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**FORM 20-F**

 

| ** ** | **ANNUAL REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934  For the fiscal year ended December 31, 2009** |
|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------|

 

Commissionfile number 000-22113

 
| **EURO TECH HOLDINGS COMPANY LIMITED**                                                                               |
|----------------------------------------------------------------------------------------------------------------------|
| (Exact name of Registrant as specified in its charter)                                                               |
|                                                                                                                 |
| **EURO TECH HOLDINGS COMPANY LIMITED**                                                                               |
| (Translation of Registrant’s name into English)                                                                 |
|                                                                                                                 |
| **British Virgin Islands**                                                                                           |
| (Jurisdiction of incorporation or organization)                                                                      |
|                                                                                                                 |
| **18/F Gee Chang Hong Centre, 65 Wong Chuk Hong  Road, Hong Kong**                                                   |
| (Address of principal executive offices)                                                                             |
|                                                                                                                 |
| **T.C. Leung,**

**FAX: 852-28734887**

**18/F Gee Change Hong Centre,**

**65 Wong Chuk Hong Road,**

**Hong Kong** |
| (Name, Telephone, Email and/or Facsimile number and Address of  Company Contact Person)                              |

 

Securitiesregistered or to be registered pursuant to Section 12(b) of the Act.

 

| Name of each  exchange on which registered: NASDAQ |
|----------------------------------------------------|
| Ordinary Shares, $0.01 par value                   |

 

Securitiesregistered or to be registered pursuant to Section 12(g) of the Act.

 
| **Not Applicable** |
|--------------------|
| (Title of Class)   |

 

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Securitiesfor which there is a reporting obligation pursuant to Section 15(d) ofthe Act.

 
| **Not Applicable** |
|--------------------|
| (Title of Class)   |

 

Indicatethe number of issued and outstanding shares of each of the issuer’s classes ofcapital or common stock as of the close of the period covered by the annualreport. 11,544,711 Ordinary Shares.

 

Indicateby check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405of the Securities Act.

o Yes   x No

 

Ifthis report is an annual or transition report, indicate by check mark if theregistrant is not required to file reports pursuant to Section 13 or 15(d) ofthe Securities Exchange Act of 1934.

o Yes   x No

 

Note— Checking the box above will not relieve any registrant required to filereports pursuant to Section 13 or 15(d) of the Securities ExchangeAct of 1934 from their obligations under those Sections.

 

Ifthis is an annual or transitional report, indicate by check mark if theregistrant is not required to file reports pursuant to Section 13 or 15(d) ofthe Securities Exchange Act of 1934

o Yes   x No

 

Indicateby check mark whether the registrant has submitted electronically and posted onits corporate Web site, if any, every Interactive Data File required to besubmitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of thischapter) during the preceding 12 months (or for such shorter period that theregistrant was required to submit and post such files).

o Yes   o No

 

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

x Yes   o No

 

Indicateby check mark whether the registrant is a large accelerated filer, anaccelerated filer, or a non-accelerated filer. See definition of “acceleratedfiler and large accelerated filer” in Rule 12b-2 of the Exchange Act(Check one).

 

| Large accelerated filer o |   | Accelerated filer o |   | Non-accelerated filer x |
|---------------------------|--------|---------------------|--------|-------------------------|

 

Indicateby check mark which basis of accounting the registrant has used to prepare thefinancial statements included in this filing:

 

| U.S. GAAP x |   | International Financial Reporting Standards as issued  by the International Accounting Standards Board o |   | Other o |
|-------------|--------|----------------------------------------------------------------------------------------------------------|--------|---------|

 

If“Other” has been checked in response to the previous question, indicate bycheck mark which financial statement item the registrant has elected to follow.

o Item 17   o Item 18

 

Ifthis is an annual report, indicate by check mark whether the registrant is ashell company (as defined in Rule 12b-2 of the Exchange Act)

o Yes   x No

 

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**TABLE OF CONTENTS**

 
| INTRODUCTION                | 3                                                        |
|-----------------------------|----------------------------------------------------------|
|                        |                                                     |   |
| FORWARD  LOOKING STATEMENTS | 3                                                        |
|                        |                                                     |   |
| GLOSSARY                    | 4                                                        |
|                        |                                                     |   |
| PART I                 |                                                     |   |
|                        |                                                     |   |
| ITEM 3.                     | KEY INFORMATION                                          |   |
| Item 3A.                    | Selected Financial Data                                  | 5 |
| Item 3D.                    | Risk Factors                                             | 7 |
|                        |                                                     |   |
| ITEM 4.                     | INFORMATION ON  THE COMPANY                              |   |
| Item 4A.                    | History and  Development of the Company                  | 13 |
| Item 4B.                    | Business Overview                                        | 14 |
| Item 4C.                    | Organizational  Structure                                | 20 |
| Item 4D.                    | Property,  Plant and Equipment                           | 20 |
|                        |                                                     |   |
| ITEM 5.                     | OPERATING  AND FINANCIAL REVIEW AND PROSPECTS            |   |
| Item 5A.                    | Operating Results                                        | 21 |
| Item 5B.                    | Liquidity  and Capital Resources                         | 24 |
| Item 5C.                    | Research  and Development, Patents and Licenses          | 27 |
| Item 5D.                    | Trend Information                                        | 27 |
| Item 5E.                    | Off Balance  Sheet Arrangements                          | 27 |
| Item 5F.                    | Tabular  Disclosure of Contractual Obligations           | 27 |
|                        |                                                     |   |
| ITEM 6.                     | DIRECTORS,  SENIOR MANAGEMENT AND EMPLOYEES              |   |
| Item 6A.                    | Directors  and Senior Management                         | 27 |
| Item 6B.                    | Compensation                                             | 29 |
| Item 6C.                    | Board Practices                                          | 33 |
| Item 6D.                    | Employees                                                | 34 |
| Item 6E.                    | Share Ownership                                          | 35 |
|                        |                                                     |   |
| ITEM 7.                     | MAJOR SHAREHOLDERS AND RELATED PARTY  TRANSACTIONS       |   |
| Item 7A.                    | Major Shareholders                                       | 35 |
| Item 7B.                    | Related Party Transactions                               | 36 |
|                        |                                                     |   |
| ITEM 8.                     | FINANCIAL INFORMATION                                    |   |
| Item 8A.                    | Consolidated Statements and Other  Financial Information | 36 |
| Item 8B.                    | Significant Changes                                      | 36 |
|                        |                                                     |   |
| ITEM 9.                     | THE OFFERING AND LISTING                                 |   |
| Item 9A.                    | Listing Details                                          | 36 |
| Item 9C.                    | Markets                                                  | 37 |

 

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| ITEM 10.     | ADDITIONAL INFORMATION                                              |       |
|--------------|---------------------------------------------------------------------|------------|
| Item 10A.    | Share Capital                                                       | 37         |
| Item 10B.    | Memorandum and Articles of Association                              | 38         |
| Item 10C.    | Material Contracts                                                  | 39         |
| Item 10D.    | Exchange Controls                                                   | 40         |
| Item 10E.    | Taxation                                                            | 40         |
| Item 10H.    | Documents on Display                                                | 43         |
| Item 10I.    | Subsidiary Information                                              | 43         |
|         |                                                                |       |
| ITEM 11.     | QUANTITATIVE AND QUALITATIVE  DISCLOSURES ABOUT MARKET RISK         | 43         |
|         |                                                                |       |
| PART II |                                                                | 44         |
|         |                                                                |       |
| ITEM 15.     | CONTROLS AND PROCEDURES                                             | 44         |
|         |                                                                |       |
| ITEM  16.    | [RESERVED]                                                          |       |
|         |                                                                |       |
| Item 16A.    | Audit Committee Financial Expert                                    | 45         |
| Item 16B.    | Code Of Ethics                                                      | 45         |
| Item 16C.    | Principal Accountant Fees And  Services                             | 45         |
| Item 16D.    | Exemption  From Listing Standards                                   | 45         |
| Item 16E.    | Purchases  of Equity Securities by Issuer and Affiliated Purchasers | 46         |
| ** **   | ** **                                                          | ** ** |
|         | PART III                                                       | ** ** |
|         |                                                                |       |
| ITEM 18.     | FINANCIAL STATEMENTS                                                | 48         |
|         |                                                                |       |
| ITEM 19.     | EXHIBITS                                                            | 48         |

 

ExplanatoryNote

 

In addition to the financialstatements of Euro Tech Holdings Company Limited (the “Company”) attached arethe financial statements of two companies that are twenty percent (20%) ownedby the Company, Zhejiang Tialan Desulfurization and Dust Removal Co. Ltd. (“BlueSky”) and Zhejiang Jia Huan Electronic Co. Ltd. (“Jia Huan”).  The rules of the Securities and ExchangeCommission require that the Company file the financial statements of Blue Skyand Jia Huan.

 

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**INTRODUCTION**

 

In this Form 20-F,reference to “us”, “we”, the “Company” and “Euro Tech” are to Euro TechHoldings Company Limited and its subsidiaries unless otherwise expressly statedor the context otherwise requires.

 

**ForwardLooking Statements**

 

This annual report containsforward looking statements. Additional written or oral forward lookingstatements may be made by the Company from time to time in filings with theSecurities and Exchange Commission (the “SEC” or the “Commission”) orotherwise. Such forward looking statements are within the meaning of that termin Section 21E of the Securities Exchange Act of 1934 (the “Exchange Act”).  Such statements may include, but not belimited to, projections of revenues, income, or loss, capital expenditures,plans for future operations, financing needs or plans, and plans relating toproducts or services of the Company, as well as assumptions relating to theforegoing. The words “believe,” “expect,” “anticipate,” “estimate,” “project,”and similar expressions identify forward looking statements, which speak onlyas of the date the statement was made. Forward looking statements areinherently subject to risks and uncertainties, some of which cannot bepredicted or quantified. Future events and actual results could differmaterially from those set forth in, contemplated by, or underlying the forwardlooking statements. Statements in this Annual Report, including those containedin the sections entitled Part I, Item 3D. “Risk Factors” and Item 5. “Operatingand Financial Review and Prospects” and the notes to the Company’s ConsolidatedFinancial Statements, describe factors, among others, that could contribute toor cause such differences.

 

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**GLOSSARY**

 

The following glossary of termsmay be helpful in understanding the terminology used in this Annual Report.

 
| Ambient Air:                        |   | Atmospheric air (outdoor  as opposed to indoor air).                                                                                                                                                                                                                                                                                                                                                             |
|-------------------------------------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Anaerobic:                          |   | Treating waste water  biologically in the absence of air.                                                                                                                                                                                                                                                                                                                                                        |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Atomic Spectrometer:                |   | An analytical instrument  used to measure the presence of an element in a substance by testing a sample  which is aspirated into a flame and atomized. The amount of light absorbed or  emitted is measured. The amount of energy absorbed or emitted is proportional  to the concentration of the element in the sample.                                                                                        |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Coalescer:                          |   | A process that coalesces  smaller oil particles to form larger oil particles that can readily float to  a tank’s surface.                                                                                                                                                                                                                                                                                   |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Colorimeter:                        |   | An analytical instrument  that measures substance concentration by color intensity when the substance  reacts to a chemical reagent.                                                                                                                                                                                                                                                                             |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Flow Injection Analyzer:            |   | An analytical instrument  with a special sampling system that uses a continuous stream of  reagent(s) into which fluid samples are injected.                                                                                                                                                                                                                                                                |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Human Machine Interface  Software:  |   | A type of software to  interface (or coordinate) the interaction between machine or equipment and a  human being.                                                                                                                                                                                                                                                                                                |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Lamella:                            |   | Synthetic media installed  in a clarifier tank to assist in particle flocculation (coming together in a  “floc” or “flakes”)                                                                                                                                                                                                                                                                 |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Mass Spectrometer:                  |   | An analytical instrument  that separates and identifies chemical constituents according to their  mass-to-charge ratios and is used to identify organic compounds.                                                                                                                                                                                                                                               |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Membrane Biological  Reactor (MBR): |   | A suspended-growth  bioreactor combined with a membrane liquid/solids separation unit. The “MBR”  uses an advanced membrane technology that treats biological wastes to a  quality level which in many industries is sufficient for reuse or low-cost  disposal to sewers.                                                                                                                             |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Moving Bed Biofilm Reactor  (MBBR)  |   | A biological wastewater  treatment process that uses synthetic plastic media floating or fixed in the  aeration stage of the treatment process to increase the contact area between  the wastewater and the biomass (bacteria). The result is a higher efficiency  of treatment in a unit volume of wastewater, hence smaller footprint. An  additional advantage is reduction of the amount of sludge produced. |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Multi-Channel Digital  Recorder:    |   | A device that measures and  records more than one input of a digitized signal (signal in the form of  pulses).                                                                                                                                                                                                                                                                                                   |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| pH Controller:                      |   | A process instrument that  measures and controls the acidity or alkalinity of a fluid.                                                                                                                                                                                                                                                                                                                           |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Reagent:                            |   | A chemical substance used  to cause a chemical reaction and detect another substance.                                                                                                                                                                                                                                                                                                                            |
|                                |   |                                                                                                                                                                                                                                                                                                                                                                                                             |
| Sequential Batch Reactor  (SBR):    |   | A waste-water treatment  process that combines aeration and settling in one reactor tank thus saving  on space. Used for the treatment of industrial waste-water as well as  municipal sewage. The SBR is a batch process that is ideal for waste-waters  of changing characteristics.                                                                                                                           |

