




28




**PART II**




**OTHER
      INFORMATION**




**Item
      1.** **Legal
      Proceedings**




A
      former
      stockholder of Telestone initiated arbitration proceedings in the PRC against
      SMI alleging the failure of SMI to settle the payment of the consideration
      owned
      to said stockholder as a result of the transaction pursuant to which SMI
      acquired all of the outstanding capital shares of Telestone. The value of the
      above claim is approximately $1.2 million. The claim was rejected because the
      court did not have jurisdiction to decide the case.




As
      a
      result of the rejected claim, the former shareholder initiated a legal
      proceeding in the PRC against SMI and Beijing Telestone Technologies Corp.
      for
      the same claim. The case is pending and is in the process of pretrial
      preparation. The value of this claim is nearly $1 million, however, management
      believes that the claim is without merit and will be resolved in SMI and Beijing
      Telestone Technologies Corp.’s favor.




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




None.




**Item
      3.** **Defaults
      Upon Senior Securities.**




None.




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




None.




**Item
      5.** **Other
      Information.**




None.




29


**Item
      6.** **Exhibits.**




The
      following documents are filed as part of this report:




31.1
            Chief
                Executive Officer Certification furnished pursuant to Section 302
                of the
                Sarbanes-Oxley Act of 200231.2
            Chief
                Financial Officer Certification furnished pursuant to Section 302
                of the
                Sarbanes-Oxley Act of 200232.1
            Chief
                Executive Officer Certification furnished pursuant to Section 906
                of the
                Sarbanes-Oxley Act of 200232.2
            Chief
                Financial Officer Certification furnished pursuant to Section 906
                of the
                Sarbanes-Oxley Act of 2002





30


**SI** G **NATURES**





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




**TELESTONE
              TECHNOLOGIES CORPORATION**Date: August
              14, 2006
            By:
            /s/ Han
              DaqingHan
              Daqing, Chief Executive OfficerDate: August 14, 2006
            By:
            /s/ Liu DongpingLiu
              Dongping, Chief Financial Officer




31