 

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** **

**PART I**

 

**ITEM 3.             KEYINFORMATION**

 

***Item 3A                SelectedFinancial Data***

 

**SELECTED FINANCIAL INFORMATION**

(Amountsexpressed in thousands, except share and per share data and unless otherwisestated)

 

Theselected consolidated income statement data for years ended December 31,2009, 2008 and 2007, and the selected consolidated balance sheet data as of December 31,2009 and 2008 set forth below are derived from audited consolidated financialstatements of the Company included herein and should be read in conjunctionwith, and are qualified in their entirety by reference to such financialstatements, including the notes thereto and Item 5. “Operating and FinancialReview and Prospects.” The selected consolidated income statement data for theyears ended December 31, 2006 and 2005 and the selected consolidatedbalance sheet data as of December 31, 2007, 2006 and 2005 set forth beloware derived from audited consolidated financial statements of the Company whichare not included herein.

 
| ** **                 | ** ** | **2009** | ** ** | **2008** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|----------------------------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|
| ** **                 | ** ** | **US$**  | ** ** | **US$**  | ** ** | **US$**  | ** ** | **US$**  | ** ** | **US$**  | ** ** |
| **Balance Sheet Data:**    |       |     |       |     |       |     |       |     |       |     |       |
| Cash  and cash equivalents |       | 7,025    |       | 7,146    |       | 9,387    |       | 9,160    |       | 5,362    |       |
| Working  capital(1)        |       | 8,203    |       | 8,583    |       | 10,099   |       | 10,267   |       | 6,931    |       |
| Total  assets              |       | 26,244   |       | 28,278   |       | 25,482   |       | 19,975   |       | 17,377   |       |
| Short-term  debt(2)        |       | 0        |       | 0        |       | 0        |       | 0        |       | 0        |       |
| Net  assets                |       | 18,932   |       | 18,979   |       | 17,958   |       | 12,990   |       | 9,754    |       |
| Capital  Stock             |       | 122      |       | 122      |       | 120      |       | 94       |       | 74       |       |

 

----

(1)    Current assets minus current liabilities.

(2)    Short-term debt includes short-term borrowings and currentportion of long-term bank loans.

 
| ** **                                                 | ** ** | **2009**   | ** ** | **2008**   | ** ** | **2007**   | ** ** | **2006**   | ** ** | **2005**   | ** ** |
|------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|------------|
| ** **                                                 | ** ** | **US$**    | ** ** | **US$**    | ** ** | **US$**    | ** ** | **US$**    | ** ** | **US$**    | ** ** |
| **Income  Statement Data:**                                |       |       |       |       |       |       |       |       |       |       |       |
| Revenue                                                    |       | 27,336     |       | 31,738     |       | 27,230     |       | 27,161     |       | 31,250     |       |
| Cost  of revenue                                           |       | (20,876    | )          | (24,154    | )          | (20,398    | )          | (20,606    | )          | (24,681    | )          |
| Gross  profit                                              |       | 6,460      |       | 7,584      |       | 6,832      |       | 6,555      |       | 6,569      |       |
| Selling  and Administrative Expenses                       |       | (6,608     | )          | (7,214     | )          | (6,566     | )          | (5,961     | )          | (5,418     | )          |
| Operating  (loss)/income                                   |       | (148       | )          | 370        |       | 266        |       | 594        |       | 1,151      |       |
| Interest  Income                                           |       | 37         |       | 45         |       | 256        |       | 95         |       | 35         |       |
| Other  income, net                                         |       | 71         |       | 145        |       | 142        |       | 146        |       | 172        |       |
| (Loss)/Income  before taxes                                |       | (40        | )          | 560        |       | 664        |       | 835        |       | 1,358      |       |
|                                                       |       |       |       |       |       |       |       |       |       |       |       |
| Income  taxes                                              |       | (218       | )          | (321       | )          | (144       | )          | (156       | )          | (328       | )          |
|                                                       |       |       |       |       |       |       |       |       |       |       |       |
| Equity in profit of affiliates                             |       | 595        |       | 273        |       | 247        |       | —     |       | 21         |       |
| Net income                                                 |       | 337        |       | 512        |       | 767        |       | 679        |       | 1,051      |       |
|                                                       |       |       |       |       |       |       |       |       |       |       |       |
| Less:  net income attributable to non-controlling interest |       | (305       | )          | (363       | )          | (345       | )          | (318       | )          | (318       | )          |
| Net  income attributable to the Company                    |       | 32         |       | 149        |       | 422        |       | 361        |       | 733        |       |
| Net  income per Ordinary Share Basic                       |       | 0.01       |       | 0.01       |       | 0.04       |       | 0.04       |       | 0.11       |       |
| Diluted                                                    |       | 0.01       |       | 0.01       |       | 0.03       |       | 0.03       |       | 0.07       |       |
| Weighted  Average Number of Ordinary Shares Outstanding    |       |       |       |       |       |       |       |       |       |       |       |
| Basic                                                      |       | 11,632,460 |       | 11,824,153 |       | 11,105,556 |       | 8,047,911  |       | 6,598,201  |       |
| Diluted                                                    |       | 11,896,537 |       | 12,212,058 |       | 12,095,335 |       | 10,787,420 |       | 10,698,482 |       |

 

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The Company maintains itsbooks and records in United States dollars (“US$”). Its subsidiaries, retailshops and affiliates maintain their books and records either in US$, Hong Kong dollars (“HK$”) or in Chinese Renminbi (“RMB”).

 

The Hong Kong dollar isfreely convertible into other currencies (including the US dollar). Since 1983,the Hong Kong dollar has effectively been officially linked to the US dollar atthe rate of approximately HK$7.80 = US$1.00.  However, the market exchangerate of the Hong Kong dollar against the US dollar continues to be influencedby the forces of supply and demand in the foreign exchange market. Exchangerates between the Hong Kong dollar and other currencies are influenced by therate between the US dollar and the Hong Kong dollar.

 

Since 1994, the conversionof Renminbi into foreign currencies, including U.S. dollars, has been based onrates set by the People’s Bank of China, which are set daily based on theprevious day’s interbank foreign exchange market rates. From 1994 through 2004,the official exchange rate for the conversion of Renminbi to U.S. dollars hasgenerally been stable and maintained at the rate of approximately RMB8.30 =US$1.00. However, in 2007, 2008 and 2009 the Renminbi appreciated and at theend of 2009, 2008 and 2007, the exchange rates were approximately RMB 6.8282 = US$1.00, RMB 6.8251 = US$1.00 and RMB 7.3141 =US$1.00, respectively. The value of the Renminbifluctuates and is subject to changes in PRC political and economic conditions.

 

The high, low and averageexchange rate set forth below:

 
| ** **            | ** ** | **Rate at Period End** | ** ** | **Low** | ** ** | **High** | ** ** | **Average** | ** ** |
|-----------------------|------------|---------------------------------------|------------|---------|------------|----------|------------|-------------|------------|
| US$ to RMB       |       |                                  |       |    |       |     |       |        |       |
|                  |       |                                  |       |    |       |     |       |        |       |
| Fiscal  2005          |       | 8.0734                                |       | 8.0566  |       | 8.2666   |       | 8.2033      |       |
| Fiscal  2006          |       | 7.8175                                |       | 7.7845  |       | 8.0715   |       | 7.9819      |       |
| Fiscal  2007          |       | 7.3141                                |       | 7.2941  |       | 7.8062   |       | 7.6172      |       |
| Fiscal  2008          |       | 6.8251                                |       | 6.7480  |       | 7.2941   |       | 6.9623      |       |
| Fiscal  2009          |       | 6.8282                                |       | 6.7880  |       | 6.8430   |       | 6.8409      |       |
|                  |       |                                  |       |    |       |     |       |        |       |
| US$ to HK$  |       |                                  |       |    |       |     |       |        |       |
|                  |       |                                  |       |    |       |     |       |        |       |
| Fiscal  2005          |       | 7.7535                                |       | 7.7431  |       | 7.8116   |       | 7.7779      |       |
| Fiscal  2006          |       | 7.7794                                |       | 7.7502  |       | 7.7946   |       | 7.7690      |       |
| Fiscal  2007          |       | 7.8049                                |       | 7.7488  |       | 7.9102   |       | 7.8026      |       |
| Fiscal  2008          |       | 7.7507                                |       | 7.7480  |       | 7.8174   |       | 7.7874      |       |
| Fiscal  2009          |       | 7.7551                                |       | 7.7474  |       | 7.7617   |       | 7.7522      |       |
|                  |       |                                  |       |    |       |     |       |        |       |

 
| **The Following Months** | ** ** | **Low** | ** ** | **High** | ** ** | **Average** | ** ** |
|--------------------------|------------|---------|------------|----------|------------|-------------|------------|
| US$ to RMB          |       |    |       |     |       |        |       |
|                     |       |    |       |     |       |        |       |
| July 2009           |       | 6.8200  |       | 6.8348   |       | 6.8421      |       |
| August 2009         |       | 6.8015  |       | 6.8351   |       | 6.8421      |       |
| September 2009      |       | 6.7880  |       | 6.8290   |       | 6.8390      |       |
| October 2009        |       | 6.7950  |       | 6.8290   |       | 6.8364      |       |
| November 2009       |       | 6.7930  |       | 6.8287   |       | 6.8356      |       |
| December 2009       |       | 6.7926  |       | 6.8293   |       | 6.8362      |       |
|                     |       |    |       |     |       |        |       |
| US$ to HK$          |       |    |       |     |       |        |       |
| July 2009           |       | 7.7485  |       | 7.7507   |       | 7.7508      |       |
| August 2009         |       | 7.7485  |       | 7.7521   |       | 7.7513      |       |
| September 2009      |       | 7.7485  |       | 7.7513   |       | 7.7510      |       |
| October 2009        |       | 7.7485  |       | 7.7503   |       | 7.7506      |       |
| November 2009       |       | 7.7485  |       | 7.7503   |       | 7.7507      |       |
| December 2009       |       | 7.7486  |       | 7.7582   |       | 7.7536      |       |

 

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***Item 3D.                RiskFactors***

 

You should carefullyconsider all of the information set forth in this annual report and thefollowing risk factors. The risks below are not the only ones we face.Additional risks not currently known by us or that we deem immaterial may alsoimpair our business operations. Our business, financial condition or results ofoperations could be materially adversely effected by any of these risks. Thisannual report also contains forward looking statements that involve risks anduncertainties. Our results could materially differ from those anticipated inthese forward looking statements as a result of certain factors, including therisks we face as described below and elsewhere. See “Forward LookingStatements.”

 

**CertainRisks Relating To Doing Business In Hong Kong And The People’s Republic OfChina (the “PRC” or “China”).**

 

**PRCSovereignty Over Hong Kong Still Developing.**

 

The Company’s executive andprincipal offices are located in Hong Kong, a Special Administrative Region ofChina (or “SAR”; Hong Kong is sometimes herein referred to as the “Hong KongSAR”).

 

As provided in theSino-British Joint Declaration on the Question of Hong Kong (the “JointDeclaration”) and the Basic Law of the Hong Kong SAR of China (the “Basic Law”),the Hong Kong SAR is provided a high degree of autonomy except in foreign anddefense affairs. The PRC’s political system and policies are not practiced inHong Kong. Under this principle of “one country, two systems”, Hong Kongmaintains a legal system that is based on common law and is different from thatof the PRC.

 

The Company’s results ofoperations and financial condition may be influenced by the political situationin Hong Kong and by the general state of the Hong Kong economy. See “ —Economic Stability Uncertain.”

 

There can be no assurancethat these past or any prospective future changes in political, economic orcommercial conditions in Hong Kong and the PRC will not result in a materialadverse effect upon the Company.

 

**Economic Stability Uncertain.**

 

Most economies in the FarEast had suffered from an economic instability. There can be no assurance thatthere be a recovery, most especially in light of the recent global economicdownturn.  Continued growth in the PRC is dependent upon an adequatesupply of energy.  There is no assurance that adequate supplies of energycan be developed or found to fuel the PRC’s continued economic growth.

 

**The PRC’sEconomic, Political And Social Conditions.**

 

The PRC economy differs fromthe economies of most developed countries in many respects, including theamount of government involvement, level of development, growth rate, control offoreign exchange and allocation of resources.  While the PRC economy hasexperienced significant growth in the past thirty years, growth has beenuneven, both geographically and among the various sectors of the economy. The PRC government has implemented various measures to encourage economicgrowth and guide the allocation of resources.  Some of these measuresbenefit the overall PRC economy, but may also have a negative effect onus.  For example, our financial condition and results of operations may beadversely affected by changes in applicable tax regulations.

 

The PRC economy appears tobe moving from a planned economy to a more market-oriented economy. Although the PRC government has implemented measures since the late 1970semphasizing the utilization of market forces for economic reform, the reductionof state ownership of productive assets and the establishment of improvedcorporate governance in business enterprises, a substantial portion ofproductive assets in the PRC are still owned by the PRC government.  Inaddition, the PRC government continues to play a significant role in regulatingindustry development by imposing industrial policies.  The PRC governmentalso exercises significant control over the PRC’s economic growth through theallocation of resources, controlling payment of foreign currency-denominatedobligations, setting monetary policy and providing preferential treatment toparticular industries or companies.  These actions, as well as futureactions and policies of the PRC government, could materially and adversely effectour business and operations.

 

The success of the Company’sactivities in the PRC depends on the Company’s continued ability to overcomecircumstances specifically effecting the industrial sector, including therelatively poor infrastructure, road transportation and communications networkand an uncertain legal and regulatory environment.

 

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**EconomicReforms May Not Continue Or Impact Positively On The Company; ChangingBusiness Environment.**

 

Over the past several years,the PRC’s government has pursued economic reform policies including encouragingprivate economic activities and decentralization of economic deregulation. ThePRC government may not continue to pursue these policies or may significantlyalter them to our detriment from time to time without notice. Changes inpolicies by the PRC government resulting in changes in laws, regulations, ortheir interpretation, or the imposition of confiscatory taxes, restrictions oncurrency conversion and imports could materially and adversely effect ourbusiness and operating results. The nationalization or other expropriations ofprivate enterprises by the PRC government could result in a loss of ourinvestments in actual funds and time and effort, in China.

 

The Company’s results attimes may also be adversely effected by: (1) changes in political,economic and social conditions in the PRC; (2) changes in governmentpolicies such as changes in laws and regulations (or their interpretation);(3) the introduction of additional measures to control inflation;(4) changes in the rate or method of taxation; (5) imposition ofadditional restrictions on currency conversion remittances abroad;(6) reduction in tariff protection and other import restrictions; and(7) a return to the more centrally-planned economy that existedpreviously.

 

**We AreSubject To International Economic And Political Risks, Over Which We HaveLittle Or No Control.**

 

Doing business outside theUnited States subjects us to various risks, including changing economic andpolitical conditions, exchange controls, currency fluctuations, armed conflictsand unexpected changes in United States and foreign laws relating to tariffs,trade restrictions, transportation regulations, foreign investments andtaxation. We have no control over most of these risks and other unforeseeablerisks and may be unable to anticipate changes in international economic andpolitical conditions and, therefore, unable to alter our business practice intime to avoid the adverse effect of any of these changes.

 

**The Current Financial Crisis andDeteriorating Economic Conditions May Have A Material Adverse Impact onOur Business and Financial Conditions.**

 

Worldwide economies havebeen deteriorating recently.  Global markets have experiencedsignificant turmoil and upheavals characterized by extreme volatility anddeclines in prices and securities and commodities, diminished creditavailability, inability to access capital markets, waves of bankruptcies,rising unemployment and declining consumer and business confidence.

 

We cannot predict the shortand long-term impact of these events on our business and financial conditionthat may be materially and adversely effected.

 

**Uneven Economic Growth.**

 

The PRC’s economy hasexperienced significant growth in recent years, but that growth has been unevenamong various geographic regions and economic sectors. Economic reforms andgrowth in the PRC have been more successful in certain provinces than inothers, and the continuation or increase of such disparities could adverselyeffect political or social stability. The PRC’s economy experienced a slowdown in the fourth quarter of 2008as a result of the global economic crisis with a gradual recovery in the latterhalf of 2009 and the first quarter of 2010. There can be no assurance that the PRC’s economy will continue to grow,that if there is growth, such growth will be steady and uniform, or that ifthere is a slowdown, such a slowdown will not have a negative effect on ourbusiness.

 

**PRCInflation**.

 

In recent years, the PRC hasnot experienced significant inflation, and thus inflation has not had asignificant effect on our business historically.  In response to theincreased inflation rate during 2004, the Chinese government announced measuresto restrict lending and investment in the PRC in order to reduce inflationarypressure on the PRC’s economy; and the inflation rate was reduced in 2005 and2006, escalated in 2007 and 2008 ata rate of 5.9% and was reduced by 0.7% in 2009**.**  Efforts by the PRC to curb inflation may alsocurb economic growth, increase our overhead costs and adversely affect oursales.  If the PRC rate of inflationcontinues to increase, the Chinese government may introduce further measuresintended to reduce the inflation rate in the PRC.  Any such measuresadopted by the Chinese government may not be successful in reducing or slowingthe increase in the PRC’s inflation rate.  Sustained or increasedinflation in the PRC may have an adverse impact on the PRC’s economy and maymaterially and adversely affect our business and financial results.

 

**UncertainLegal System And Application Of Laws.**

 

The legislative trend in thePRC over the past decade has been to enhance the protection afforded to foreigninvestment and allow for more active control by foreign parties of foreigninvested enterprises. There can be no assurance 

 

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that this will continue. Inaddition, as the PRC economy, business and commercial framework and legalsystem all continue to develop, that development may adversely affect theCompany’s activities in the PRC or the ability of the Company to enter intoSino-foreign agreements.

** **

**PRC LegalSystem Business Laws Developing.**

 

The PRC does not yet possessa comprehensive body of business law or a consolidated body of laws governingforeign investment enterprises. As a result, the enforcement, interpretationand implementation of existing laws, regulations or agreements may be sporadic,inconsistent and subject to considerable discretion. The PRC’s judiciary hasnot had sufficient opportunity to gain experience in enforcing laws that exist,leading to a higher than usual degree of uncertainty as to the outcome of anylitigation. As the legal system develops, entities such as the Company may beadversely affected by new laws, changes to existing laws (or interpretationsthereof) and preemption of provincial or local laws by national laws. Even whenadequate law exists in the PRC, it may not be possible to obtain speedy andequitable enforcement of the law.

 

**GovernmentCurrency Controls.**

 

The PRC government imposescontrol over its foreign currency reserves in part through direct regulation ofthe conversion of its currency, Renminbi (“RMB”) into foreign exchange andthrough restrictions on foreign imports. The conversion of RMB into Hong Kongand United States Dollars (“U.S. Dollars”) must be based on rates set by thePeople’s Bank of China (“PBOC”), which rates are set daily based on theprevious day’s Chinese interbank foreign exchange market rate with reference tocurrent exchange rates on the world financial markets.

 

Currently, the RMB ispermitted to fluctuate within a narrow band against the U.S. dollar.  Exchange rate fluctuations may adverselyeffect the Company because of increases in overhead costs, adverse effects onsales, foreign currency denominated liabilities, and may materially adverselyeffect the value, translated into U.S. dollars, of the Company’s net fixedassets situated and to be situated in the PRC, earnings and dividends.

 

**ForeignCurrency Risk.**

 

The Company operates in HongKong, the PRC and trades with both local and overseas customers, and is exposedto foreign exchange risk arising from various currency exposures, primarilywith respect to purchases in, Hong Kong dollar, Renminbi and Euro. Foreign exchange risk arises from committed and unmatched future commercialtransactions, such as confirmed import purchase orders and sales orders,recognized assets and liabilities, and net investment in the PRCoperations.  The Company uses derivative financial instruments such asforeign exchange contracts to hedge certain foreign currency exposures. There can be no assurances that the Company’s hedging strategies will beadequate to avoid this foreign exchange risk.

 

**TurbulentRelations With The United States Of America (“United States”).**

 

Differences between theUnited States and PRC governments on some political issues continueoccasionally to color the relationship. These occasional controversies couldmaterially and adversely effect our business and operations. Political or tradefriction between the two countries could also materially and adversely effectthe market price of our Ordinary Shares, whether or not they adversely effectour business.

 

**Certain Risks Relating To The Company’s Business**

 

**Decline in Revenues; OperatingLoss; Loss Before Income Taxes.**

 

In Fiscal 2008, the Companyhad revenues of approximately US$31,738, 000, operating income of approximatelyUS$370,000 and income before income taxes of approximately US$560,000.  In Fiscal 2009, the Company had revenues ofapproximately US$27,336,000, an operating loss of approximately US$148,000 anda loss before income taxes of approximately US$40,000.  The Company primarily attributes the revenuereduction, operating loss and loss before income taxes in Fiscal 2009 to theglobal economic downturn and having key suppliers selling their productsthrough China suppliers other than the Company.

 

As the global economicdownturn appears to be continuing and the Company may face further competitionby having key suppliers selling their products through China suppliers otherthan the Company, there can be no assurance that the Company’s revenues willnot decline further and losses will not increase.

 

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**We HaveMade And May Make Further Acquisitions Without Your Approval.**

 

Although we endeavor toevaluate the risks inherent in any particular acquisition, there can be noassurance that we will properly or accurately ascertain all such risks. We willhave virtually unrestricted flexibility in identifying and selectingprospective acquisition candidates and in deciding if they should be acquiredfor cash, equity or debt, and in what combination of cash, equity and/or debt.

 

We have taken and areseeking to take equity positions in related businesses.  We will not seekstockholder approval for any additional acquisitions unless required byapplicable law and regulations. Our stockholders will not have an opportunityto review financial and other information on acquisition candidates prior toconsummation of any acquisitions under almost all circumstances.

 

Investors will be relyingupon our management, upon whose judgment the investor must depend, with onlylimited information concerning management’s specific intentions.

 

There can be no assurancethat the Company will locate and successfully complete any such additionalacquisitions, or any acquisition will perform as anticipated, will not resultin significant unexpected liabilities or will ever contribute significantrevenues or profits to the Company or that the Company will not lose its entireinvestment in any acquisition.

 

**Dependence Upon Management.**

 

The Company is dependentupon the services of its executive officers, in particular Mr. T.C.Leung, the Chairman of the Company’s Board of Directors and its Chief ExecutiveOfficer. The business of the Company could be adversely effected by the loss ofservices of, or a material reduction in the amount of time devoted to theCompany by its executive officers. The Company does not maintain “Key Man” lifeinsurance on the lives of any of its officers and directors.  See Item 6. “Directors,Senior Management and Employees.”

 

**AdverseImpact Upon The Company Of PRC’s Credit Restrictions.**

 

The Company faces increasingcompetition from other distributors of substantially similar products andmanufacturers themselves, both foreign and Chinese. The Company faces itsprincipal competition from foreign manufacturers and other distributors oftheir products situated in Hong Kong and the PRC. Competition may causepurchaser demands for price reductions and reduced profit margin.

 

**Competition With Vendors.**

 

As the Company assemblesproducts of the kind that it presently distributes, the Company may directlycompete with certain of its vendors. Any such direct competition may adverselyaffect its relationship with its vendors. See Item 4. “Information on theCompany.”

 

**DependenceOn Vendors; Lack Of Long Term Arrangements; Loss of Vendors.**

 

The Company distributessupplies manufactured by a number of vendors, including , Thermo Fisher Scientific Group (“Thermo”),Siemens Water Technologies Group (“Siemens”), Hach Company - Lachat Instruments(“Hach”) and Caliper Life Sciences Inc (“Caliper”)**,** that are the Company’s largest suppliers, pursuant to short termarrangements. Although alternative sources of supply exist, there can be noassurance that the termination of the Company’s relationship with any of theabove or other vendors would not have an adverse effect on the Company’soperations due to the Company’s dependence on these vendors.  Asubstantial number of the Company’s suppliers have been selling their productsinto China directly and through other distributors.  During Fiscal 2009 our sales, expressed as apercentage of total sales, to Hong Kong increased by 10% while our sales to thePRC decreased by 9% when compared to Fiscal 2008.  The 10% increase in sales to Hong Kong was primarilydue to an increase in sales of Thermo’s products.  The 9% decrease in sales to the PRC wasprimarily due to the global economic downturn and additional sales by out keysuppliers in the PRC through distributors other than the Company.  A loss of a substantial vendor or substantialnumber of our other vendors and/or our competing with them would have amaterial adverse effect on our revenues from trading activities.

 

**RisksRelating To The Company Itself; Control By T.C. Leung; Potential Conflict OfInterests.**

 

T.C. Leung, the Company’sChairman of the Board and Chief Executive Officer, as a practical matter, isable to nominate and cause the election of all the members of the Company’sBoard of Directors, control the appointment of its officers and the day-to-dayaffairs and management of the Company. As a consequence, Mr. Leung canhave the Company managed in a manner that would be in his own interests and notin the interests of the other shareholders of the Company. See Item 7. “MajorShareholders and Related Party Transactions” and  Item 6. “ Directors, Senior Management andEmployees.”

 

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** **

**CertainLegal Consequences Of Incorporation In The British Virgin Islands; Rights OfShareholders Not As Extensive As In U.S. Corporations.**

 

Principles of British VirginIslands (“BVI”) corporate law relating to such matters as the validity of theCompany procedures, the fiduciary duties of management and the rights of theCompany’s shareholders may differ from those that would apply if the Companywere incorporated in a jurisdiction within the United States.

 

The rights of shareholdersunder British Virgin Islands law are not as extensive as the rights of shareholdersunder legislation or judicial precedent in many United States jurisdictions.Under United States law, majority and controlling shareholders generally havecertain “fiduciary” responsibilities to the minority shareholders. UnitedStates shareholder action must be taken in good faith and actions bycontrolling shareholders in a United States jurisdiction and executivecompensation which are obviously unreasonable may be declared null and void.

 

The BVI law protecting theinterests of the minority shareholders is not as protective in allcircumstances as the law protecting minority shareholders in United Statesjurisdictions. The shareholders of the Company may have more difficulty inprotecting their interests in the face of actions by the Company’s Board ofDirectors, and may have more limited rights, than they might have asshareholders of a company incorporated in many United States jurisdictions.

 

**Anti-Takeover Provisions.**

 

The Company has 5,000,000shares of “blank check preferred stock” authorized. The “blank check preferredstock” is intended to strengthen the Company’s ability to resist an unsolicitedtakeover bid and may be deemed to have an anti-takeover effect. The Board ofDirectors has the right to fix the rights, terms and preferences at the time ofissue of “blank check preferred stock” without further action by ourshareholders.

 

**UncertaintyOf Enforcing United States Judgments.**

 

There is some uncertaintywhether BVI courts would enforce judgments of the courts of the United Statesand of other foreign jurisdictions, or enforce actions brought in the BVI whichare based upon the securities laws of the United States. A final monetaryjudgment obtained in the United States will be treated as a cause of action initself by the BVI courts so that no retrial of the issues would be necessary,provided that material preconditions are met and the proceedings pursuant towhich judgment was obtained were not contrary to the rules of naturaljustice.

 

All of the Company’sdirectors and executive officers reside outside of the United States, serviceof process upon the Company and such persons may be difficult to effect in theUnited States upon all such directors and officers.

 

All of the Company’s assetsare and will be located outside of the United States, in Hong Kong and the PRC,and any judgment obtained in the United States may not be enforced in thosejurisdictions. Hong Kong courts will not directly enforce against the Companyor such persons judgments obtained in the United States. There is also substantialdoubt as to the enforceability in the PRC of actions to enforce judgments ofthe United States’ courts arising out of or based on the ownership of thesecurities, including judgments arising out of or based on the civil liabilityprovisions of United States federal or state securities laws or otherwise. See “—Certain Legal Consequences of Incorporation in the British Virgin Islands;Rights of Shareholders not as Extensive as in U.S. Corporations.”

 

**Being AForeign Private Issuer Exempts Us From Certain Securities And ExchangeCommission (“Commission”) And NASDAQ Capital Markets (“NASDAQ”) Requirements.**

 

We are a foreign privateissuer within the meaning of rules promulgated under the SecuritiesExchange Act of 1934 (the “Exchange Act”). As such, with certain limitations,we are exempt from certain provisions applicable to United States publiccompanies including: (1) the rules under the Exchange Act requiringthe filing with the Commission of quarterly reports on Form 10-Q or currentreports on Form 8-K; (2) the sections of the Exchange Act regulatingthe solicitation of proxies, consents or authorizations in respect of asecurity registered under the Exchange Act; (3) the provisions ofRegulation FD aimed at preventing issuers from making selective disclosures ofmaterial information; and (4) the sections of the Exchange Act requiringinsiders to file public reports of their stock ownership and trading activitiesand establishing insider liability for profits realized from any “short-swing”trading transaction (i.e., a purchase and sale, or sale and purchase, of theissuer’s equity securities within less than six months.  Because of these exemptions, investors arenot afforded the same protections or information generally available toinvestors holding shares in public companies organized in the United States.

 

**OurSecurities Must Continue To Meet Qualitative And Quantitative ListingMaintenance Criteria For NASDAQ.**

 

Our securities are quotedand traded on the NASDAQ Capital Market. There can be no assurance that we will continue to meet both thequalitative and quantitative criteria for continued quotation and trading ofour securities on the 

 

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NASDAQ Capital Market.  One of NASDAQ’s listing requirements is themaintenance of a closing bid priceof US$1.00 per share.  During periods of time in 2008 and 2009 theCompany was not in compliance with that requirement but NASDAQ had generallysuspended that requirement and others due to market conditions and/or theUS$1.00 per share bid price was not met for a sufficient period of time tocause a NASDAQ deficiency action.

 

If we are unable to meet thecontinued quotation criteria of the NASDAQ Capital Market and are suspendedfrom trading on these markets, our securities could possibly be traded in theover-the-counter market and be quoted in the so-called “pink sheets” or, ifthen available, the OTC Bulletin Board. In such an event, an investor wouldlikely find it more difficult to dispose of, or even obtain accurate quotationsof, our securities. See “- We Are Also Required To Meet Certain, But Not AllCorporate Governance Criteria” Applicable to NASDAQ Listed Issuers.

 

**We Are AlsoRequired To Meet Certain, But Not All, Corporate Governance Criteria ApplicableTo NASDAQ Listed Issuers.**

 

Although, in the past, wehave been able to satisfy corporate governance criteria applicable to NASDAQ’sCapital Market, those criteria are difficult to comply with and include, amongother things: (a) a heightened degree of independence of members of theboard of directors with independent directors to, among other things: holdregular meetings among themselves only; (b) establishment of a code ofconduct addressing compliance with laws; and (c) a limit on payments toindependent directors and their family members (other than for services on theboard of directors).

 

These corporate governancerequirements and a strict definition of “independent director” make it moredifficult to find independent directors for our Board of Directors. There isintense competition for qualified independent directors, including thosepersons with accounting experience and financial statement acumen to serve onaudit committees. We believe that continued compliance with the corporategovernance requirements applicable to NASDAQ listed issuers may be difficultand increase our costs and expenses as the costs of finding and compensatingindependent directors escalate and the costs of administering their new powersand responsibilities is an added financial burden. If we are unable to attractand keep a sufficient number of independent directors willing to take on theresponsibilities imposed by such rules on what we believe to becommercially reasonable terms, our securities may be delisted fromNASDAQ.  (See “-Being a ‘Controlled Company’ Exempts Us From Certain OtherCorporate Governance Criteria Applicable to NASDAQ Listed Issuers.”)

 

**Being A “ControlledCompany” Exempts Us From Certain Other Corporate Governance Criteria ApplicableTo NASDAQ Listed Issuers.**

 

As a result of T.C. Leung,the Company’s Chairman of the  Board and Chief Executive Officerbeneficially owning in excess of the majority voting power of our OrdinaryShares, we are a “controlled company” as that term is defined in rules andregulations applicable to NASDAQ listed issuers. As a “controlled company”, weare not required to comply with certain NASDAQ corporate governance criteriaincluding, among other things, the requirements that the majority of our Boardbe independent directors, and their having the authority to approve directornominations and executive officer compensation.

 

**We Are NotSubject To Various Corporate Governance Measures, Which May Result InShareholders Having Limited Protections.**

 

Recent Federal legislation,including the Sarbanes-Oxley Act of 2002 (“SOX”), has resulted in the adoptionof various corporate governance measures by securities exchanges and NASDAQdesigned to promote the integrity of the corporate management and thesecurities markets.  Being a “controlled company,” we are exempt frommany, but not all, of those requirements. Furthermore, the absence of such practices with respect to our Company mayleave our shareholders without protections against interested directortransactions, conflicts of interest and similar matters.

 

**WeMay Be Exposed To Potential Risks Relating To Our Internal Controls OverFinancial Reporting And Having Those Controls Attested To By Our IndependentAuditors.**

 

Pursuant to Section 404of SOX, the SEC adopted rules requiring public companies to include areport of management on the company’s internal controls over financialreporting in their annual reports, including Form 20-F.  In addition,the independent registered public accounting firm auditing a company’sfinancial statements must also attest to and report on management’s assessmentof the effectiveness of a company’s internal controls over financial reportingas well as the operating effectiveness of a company’s internal controls. We were not subject to theses requirements for the fiscal year ended December 31,2009 as a result of temporary rules adopted by the SEC.  We are evaluating our internal controlsystems in order to allow our independent auditors attest to, our internalcontrols, as a required part of our Annual Report on Form 20-F beginningwith that report required when the temporary rules cease being effective.

 

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While we expect to expendsignificant resources in developing the necessary documentation and testingprocedures required by SOX, there is a risk that we will not comply with all ofthese requirements.  There can be noassurance that we will receive a positive attestation from our independentauditors.

 

In the event we identifysignificant deficiencies or material weaknesses in our internal controls thatwe cannot remediate in a timely manner or we are unable to receive a positiveattestation from our independent auditors with respect to our internalcontrols, investors and others may lose confidence in the reliability of ourfinancial statements, our ability to obtain equity or debt financing couldsuffer and the market price of our shares could decline.

 

**The MarketPrice Of Our Securities Has Been Fluctuating Widely.**

 

During the past severalyears, the market price of our Ordinary Shares has fluctuated widely on occasion.  Except for the recent price declines that theCompany attributes to the current global economic downturn, the Company knowsof no reason for these wide fluctuations. See Item 9.C- “Markets.”

 

**There AreRisks In Purchasing Low-Priced Securities.**

 

If our securities were to besuspended or delisted from the NASDAQ Capital Market, they could be subject torules under the Exchange Act which impose additional sales practicerequirements on broker-dealers who sell such securities to persons other than establishedclients and “accredited investors” (for example, individuals with a net worthin excess of US$1,000,000 or an annual income exceeding US$200,000 orUS$300,000 together with their spouses). For transactions covered by suchrules, a broker-dealer must make a special suitability determination of thepurchaser and have received the purchaser’s written consent to the transactionprior to the sale. Consequently, such rules may affect the ability ofbroker-dealers to sell our securities and the ability to sell any of oursecurities in any secondary market that may develop for such securities.

 

In the event our securitiesare no longer listed on the NASDAQ Capital Market or are not otherwise exemptfrom the provisions of the SEC’s “penny stock” rules, such rules may alsoaffect the ability of broker-dealers and investors to sell our securities.

 

**There Is No Assurance Of A Continued Public Market For OurSecurities.**

 

Therecan be no assurance that a trading market for our Ordinary Shares willcontinue.

 

**We May Be Considered To Be APassive Foreign Investment Company For The 2009 Calendar Year And May Be APassive Foreign Investment Company For Future Years, Which Would Result InAdverse U.S. Federal Income Tax Consequences To U.S. Holders Of Our OrdinaryShares.**

 

A non-U.S. corporation willbe considered a passive foreign investment company (“PFIC”) for U.S. income taxpurposes, for any taxable year if either (i) at least 75% of its grossincome is passive income or (ii) at least 50% of the value of its assets(based on an average of the quarterly values of the assets during a taxableyear) is attributable to assets that produce or are held for the production ofpassive income. The annual PFIC determination to be made by a U.S. holder ofour ordinary shares is an inherently factual determination and there is limitedguidance regarding the application of the PFIC rules to specificsituations. We currently hold a substantial amount of cash and cashequivalents, and investments in PRC enterprises, and the value of our goodwilland other assets may be based in part on the market price of our ordinaryshares, which has experienced significant fluctuations. Although thedetermination of PFIC status is subject to factual uncertainties because itdepends upon the valuation of our ordinary shares, as well as our goodwill andother assets and income, we are uncertain if we would be considered to be aPFIC for 2009. In addition, as the determination of PFIC status is made on anannual basis and depends on variables over which we have limited control, therecan be no assurance that we will not be a PFIC for 2010 or any future years. Ifwe are a PFIC in any year, U.S. Holders will be subject to certain adverseUnited States federal income tax consequences, as discussed in “*Item 10 Taxation—United States Federal IncomeTaxation*.”

 

**ITEM 4.****                                                    ****INFORMATION ON THE COMPANY**

 

***Item 4A.                Historyand Development of the Company***

 

The Company was organizedunder the laws of the British Virgin Islands on September 30, 1996 for thepurposes of raising capital and for acquiring all the outstanding capital stockof Euro Tech (Far East) Limited, a Hong Kong corporation involved in thedistribution of advanced water treatment equipment (“Far East”). InMarch 1997, the Company acquired all the issued and outstanding capitalstock of Far East and it became a wholly-owned subsidiary and was the primaryoperational entity of the Company.

 

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During Fiscal 2005, wecompleted our plan to increase our equity position in Yixing Pact EnvironmentalTechnology Company Limited (“Yixing”) and Pact Asia Pacific Limited (“Pact”), acompany engaged in water and waste-water treatment solution business.  Wehad previously owned thirty (30%) percent of their capital stock.  Withthe addition of twenty-one (21%) percent of Pact’s and Yixing’s capital stockin October 2005, they became our majority-owned subsidiaries.  In January 2010, we acquired anadditional two percent (2%) interest in Pact, increasing our ownership tofifty-three (53%) percent of Pact.  Theforegoing purchases of Yixing and Pact were made from Tamworth IndustrialLimited (“Tamworth”).

 

Pact and Yixing, situated inShanghai, specialize in the design, manufacture and operation of water andwaste-water treatment plants in several industries situated in China.  Pact and Yixing, through associates andbusiness alliances, also conduct similar operations in the Middle East.

 

In November of 2006 weestablished Shanghai Euro Tech Environmental Engineering Company Ltd. (“Shanghai— Environmental”) as a wholly-owned subsidiary under the laws of the People’sRepublic of China, to carry on our environmental engineering department with thatline of business and its personnel transferred from our subsidiary, Euro Tech(Far East) Ltd.  Shanghai — Environmental is focusing on our water andwaste-water treatment engineering business and is planned to be the home of ourplanned expansion into the air pollution control business.

 

China’s rapid economicgrowth had led it to become one of the world’s largest emitters of sulfurdioxide.  The damage due to acid rain caused by sulfur dioxide is vast,and is also affecting the neighboring countries as air currents transportsulfur dioxide.  To tackle these environmental and geo-political issues,China has established targets to reduce key pollutants, namely, sulfur dioxide,nitrogen oxides and suspended particulates.  Heavy polluters are beingwarned to reduce their emissions or face penalties.  We believe that as aresult, the demand of desulphurization and dust removal equipment will increaseaccordingly.

 

In August 2007,Far Eastacquired a 20% equity interest in Zhejiang Tianlan Desulfurization and Dust-RemovalCo. Ltd. (“BlueSky”), founded in 2000, for approximatelyUS$4,648,000.  Blue Sky provides designand general contracting services, equipment manufacturing, installation,testing and operation management for the purification treatment of industrialwaste gases (specifically as desulphurization, flue gas de-nitration, dustremoval) emitted from various boilers and industrial furnaces of power plants,steelworks and chemical plants.  Bysecuring an equity stake in BlueSky’s business, we have a strategic partner towork within China’s environmental protection business.  With BlueSky’stechnology and technical support, we believe we are able to provide servicesand environmental solutions not only for water and waste-water treatment butalso for air pollution control for industrial clients in China.

 

In January 2008, weacquired a 20% equity interest in Zhejiang Jia Huan Electronic Co. Ltd., (“JiaHuan”) for approximately US$2,610,000. Jia Huanhas been in the environmental protection business since 1969.  Approximately 95% of Jia Huan’s business isrelated to air pollution control and less than 5% is related to water andwastewater treatment.  Jia Huan designsand manufactures automatic control systems and electric voltage controlequipment for electrostatic precipitators which are used as air purificationequipment for power plants, cement plants and incinerators to remove andcollect dust and pollutants from exhaust stacks.

 

***Item 4B.                BusinessOverview***

 

The Company had beenprimarily a distributor of a wide range of advanced water treatment equipment(including chlorination equipment), laboratory instruments, analyzers, testkits and related supplies and power generation equipment (including recordersand power quality analyzers). The Company acts as an exclusive andnon-exclusive distributor for well-known manufacturers of such equipment,primarily to commercial customers and governmental agencies orinstrumentalities in Hong Kong and the PRC.

 

The Company distributesproducts through its Hong Kong headquarters, its retail shops andrepresentative offices located in Beijing, Shanghai, Guangzhou, Chongqing,Xi ́An, Shenyang, Wuhan, Fuzhou, Chengdu and Urumqi and through non-exclusivearrangements with independent sub-distributors located in Hong Kong, the PRCand Macau.

 

We are in the process ofshifting our emphasis from the distribution of instruments and equipment toengineering and manufacturing activities.  Revenues from our “trading”activities have fallen-off as a substantial number of our suppliers have beenselling their products into China directly and through otherdistributors.  Many of these other distributors are local Chinesecompanies and can operate with a lower overhead.  In Fiscal 2008, revenues and net incomegenerated from our environmental engineering department and our majority ownedsubsidiaries, Pact and Yixing (companies engaged in the water and waste watertreatment solution business),  more thanoffset our falling “trading” revenues. However, in Fiscal 2009, that was no longer the case as Pact’s andYixing’s Revenues declined as a result of the global economic downturn.

 

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Laboratory instruments,analyzers and test kits are used to analyze the chemical content and ascertainthe level of impurities or other contaminants in water. The Company distributesanalytical re-agents and chemicals to support testing systems of laboratory andportable instruments, process analyzers and portable test kits and assist inthe analysis process. The Company offers a wide variety of test kits to testwater quality. The Company believes that these portable test kits are easy touse and preadapted for rugged field use. These test kits are used to monitordrinking water distribution systems.

 

Laboratory and portableinstruments generally consist of analytical instruments including, but notlimited to the following: spectrophotometers, colorimeters, turbidimeters, ion-selectiveelectrodes, chemical oxygen demand apparati, digestion apparati, and precisionre-agent dispensing devices which are used to test and monitor impurities andcontaminants in water systems. See “Glossary.”

 

The Company also distributescontinuous-reading process analyzers, process turbidimeters, pH controllers andanalyzer accessories. These products are generally used to monitor and controldrinking water quality to ensure that water treatment procedures comply withregulatory standards. See “Glossary.”

 

To allow the Company to bidon larger water, waste-water and power generation projects, we acquired Pactand Yixing  (“Pact-Yixing”) and continue our search for other engineeringcompanies and/or a system integrator (a company that provides hardware,software and solutions in the field of engineering) or enter into a jointventure with a third party to work in connection with our process control andengineering department.

 

Pact-Yixing have completed asubstantial number of industrial water and waste-water treatment projects inthe PRC.  The majority of these projects are for large multinationalmanufacturing facilities for clients from the USA, Europe and Japan. Process design as well as mechanical and electrical engineering are completedin-house and manufacturing contracted to approved fabricators ofcomponents.  Fabrication drawings are also done in-house for submittal tosaid fabricators under the supervision of Pact-Yixing’s quality controlengineers.

 

Pact-Yixing clients cover avaried spectrum of industries covering semiconductor, pharmaceutical,petrochemicals, auto and auto parts, steel, food and beverage and beautyproducts.

 

The water and waste-watertreatment processes applied at Pact-Yixing cover chemical, physical, biologicaland membrane separation.  A combination of those processes are normallyused to treat a specific industrial process feed or effluent.  Withrespect to the water treatment side of Pact-Yixing’s business, they design andbuild filtration equipment, ion-exchange softeners and demineralizers, reverseosmosis, electro-deionization, chemical treatment systems and package typemobile water treatment plants.  As for waste-water treatment, Pact-Yixingdesign and build biological treatment systems, oil coalescers, dissolved airflotation, lamella clarifiers, chemical reactor tanks, ultrafiltration,microfilitration, dewatering systems and package type mobile sewage treatmentplants.  Biological treatment plants cover both aerobic and anaerobicprocesses.  State-of-the-art aerobic processes of SBR (sequential batchreactors) and MBR (membrane biological reactors) are technologies also coveredby Pact-Yixing.  See**“**Glossary**.”**

 

In 2006, Pact-Yixingcommenced selling water and waste-water treatment equipment.  Theequipment are components of systems traditionally marketed byPact-Yixing.  The equipment are partially manufactured to Pact-Yixing’sin-house design and partially procured from approved Chinese suppliers. PACT and Engineering FZC (“PACTFZC”), a Middle Eastern water treatment companybased in Dubai, and a third party agreed to form a joint venture.  InJune 2007, the joint venture, PactEnvironmental Equipment Co. Limited (the “JV”), was registered in the PRCwithout the parties entering into a written joint venture agreement.  PACT invested US$300,000 and has a 60%controlling interest of the JV, PACTFZC, majority owned by George Hayek, theCompany’s Managing Director and the third party each invested US$100,000 inconsideration for 20% interests.  The JV’sproducts cover equipment used for screening, grit removal, clarification,aeration, sequential batch reactors, membrane bioreactors, sludge dewateringand sludge conveying.

 

In February 2010, Pactentered into an agreement with a stainless steel manufacturer providing for anaggregate of up to $3,800,000 to be paid to Pact, of that aggregate amount aUS$749,000 down payment has been paid, for the engineering, design, supply,equipping, installation, personnel training and commissioning of waste watertreatment, direct water cooling, indirect cooling tower water, potable watertreatment and industrial water treatment systems in Jiangsu, China.** **The target dates forthe completion of the various systems run from the end of January 2011through March 2011.  The balance ofcontract price is payable in varying installments upon the completion ofcertain thresholds and the buyer’s acceptance of the thresholds being met.

 

The Company believes thatthe Pact-Yixing business is complementary to the Company’s business as theCompany continues to sell and market products of others. The Company expectsthat with this acquisition it may be able to gain a competitive advantage byoffering customers and potential customers not only hardware but solutions toengineering problems as well.  TheCompany continues to seek to make a similar acquisition of an engineeringcompany specializing in air pollution control or other complementaryenvironmental protection fields or in the power generation field.

 

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A purpose of thisacquisition was to reconfirm our direction to place a greater emphasis ondeveloping an engineering solution business, instead of relying on its thencurrent activities.

 

**Product Distribution and Other Services**

 

**ScientificInstruments***.* The Company distributesanalytical instruments, environmental monitoring instruments and generalpurpose laboratory instruments. Analytical instruments include, but are notlimited to, chromatographs, mass spectrometers, flow injector analyzers,refractometers and atomic spectrometers. Environmental monitoring instrumentsinclude both air and water quality monitoring instruments. Air qualitymonitoring instruments are generally divided into those which monitor ambient(i.e., atmospheric) air, and those which monitor pollution sources.Additionally, the Company offers general purpose laboratory instrumentsincluding a variety of water quality monitoring and analysis equipment, such ascontinuous reading process analyzers, process turbidimeters, pH controllers,and test kits for monitoring chemical content in water (i.e., chlorine,fluorides, etc.). See “Glossary.”

 

Customers for the analyticalinstruments include government agencies, academic and research institutions andmajor laboratories. The Company also distributes products to beverage producersand restaurants, including water quality test kits to more than twelve bottlingplants of a well known United States soft drink producer, which are located inthe PRC; water quality monitoring instruments to well known United States fastfood franchisor’s restaurants located in Hong Kong and the PRC, and package analyzers to the various PRC plants of a substantialworldwide Belgian brewer.  Each such sodaproducer, restaurant and beer bottler does not account for a significantportion of our sales.

 

Customers for air and waterquality monitoring instruments also include government agencies such as theHong Kong Environmental Protection Department, which uses a Company distributedwater quality monitoring system to monitor the water quality of Hong Kong’sVictoria Harbor, more than ten water treatment plants located in the PRC(including sites at Beijing, Tianjin, Guangzhou and Wuhan), and supplied toxicity analyzers to various environmental monitoringcentres throughout Chinathrough China’s Ministry of Environmental Protection (“MEP”).

 

The Company derivedapproximately, 67.2%, 52.4% and 38.7% ofits revenues from the sale of Scientific Instruments during Fiscal 2009, Fiscal2008 and Fiscal 2007, respectively.

 

**ProcessControl and Engineering Products*.***The Companyprovides process control systems specifically designed for the industrial needsof clients including sensors, temperature gauges, pressure gauges, power andenergy consumption meters, flow meters, valves, temperature and pressuretransmitters and control devices, temperature and pressure calibrators,moisture, power, energy and harmonic analyzers. Chlorination disinfectionsystems are also distributed by Far East in conjunction with water treatment,sewage discharge and swimming pool water treatment. Customers for the foregoingdistributed products include government water supply agencies, water treatmentfacilities, power and electric companies, petrochemical plants and instrumentmanufacturers. For example, the Company distributes chlorination disinfectionsystems to water plants located in Guangdong, PRC.

 

In conjunction with thedistribution of products such as programmable logic controllers, telemetryunits and SCADA systems and software, the Company also provides systemsengineering to government agencies, waste-water treatment and power generationplants and beverage producers. Specific services provided include automatedcontrol system design, the operation and management of various waste-water,water and power generation projects. We endeavor to introduce, develop, andpromote new and advanced technologies, products, and appropriate technicaldevelopments from abroad. We have also been cooperating with establishedtechnology companies and engage in systems and special projects in ProgrammableLogic Control, Telemetry unit, SCADA systems, Human Machine Interface Softwareand Sequential Event Recording.

 

The Company derivedapproximately 17.8%, 19.3% and 23.0% ofits revenues from the sale of Process Control and Engineering Products duringFiscal 2009, Fiscal 2008 and Fiscal 2007, respectively.

 

**EnergyConservation, And Related Products.** The Company distributes generaltesting and measuring equipment including multi-channel digital and analoguerecorders, signal amplifiers and calibration equipment for energy conservation,renewable energy equipment, power quality analyzers,continuous emissions monitoring systems and air pollution control systems to industriesincluding power plants, railway and aero-space industries, utilities,educational institutions and telecommunications companies. The Companyderived approximately 13.2%, 27.1% and 36.9% of its revenues from the sale ofthese Energy Conservation and Related Products during Fiscal 2009, Fiscal 2008and Fiscal 2007, respectively.

 

**TechnicalSupport.** The Company’s technical support staff providescustomers with maintenance, installation assistance, and calibration services,and assists sales personnel in giving technical advice to and performingproduct demonstrations for customers. Technical Support services derivedapproximately 1.8%, 1.2% and 1.4% of its revenues from Technical Support Operations during Fiscal 2009,Fiscal 2008 and Fiscal 2007, respectively.

 

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**Customers.** During Fiscal2009, the Company distributed products to in excess of 1,000 customers,including sub-distributors, located in Hong Kong, the PRC and Macau such as theHong Kong Environmental Protection Department, Hong Kong Water SuppliesDepartment, Government Laboratory, Drainage Services Department, China’sNational Environmental Protection Agency, various Environmental MonitoringCenters in the PRC. Government Laboratory and Water Supplies Department of HongKong accounted for 17.5% and 9.3% of the Company’s revenues during Fiscal 2009.The Company does not believe that any single customer or sub-distributor ismaterial to its operations.

 

**Manufacturingand Product Assembly Operations**

 

The Company, through its PRCCorporation, Shanghai Euro Tech Limited established in 1999 in the Pudong JinQiao Export Processing Zone of Shanghai, engages in the development,production, sales and servicing of environmental equipment, including thedevelopment of modern laboratory analyzers, on-line measuring equipment andother analyzers for chemicals. Our products are “tailor-made” for thediversified needs of equipment users. Main products include InfraredPhotometric Oil Analyzer (IPOA), COD analyzers, Total Organic Carbon Analyzer,turbidity meters, total suspended solid analyzers, dissolved oxygen analyzers,various types of spectrophotometers as well as a full spectrum of matchingchemical reagents. In late 2005, we began offering two new turbidity meters,manufactured by the Company.** **One of the new turbidimeters is directed at water treatment plants,environmental monitoring status, hydrological stations and the second isdirected at beer and other beverage processing facilities and it analyzes theparticles contained in the beverage.  In November 2006, we beganactively marketing our Total Organic Carbon (TOC) analytical instrument thatmeasures the degree of the pollution level of drinking water, ground water andwaste water. Our TOC analyzer has been three and a half years in research,development and field testing of prototypes sold to our customers. We had madesome modifications to this product to improve the quality and obtained updatedChinese Metrology Certification, a certificate issued by Bureau of Quality andTechnical Supervision in November 2007and began selling this modified TOC in 2008. We have also upgradedother existing instruments and developed a quick response Chemical OxygenDemand (“COD”) test instrument for use on surface water, underground water anddomestic and industrial wastewater.  In2008 we introduced a Flue Gas Emissions Analyzer for use in environmental compliancemonitoring. We also developed energy meters (devices measuring electric energy consumption and corresponding carbon dioxideemissions) and water toxicity analysis instruments.  In 2010, we started to develop a nondispersiveinfrared sensor (“NDIR”) for flue gases.

 

The Company believes that byestablishing product assembly operations in the PRC will not only increaserevenues, expand its customer base, but also its net income since the Companybelieves it will enjoy higher overall profit margins by assembling certainproducts which it now distributes rather than by only purchasing the finishedproduct from vendors.

 

**Sources ofSupply**

 

The Company distributesproducts manufactured by a substantial number of major American, European andJapanese corporations, including Thermo,Siemens, Hach and Caliper, which are the Company’s largest suppliers,with purchases from them accounting for approximately 10%, 7%, 8% and 10%,respectively of the Company’s sales during Fiscal 2008 and approximately 21%,13%, 10% and 10%, respectively of the Company’s sales during Fiscal 2009.  The Company has exclusivity agreements forspecified geographic areas with many of its suppliers for certain products.Those agreements do not encompass all products distributed by the Company orall of the market areas serviced by the Company. In addition, some of theseagreements are memorialized not as formal contracts but rather through otheracknowledgements or correspondence which may contain a vague, if any,description of the terms and conditions of such agreement or arrangement, andtherefore may be unenforceable.  The Company’s Letter of Authorization with Thermo is valid until December 31,2010. The Company’s agreement with Siemens shall remain in force for anindefinite period of time, unless either party may terminate the agreementwithout cause by giving the other party 6 months prior written notice.****The Company’s agreement with Caliper is terminable onninety days notice by either party. In May 2010, Caliper sold most ofits products distributed by the Company to another internationalmanufacturer.  Although alternativesources of supply exist, there can be no assurance that the termination of theCompany’s relationship with any of the above or other vendors would not have anadverse effect on operations.

 

**FuturePlanning and Expansion**

 

We continuously search forother companies engaged in manufacturing the above products and equipment andin engineering companies which design and build pollution controlsystems.  We anticipate that the costs of any such acquisition would bedrawn from our general working capital and, possibly, by private sales of oursecurities including the potential exercise by officers and directors of theiroptions.  We have no commitments or indications of interest for theprivate sales of our securities.

 

We are planning to expand ouractivities in the air pollution control business by forming joint ventures,investing or acquiring some interests in other companies involved in(i) the dust removal and/or (ii) the flue gas desulphurization forpower plant industries and other similar industries.

 

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Our plans for the near termalso include continued use of our retail shops to sell “low-tech” products andour own products.  We believe that these shops are operating with a loweroverhead than the rest of the Company; and we believe that the continued “low-tech”product sales through our retail shops coupled with our “on-line” product saleswill allow us to continue to offer products at lower prices than ourcompetitors.

 

Having “low-tech” productsoffered through our retail shops and the availability of “on-line” productofferings are anticipated to allow our sales force to focus on “high-tech” andother products requiring personal or telephone contact directly with customersand potential customers.

 

The Company believes that byassembling the products it distributes, it may realize increased gross profitmargins and greater revenues and net income than if it remains only a productdistributor.  During the next twelvemonths, we intend to assemble and/or manufacture additional products,especially those related to the air pollution and energy conservation sectorsand seek opportunities with our suppliers to assemble their products, securemanufacturing and/or assembly facilities and seek another manufacturer ofanalytical instruments to acquire.

 

**RegulatoryEnvironment**

 

Concerns about and awarenessof pollution problems and environmental issues have grown at all levels of PRCgovernment as the PRC experienced economic growth. Environmental protectionlaws and strict regulations have been enacted and are buttressed by increasedbudget allocations for environmental regulation, monitoring and enforcement.The PRC’s primary environmental protection agency is the Ministry of Environmental Protection(MEP), under which there are Environment Protection Bureaus in each cityand county. According to oral information received by management from MEP, under bureau management, there are two environment monitoringsystems: one system consists of over 2,200 monitoring stations to collect andanalyze the environmental data of each city and county; another system consistsof over 2,500 stations to monitor specific industrial districts or factorieswhich have been identified as major pollution sources due to theirnon-compliance with environmental regulations. The PRC government hasestablished ambitious targets in its 12th Five-Year Program (2011-2015) toslash emissions of pollutants, including sulfur dioxide emissions and COD, by 10%. ****The PRCgovernment passed a law requiring power distributors to combat globalwarming.  A central government fund, financed by a national tariffincrease, will subside the tariff gap between more expensive renewable energyand the national average tariff.   Preferential policies also encourage construction of renewable energyprojects, projects in poorer interior regions that are often rich in water,solar and wind resources.  The Company has supplied water and air qualitymonitoring and analytic instruments to these monitoring stations for severalyears. There can be no assurance that the agencies will continue to use theCompany’s products for these purposes, or that other market competitors willnot enter the market with superior products, distribution systems or morecompetitive prices. See “Competition.”

 

**Competition**

 

The Company facescompetition from other distributors of substantially similar products as wellas the manufacturers of such products, and in both foreign and Chinesemarkets.  The Company faces its principal competition from manufacturersand other distributors of its core products located in Hong Kong and thePRC.  Moreover, the Company has implemented plans to assemble products ofthe kind that it presently distributes (see “-Product Assembly Operations”). Assembly operations have developed to the stage where some products havealready been presented to the market and the Company is in direct andunavoidable competition with certain of its vendors.  There can be noassurance that the existence of this direct competition will not impair theCompany’s ability or such competitor’s willingness to continue providing otherproducts for continued distribution by the Company and that such a developmentwould not materially adversely effect the Company’s core business.

 

During Fiscal 2009, Fiscal2008 and Fiscal 2007, the Company’s gross profit margins were approximately24%, 24%, and 25%, respectively. The Company believes that it competes with the PRCmanufacturers on the basis of quality and technology. The Company believes itoffers foreign-manufactured products which are of higher quality and use moreadvanced technology than products manufactured in the PRC. The Company believesthat it competes with foreign manufacturers and other distributors of theirproducts on the basis of the Company’s more extensive distribution network andan established reputation. Pact-Yixing focuses on a market of providing waterand waste water treatment services to multinational companies.  TheCompany competes in this market based upon the quality of its products andhaving a knowledgeable staff.

 

**Website**

 

The Company, through itssubsidiary, ChinaH2O.com Limited, a Hong Kong corporation, has a internetplatform. The website is located at (http://www.chinah2o.com). The website isdirected at environmental businesses in China.  The website providesenvironmental news, directories of western suppliers, potential clients inChina, advertisement space and business opportunities.  The business andother activities generated by ChinaH2O.com Limited 

 

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have had a synergisticeffect with those of the Company indirectly by feeding market information,sales leads and tender information to the Company.

 

**Sales andMarketing**

 

The Company distributesproducts through its principal office located in Hong Kong and its representativePRC offices located in Beijing, Shanghai and Fuzhou.  During 2007, theCompany closed one representative office and consolidated their personnel intoour retail shop, as the office did not financially contribute to the Company asanticipated. The Company has a marketing and sales force of 62****people who are paid a salary plus a sales based commission.The Company’s offices also coordinate the sales efforts of approximately fiftyother companies located in the PRC which act as sub-distributors. Thesesub-distributors are engaged on a non-exclusive basis to distribute theproducts of other distributors. Each of the fifty sub-distributors accountedfor less than two (2%) percent of the Company’s sales during Fiscal 2007through Fiscal 2009.

 

Following the opening of ourfirst retail shop in Shanghai in 2001, (closed in 2007 but absorbed into ourown Shanghai Euro Tech Trading (“Shanghai Limited”), Euro Tech retail outletsare now found in a number of major cities in the PRC, including Beijing andGuangzhou. Our staff at these shops assists customers in selecting theequipment, auxiliary parts and products to suit customer specifications.Equipment that needs to be repaired or provided with routine maintenance can bereturned to us via these shops, as our retail shops, except for the Beijingshop, are also maintenance centers. The Company has found the six existingshops to be useful as demonstration locations easily accessed by localcustomers who can pay in local currency while “off the shelf” sales are madewhich move its inventory more readily. In addition to the shops, we also havefour branches or representative offices of these shops.  All of theforegoing are perceived by the Company to have had a positive impact on itsbusiness reputation while reducing the Company’s dependency on sub-distributorswho may not be loyal to the Company and distribute products of our competitors.As foreign entities are not generally permitted to own these facilities, theseshops are owned by non-officer/director, employees of the Company with fundsfrom the Company through non-fixed term loans aggregating approximatelyUS$144,000 bearing a nominal rate of interest. The shops do not have financingfrom other sources. There can be no assurance that these shops will continue tobe economically viable, that the Company will not sustain losses in connectionwith the loans to the shops; or the shops will result in any significantrevenues or profits for the Company. Also, similar shops may be established byour competitors and/or third parties.

 

Foreign entities are nowpermitted to own retail shops in some regions of PRC.  The Company hasestablished three wholly-ownedretail shops in Chongqing, Xi’An and Guangzhou. During 2007, we closed the Wuhan representativeoffice, merging personnel into our Wuhan shop. During 2008, we closed a Guangzhou representative office, merging personnel into ourCompany owned retail shop in that city. During 2009, we closed the retail shop in Guangzhou owned bynon-officer/director, employees of the Company.  We will continue toconsolidate our operations by combining the retail shops and representativeoffices in the same cities or close shops and offices that do not appear to becontributing to the Company as expected.

 

These shops (or their representativeoffices) were opened on the following dates:

 

RetailShops

 

Owned bynon-officer/director, employees of the Company:

 
| Beijing  |   | October 2001  |   |
|----------|--------|--------------------|--------|
| Wuhan    |   | November 2002 |   |
| Shenyang |   | December 2002 |   |

 

Owned by the Company:

 
| Chongqing  |   | November 2006 |   |
|------------|--------|--------------------|--------|
| Xi ́An |   | April 2007    |   |
| Guangzhou  |   | April 2008    |   |

 

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RepresentativeOffices

 
| ChengDu |   | March 2007   |   |
|---------|--------|-------------------|--------|
| Urumqi  |   | October 2007 |   |

 

***Item 4C.                OrganizationalStructure***

 

The Company presently whollyowns Far East, a Hong Kong corporation, which, in turn, owns the followingcorporations:

 

**Wholly-Owned**

 

·                    Euro Tech Trading (Shanghai)Limited — a People’s Republic of China corporation

·                    Euro Tech (China) Limited —a Hong Kong corporation

·                    ChinaH2O.com Limited — aHong Kong corporation

·                    Shanghai Euro Tech Limited —a People’s Republic of China corporation

·                    Shanghai Euro TechEnvironmental Engineering Company, Ltd. — a People’s Republic of Chinacorporation

·                    Chongqing Euro Tech RizhiTechnology Company, Limited — a People’s Republic of China corporation

·                    Rizhi Euro Tech Instrument(Shaanxi) Company Limited— a People’s Republic of China corporation

·                     Guangzhou Euro Tech Environmental Equipment Company Limited— a People’sRepublic of China corporation

 

**Majority Owned**

 

·                     Yixing Pact EnvironmentalTechnology Company Limited — a PRC corporation

·                     Pact Asia Pacific Limited —a BVI corporation (“PACT”).

 

Other

 

PactEnvironmental Equipment Co. Limited  aPRC joint venture, 60% owned by PACT.

 

The Company’s wholly-ownedsubsidiary and primary operational arm is Far East, which it acquired inMarch 1997. Far East has engaged in the distribution of various industrialcontrol equipment, which continues to be the core business of the Company,since its inception in 1971.

 

***Item 4D.                Property,Plant and Equipment***

 

The Company maintains anexecutive office at 18/F Gee Chang Hong Centre, 65 Wong Chuk Hang Road, HongKong. The Company occupies approximately 12,800 square feet of office andwarehouse storage space under a two (2) year lease that expires in May 2011with a monthly rental payments of approximately US$8,140. The warehouse storagespace is used to hold products for distribution to our customers via commoncarriers.

 

In August 1995, theCompany purchased approximately 1,200 square feet of space in a building inHong Kong. This property is now rented out to a third party.

 

The Company also maintainsrepresentative offices within the PRC in the cities of Beijing, Shanghai andFuzhou. The Beijing and Shanghai sales offices are owned by the Company. The Fuzhou sales office is rentedpursuant to a short-term lease of approximately US$509 per month**.**

 

Euro Tech Trading (Shanghai)Ltd. has two offices rented pursuant to short term leases, at an aggregatemonthly rental of approximately US$1,436. Shanghai Euro Tech Limited’s premises are rented pursuant to a short term leasefor a monthly rental of approximately US$2,458.  Shanghai Euro Tech Environmental EngineeringCompany, Ltd’s premises are also rented pursuant to a short term lease for a monthlyrental of approximately US$1,128.

 

Pact occupies a 700 squaremeter facility in Shanghai, pursuant to a 3 year lease expiring inJanuary 2012, providing fora monthly rental of approximately US$6,542.

 

The Company’s registeredoffice in the British Virgin Islands is located at TrustNet Chambers,P.O. Box 3444, Road Town, Tortola, British Virgin Islands and itstelephone number is (284) 494-5296.

 

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**ITEM 5.  OPERATING AND FINANCIAL REVIEW AND PROSPECTS**

 

**Overview**

 

The Company is engaged in twodifferent major activities, namely Product Distribution, and Manufacturing andEnvironmental Services.

 

The Company is primarily adistributor of a wide range of advanced water treatment equipment (includingchlorination equipment), laboratory instruments, analyzers, test kits andrelated supplies and power generation equipment (including recorders and powerquality analyzers).

 

The Company, through its PRCcorporation, Shanghai Euro Tech Limited established in 1999 in the Pudong JinQiao Export Processing Zone of Shanghai, engages in the development,production, sales and servicing of environmental protection equipment, andenergy conservation and related products.

 

The Company, through itsmajority owned subsidiaries, Pact and Yixing, its wholly-owned subsidiary,Shanghai — Environmental, and its affiliates, BlueSky and Jia Huan, engages inwater and waste-water treatment engineering business and air pollution controlbusiness.

 

The Company’s operations arelocated almost entirely within, and revenues are almost entirely generated fromHong Kong and the PRC. The Company derived approximately 28% and approximately71% ** **ofits revenue from Hong Kong and the PRC, respectively in Fiscal 2009. Net incomedecreased approximatelyUS$117,000, or 78%, in Fiscal 2009 to US$32,000, compared to US$149,000 inFiscal 2008, primarily due to a decrease in totalrevenue  of approximately US$4,402,000 asan impact of the global financial crisis.

 

The Company continued toconsolidate its trading business by combining some of its regional salesefforts in the PRC with the retail shops and using online ordering in the PRCto sell the Company’s products. The Company manufactures and sells its owndeveloped products such as Infrared Photometric Oil Analyzer, turbidityinstruments, spectrophotometers and the Total Organic Analyzer. The Companyintends to assemble and/or manufacture additional products in the future andseek opportunities with its suppliers to assemble their products, securemanufacturing and/or assembly facilities and seek another manufacturer of analyticalinstruments to acquire.

 

The Company continued toaccept more engineering projects in water and waste-water industries and alsoin power generation industries.  The Company intends to continue itssearch for acquisition candidates of other firms engaged in engineering and/orsystem integration or enter into a joint venture with a third party to work inconnection with its process control and engineering department.

 

***Item 5A.                OperatingResults***

 

**Background- Political and Economic Conditions in Hong Kong and the People’s Republic ofChina**

 

The Company’s operations arelocated almost entirely within, and revenues are almost entirely generated fromHong Kong and the PRC. Set forth below are the approximate percentage of theCompany’s sales made to customers in the PRC and Hong Kong for the fiscal yearsindicated:

 
| **Fiscal Year** | ** ** | **PRC** | ** ** | **Hong Kong** | ** ** |
|----------------------|------------|---------|------------|--------------------|------------|
|                 |       |    |       |               |       |
| 2007                 |       | 79      | %          | 20                 | %          |
| 2008                 |       | 80      | %          | 18                 | %          |
| 2009                 |       | 71      | %          | 28                 | %          |

 

Sales to customers situatedin Macau and elsewhere through Fiscal 2009 were nominal. This makes the Companyparticularly susceptible to changes in the political and economic climate ofeither Hong Kong or the PRC.

 

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** **

**Hong Kong.** Hong Kong hasbeen one of the prime centers for commercial activity and economic developmentrecently in Southeast Asia. On July 1, 1997, sovereignty over Hong Kongwas transferred from the United Kingdom to the PRC. As provided in theSino-British Joint Declaration and the Basic Law, the Hong Kong SAR is provideda high degree of autonomy except in foreign and defense affairs. The Basic Lawprovides that the Hong Kong SAR is to have its own legislature, legal andjudicial system and full economic autonomy for 50 years after the transfer ofsovereignty. Based on the current political conditions and the Company’sunderstanding of the Basic Law, the Company does not believe that the transferof sovereignty over Hong Kong has had or will have an adverse impact on itsfinancial and operating environment. Although the Chinese government haspledged to maintain the economic and political autonomy of Hong Kong over itsinternal affairs, there is no assurance that such pledge will continue to behonored if there are changes in the Chinese political or economic climate.  Sales in Hong Kong, expressed as a percentageof our revenue increased by 10% in Fiscal 2009 as compared with Fiscal2008.  This increase was primarily due toan increase in sales of Thermo’s products to Hong Kong’s GovernmentLaboratories.  See Item 3D. “KeyInformation — Risk Factors.”

 

**PRC.** The PRC hasbeen a socialist state since 1949. For more than half a century, the PRC’seconomy has been, and presently continues to be, a socialist economy operatingunder government controls promulgated under various State Plans adopted bycentral Chinese government authorities and implemented, to a large extent, byprovincial and local authorities which may set production and developmenttargets. However, since approximately the early 1980s, the PRC’s nationalgovernment has undertaken certain reforms to permit greater provincial andlocal economic autonomy and private economic activities. Any change inpolitical or economic conditions may substantially adversely affect thesereform initiatives and, in turn, the Company. Sales in the PRC, expressed as a percentage of total revenue decreasedby 9% in Fiscal 2009 as compared with Fiscal 2008.  This decrease was primarily due to the globaleconomic downturn and additional sales by our key suppliers in the PRC throughdistributors other than the Company.  SeeItem 3D. “Key Information — Risk Factors.”

 

**Resultsfrom Operations**

 

The following operating andfinancial review should be read in conjunction with the Consolidated FinancialStatements and notes thereto appearing elsewhere in this Annual Report. Allfinancial data referred to in the following discussion has been prepared inaccordance with accounting principles generally accepted in the United States (“USGAAP”).

 

The following table presentsselected statement of operations data expressed in thousands of US$ and as apercentage of revenue for the Company’s fiscal years indicated below:

 
| ** **                                           | ** ** | **2009** | ** ** | **2008** | ** ** | **2007** | ** ** | **2006** | ** ** | **2005** | ** ** |
|------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------|------------|
| Revenue                                              |       | 27,336   |       | 100      | %          | 31,738   |       | 100      | %          | 27,230   |       | 100 | % | 27,161 |   | 100 | % | 31,250 |   | 100 | % |
| Cost  of revenue                                     |       | 20,876   |       | 76.4     | %          | 24,154   |       | 76.1     | %          | 20,398   |       | 74.9 | % | 20,606 |   | 75.9 | % | 24,681 |   | 79.0 | % |
| Gross  Profit                                        |       | 6,460    |       | 23.6     | %          | 7,584    |       | 23.9     | %          | 6,832    |       | 25.1 | % | 6,555 |   | 24.1 | % | 6,569 |   | 21.0 | % |
| Selling  and administrative Expenses                 |       | 6,608    |       | 24.2     | %          | 7,214    |       | 22.7     | %          | 6,566    |       | 24.1 | % | 5,961 |   | 21.9 | % | 5,418 |   | 17.3 | % |
| Income  before income Taxes                          |       | (40      | )          | -0.1     | %          | 560      |       | 1.8      | %          | 664      |       | 2.4 | % | 835 |   | 3.1 | % | 1,358 |   | 4.3 | % |
| Income  taxes                                        |       | 218      |       | 0.8      | %          | 321      |       | 1.0      | %          | 144      |       | 0.5 | % | 156 |   | 0.6 | % | 328 |   | 1.0 | % |
| Equity  in profit of Affiliates                      |       | 595      |       | 2.2      | %          | 273      |       | 0.9      | %          | 247      |       | 0.9 | % | — |   | 0.0 | % | 21 |   | 0.0 | % |
| Net  income                                          |       | 337      |       | 1.2      | %          | 512      |       | 1.6      | %          | 767      |       | 2.8 | % | 679 |   | 2.5 | % | 1,051 |   | 3.3 | % |
| Net  income attributable to Non-controlling interest |       | (305     | )          | 1.1      | %          | (363     | )          | 1.1      | %          | (345     | )          | 1.3 | % | (318 | ) | 1.2 | % | (318 | ) | 1.0 | % |
| Net  income attributable to The Company              |       | 32       |       | 0.1      | %          | 149      |       | 0.5      | %          | 422      |       | 1.5 | % | 361 |   | 1.3 | % | 733 |   | 2.3 | % |

 

**Fiscal Year Ended December 31,2009 Compared to Fiscal Year Ended December 31, 2008**

 

*Revenue;Gross Profit and Cost of Revenue.* Revenue decreased byapproximately US$ 4,402,000 or 13.9% to approximately US$27,336,000 in Fiscal 2009 from approximately US$31,738,000 in Fiscal 2008. The revenue from trading andmanufacturing activities decreasedby approximately US$3,113,000 and therevenue from engineering activities decreased by US$1,289,000. These decreases were due primarily to the globaleconomic downturn and additional key suppliers selling into the China marketthrough distributors other than the Company. Pact-Yixing’s revenues ofapproximately US$8,654,0000 and US$9,260,000 wereincluded in our revenues in Fiscal 2009 and Fiscal 2008, respectively.

 

Gross profits decreased byapproximately US$1,124,000 or 14.8% toapproximately US$6,460,000 for Fiscal 2009 as compared to approximatelyUS$7,584,000 for Fiscal 2008. During Fiscal 2009, the Company’s cost ofrevenue was approximately US$20,876,000, or 76.4% of revenues,in comparison to approximately US$24,154,000, or 76.1% for Fiscal 2008. Cost of revenue expressed as a percentage of revenue increased by 0.3% in Fiscal 2009 as compared with 

 

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Fiscal 2008.  Theslight gross profit margin percentage decrease was dueprincipally to greater competition in a poor economic environment. Yixing-Pact contributed approximately US$2,384,000 to our gross profitmargin in Fiscal 2009, a decrease ofapproximately US$226,000 from Fiscal 2008.

 

*Sellingand Administrative Expenses.* Selling and administrativeexpenses were approximately US$6,608,000 in Fiscal 2009, an decrease ofapproximately US$606,000 or 8.4% from approximately US$7,214,000 in Fiscal2008. The decrease was principally due to the decrease of expenses for tradingand manufacturing activities of approximately US$484,000 as the Company continued to consolidate its trading business.

 

*Equity inProfit of Affiliates.* Equity in profit of affiliates ofapproximately US$595,000 represented our share of net profit after taxes ofBlueSky and Jia Huan.

 

*InterestIncome.* Interest income decreased byapproximately US$8,000 or 17.8% to approximately US$37,000 in Fiscal 2009 fromapproximately US$45,000 for Fiscal2008. The decrease was primarily due to the dropin interest rates.

 

*OtherIncome.* Other income decreased byapproximately US$74,000 or 51% to approximately US$71,000 in Fiscal 2009 fromapproximately US$145,000 in Fiscal 2008. The decrease in otherincome was principally due to a decrease offoreign exchange gain of approximatelyUS$73,000.

 

*IncomeTaxes.* Taxes decreased by US$103,000 to approximately US$218,000 in Fiscal2009 from approximately US$321,000 in Fiscal 2008. This increase was primarilythe result of decreased taxable profits.

 

*NetIncome.* Income from continuing operations decreased by approximatelyUS$117,000 or 78.5% to approximately US$32,000 in Fiscal 2009 fromapproximately US$149,000 in Fiscal 2008.   The decrease was primarilydue to the decrease in gross profit resulting from the drop in total revenuesas the effect of global financial crisis that had a significant negative impacton the Company’s business in China, partially offset by the decrease in sellingand administrative expenses.  As aconsequence, our income before income taxes declined by approximately $600,000from Fiscal 2008 to Fiscal 2009, resulting in a loss before income taxes ofapproximately ($40,000) in Fiscal 2009. This $600,000 decline was partially offset by an increase in our equityin the profits of our affiliates. Increase profit contribution from affiliates and other factors discussedabove.

 

**Fiscal Year Ended December 31,2008 Compared to Fiscal Year Ended December 31, 2007**

 

*Revenue;Gross Profit and Cost of Revenue.* Revenue increased byapproximately US$ 4,508,000 or 16.5% to approximately US$31,738,000 in Fiscal 2008 fromapproximately US$27,230,000 in Fiscal2007. The revenue from engineering activities increased by approximately US$3,079,000 as a result of an increase in the number of engineering contractscompleted, whilst revenuesfrom trading and manufacturing activitiesincreased by approximately US$1,429,000 resulting from increases in sales of products for environmental pollution and food safety analysis application.  Pact-Yixing’srevenues of approximately US$9,260,000 and US$6,981,000 wereincluded in our revenues in Fiscal 2008 and Fiscal 2007, respectively.

 

Gross profits increased byapproximately US$752,000 or 11.0% to approximately US$7,584,000 for Fiscal 2008 as compared to approximately US$6,832,000 for Fiscal 2007. During Fiscal 2008, the Company’scost of revenue was approximately US$24,154,000, or 76.1% of revenues,in comparison to approximately US$20,398,000, or 74.9% for Fiscal 2007.  Cost ofrevenue expressed as a percentage of revenue increased by 1.2% in Fiscal 2008 as comparedwith Fiscal 2007.  Thegross profit margin percentage decrease was dueprincipally to a decrease in gross profit margin percentage for engineering activities as material prices generally increased in Fiscal 2008. Yixing-Pact contributed approximately US$2,610,000 to our gross profit margin in Fiscal 2008, an increase of approximately US$484,000 from Fiscal 2007.

 

*Sellingand Administrative Expenses.* Selling and administrativeexpenses were approximately US$7,214,000 in Fiscal 2008, an increaseof approximately US$648,000 or 9.9% from approximately US$6,566,000 in Fiscal 2007. The increasewas principally due to the increase of Yixing-Pact expenses of approximatelyUS$307,000 as a result of increases in expenses related to itsincreased revenue.  These expensesincluded a staff increase from 57 in Fiscal 2007 to 76 in Fiscal 2008.  The PRC inflation rate of 5.9%, the averageappreciation rate of 6% for RMB against the US$ in 2008 and increases instock-based compensation expenses of US$69,000 also contributed to the increasein selling and administrative expenses.

 

*Equity inProfit of Affiliates.* Equity in profit of affiliates ofapproximately US$273,000represented our share of net profit after taxes of BlueSky and Jia Huan.

 

*InterestIncome.* Interest income decreased byapproximately US$211,000 or 82.4% to approximately US$45,000 in Fiscal2008 from approximately US$256,000 for Fiscal 2007. The decreasewas primarily due to the significant dropin interest rates and decrease in averagebank deposit balances during Fiscal 2008compared to Fiscal 2007 resulting from 

 

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fundsused in acquiring affiliates.

 

*Other Income.*  Other income increased by approximatelyUS$3,000 or 0.2% to approximately US$145,000 in Fiscal2008 from approximatelyUS$142,000 in Fiscal 2007. The increase in other income was principally due to an increase of foreign exchange gain of approximately US$16,000.

 

*IncomeTaxes.* Taxes increased by US$177,000 to approximately US$321,000 in Fiscal2008 from approximately US$144,000 in Fiscal 2007. This increase was primarilythe result of increased taxable profits.

 

*NetIncome.* Income from continuing operations decreased by approximatelyUS$273,000 or 65% to approximately US$149,000 in Fiscal 2008 from approximately US$422,000 in Fiscal 2007.   The decreasewas primarily due to the decrease in interest income and the increase inselling and administrative expenses, partially offset by the increase in grossprofit.

 

***Item 5B.                Liquidityand Capital Resources***

 

The Company has primarilyused its funds to finance accounts receivable, inventories, and capitalexpenditures including purchases of property, office furniture and equipment,computers and calibration equipment. The Company has historically met its cashrequirements from cash flows from operations, short-term borrowings, bank linesof credit, and long-term mortgage bank loans. The Company expects, but can makeno assurances that its present cash reserves, cash from operations, existingavailable bank credit facilities and proceeds from the issuance of our ordinaryshares pursuant to stock option exercises would be sufficient to fund itsfuture capital expenditure requirements. Working capital at the end of Fiscal2009 and Fiscal 2008 were approximately US$8,203,000 and US$8,583,000,respectively.

 

During Fiscal 2009, theCompany generated net cash of approximately US$240,000 from its operatingactivities from net income and decreases in inventories, accounts receivable,prepayments and other current assets while funding a decrease in accountspayable.

 

During Fiscal 2009 andFiscal 2008, the Company used approximately US$124,000 and US$3,163,000 in investingactivities, respectively.  The Company used approximately US$118,000 andUS$99,000 to purchase facilities and equipment in Fiscal 2009 and Fiscal 2008,respectively.  During Fiscal 2009 and Fiscal 2008, the Company used approximately US$73,000 and US$56,000, respectively, as restrictedcash to issue performance guarantees to its customers through its banks. During Fiscal 2009 and Fiscal 2008, Yixing-Pact paid dividends of approximatelyUS$147,000 and US$NIL,respectively tonon-controlling interest shareholders. During Fiscal 2008, the Company usedapproximately US$2,610,000 to acquire a 20% equity interest in JiaHuan. During Fiscal 2007, the Company used approximately US$4,151,000 toacquire 20% equity interest in Blue Sky. Additionally, a final payment of US$692,000 was made in June 2009, based on Blue Sky’s net profits for its fiscal yearended December 31, 2008. During Fiscal2009 and Fiscal 2008, the Company received dividends of approximately US$58,000and US$294,000, respectively from Blue Sky and approximately US$149,000 andUS$Nil, respectively from Jia Huan.

 

The Company receivedapproximately US$6,000 and US$51,000, respectively, in Fiscal 2009 and Fiscal2008 from financing activities resulting from the issuance of its ordinaryshares resulting from the exercise of stock options. The Company usedapproximately US$253,000 and US$44,000, respectively, in Fiscal 2009 and Fiscal2008 for financing the purchase of its ordinary shares as treasury stock. TheCompany had various banking facilities available for overdraft, import andexport credits and foreign exchange contracts from which the Company couldhave accessed up to approximately US$2,564,000 at December 31, 2009. Theaforementioned available credit facilities were obtained on the conditions that,among other things, the Company not create a charge or lien on its other assetsin favor of third parties without such bank’s consent, and the Companymaintaining a certain level of net worth.

 

Cash decreased from approximately US$7,146,000 at the end ofFiscal 2008 to approximately US$7,025,000 at the end of Fiscal 2009. Theprincipal reasons for the decrease in cash werethe payment of dividends to non-controlling interest shareholders ofPact-Yixing and purchase of its ordinary shares as treasury stock.  The Company plans to use cash on handprimarily to expand its manufacturing plant and environmental engineeringbusiness by investing in product research and development and financing largerengineering projects .

 

The Company’s net accountsreceivable decreased from approximately US$6,707,000 at the end of Fiscal 2008to approximately US$6,063,000 at the end of Fiscal 2009. This was principally the result of the collection of the receivablesand decrease in sales revenue during Fiscal 2009.

 

The Company’s inventory decreased from approximately US$2,600,000 at the end ofFiscal 2008 to approximately US$1,347,000 at the end of Fiscal 2009 due to some engineering sales orders completed before the year end.

 

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The Company’s capitalexpenditures were approximately US$99,000 and US$118,000 in Fiscal 2008 andFiscal 2009, respectively. Capital expenditures during Fiscal 2008 and Fiscal2009 were incurred primarily in connection with the purchase of officeequipment, furniture and fixtures.  The Company continues to seek targetsfor acquisition and facilities for assembly operations or engineeringcompanies. If such acquisitions are indeed made, the Company may expect toincur significantly larger capital expenditures, for which the Companypresently intends, but as to which no assurance can be made, to use existingcash reserves, cash from operations, available bank credit facilities andproceeds from the issuance of our ordinary shares to fund such capitalexpenditures.

 

**Goodwill**

 

Goodwill related to theengineering segment which is profitable. As of December 31, 2009, we completedthe annual impairment test. Based on the resultof the first step of the test, the Company determined that there was no impairmentof goodwill.

 

**AnticipatedFuture Resources and Uses of Cash**

 

The Company has historicallyfunded its working capital, capital expenditure, investing and expansions needsfrom operations, available bank credit facilities and proceeds from theissuances of our ordinary shares and expects to continue funding its Fiscal2009 these requirements from operations, available bank credit facilities andproceeds from the exercise of options. The Company may use its funds to acquireother businesses, make equity investments in related business, form strategicalliances with third parties, invest in product research and development, orexpand its sales offices or, with third parties, seek to acquire new productsor businesses or form strategic alliances. The Company expects, but can make noassurances that its present cash reserves, cash from operations and existingavailable bank credit facilities would be sufficient to fund its future cashrequirements.

 

**Inflation**

 

The Company believesgenerally declining rates of inflation in the PRC have had a positive effect onits results from operations.  As a result of the recent rise in the rateof inflation in the PRC, we anticipate increases in the overhead costs of ourPRC affiliates and offices.  The Company believes, although no assurancecan be given, that as credit restrictions are gradually lifted, it will be ableto increase prices in the market for its products and thus realize increasedprofit margins.

 

**CriticalAccounting Policies**

 

*RevenueRecognition*

 

Pursuant to the revenuerecognition criteria set forth in Securities and Exchange Commission’s StaffAccounting Bulletin (“SAB”) No. 104: “Revenue Recognition”, the Companyrecognizes revenue when it is realized or realizable and earned. The Companyconsiders revenue realized or realizable and earned when it has persuasiveevidence of an arrangement, the product has been delivered, the sales price isfixed or determinable and collectability is reasonably assured. For certainproducts where installation is necessary, revenue is recognized upon completionof installation.  Revenue earned from customer support, which represents aminor percentage of total revenues, it is recognized when such services areprovided.

 

Revenues and profits in longterm fixed price contracts or engineering income are recorded under thepercentage of completion method in accordance with FASB ASC Subtopic 605-35,Revenue Recognition Construction Type and Production Type Contracts, (previouslySOP 81-1, “Accounting for Performance of Construction-Type and CertainProduction-Type Contracts”).  This approach relies on estimates of totalexpected direct costs of completion, which are compared to actual direct costsincurred to date to arrive at an estimate of revenue and profit earned todate.  Recognized revenue and profit are subject to revisions as thecontract progresses to completion.  Revisions to profit estimate arereflected in income in the period in which the facts that give rise to therevision become known. For any contract where it is identified that a loss willbe incurred, the full loss will be recognized immediately.

 

*InventoryValuation*

 

The Company writes down itsinventory for estimated obsolescence or unmarketable inventory equal to thedifference between the cost of inventory and the estimated market value basedupon assumptions about future demand and market conditions. If actual futuredemand or market conditions are less favorable than those projected bymanagement, additional write-downs may be required.

 

*DeferredTaxes*

 

As part of the process ofpreparing its consolidated financial statements, the Company is required toestimate its income taxes and tax bases of assets and liabilities in each ofthe jurisdictions in which it operates. This process involves the Companyestimating its current tax exposure together with assessing temporarydifferences resulting from its differing treatment of items for tax andaccounting purposes. These differences result in deferred tax assets andliabilities, which are included in the Company’s consolidated balance sheet.The Company must then assess the likelihood that its deferred tax assets willbe recovered from future taxable income, and, to the extent the Companybelieves that recovery is more unlikely than likely, it must establish avaluation allowance. To the extent the Company establishes a valuationallowance 

 

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or increases this allowancein a period, it must include an expense within the tax provision in thestatement of operations.

 

*RecentAccounting Pronouncements*

 

InMay 2009, the FASB issued SFAS No. 165, Subsequent Events (now codifiedwithin ASC 855-10, *Subsequent Events*(“ASC855-10”)).  ASC 855-10 provides general standards of accounting for and disclosure of eventsthat occur after the balance sheet date but before financial statements areissued or are available to be issued. ASC 855-10 is applicable for interim or annual periods after June 15,2009.  In January 2010, the FASBissued Accounting Standards Update (“ASU”) No. 2010-09, “Subsequent Events”,which is codified as ASC 855, “Amendments to Certain Recognition and DisclosureRequirements”. This Update amends the ASC855-10, to replace the term “publicentity” with the term “an SEC filer”, in order to avoid potential conflict withsome of the Securities and Exchange Commission’s (SEC) guidance. All of theamendments in this Update are effective immediately. The application ofASC 855 did not have a material effect on theCompany’sconsolidatedfinancial statements.

 

In June 2009, the FASBissued SFAS No. 168, The FASBAccounting Standards Codification and the Hierarchy of Generally AcceptedAccounting Principles, (now codified within ASC 105, Generally Accepted Accounting Principles (“ASC105”)). ASC 105 establishes the Codification as the single source ofauthoritative GAAP recognized by the FASB to be applied by nongovernmentalentities. All guidance contained in the Codification carries an equal level ofauthority. Following this statement, FASB will not issue new standards in theform of statements, FASB Staff Positions, or Emerging Issues Task Force Abstracts.Instead, it will issue Accounting Standards Updates, which will serve only to:(1) update the Codification; (2) provide background information aboutthe guidance; and (3) provide the bases for conclusions on the change(s) inthe Codification. ASC 105 was effective for financial statements issued forinterim and annual periods ending after September 15, 2009. TheCodification supersedes all existing non-SEC accounting and reportingstandards. The adoption of ASC 105 did not have an impact on the Company’sconsolidated results of operations or financial position.

 

InAugust 2009, FASB issued ASU 2009-5 FairValue Measurements and Disclosures (Topic 820) Measuring Liabilities at FairValue (“ASU 2009-5”). ASU 2009-5 provides amendments to Subtopic 820-10,Fair Value Measurements andDisclosures-Overall, for the fair value measurement of liabilities. ASU2009-5 clarifies that in circumstances in which a quoted price in an activemarket for the identical liability is not available, a reporting entity isrequired to measure fair value. ASU 2009-5 was effective for the Company forinterim and annual periods ending after September 30, 2009. The adoptionof ASU 2009-5 did not have a material impact on the Company’s consolidatedresults of operations or financial position.

 

In December 2009, FASBissued ASU 2009-17 Consolidations(Topic 810) Improvements to Financial Reporting by Enterprises Involved withVariable Interest Entities (“ASU 2009-17”). ASU 2009-17 amends the FASBASC for the issuance of FASB Statement No. 167, Amendments to FASB Interpretation No. 46(R) . Theamendments in ASU 2009-17 replace the quantitative-based risks and rewardscalculation for determining which enterprise, if any, has a controllingfinancial interest in a variable interest entity with an approach focused onidentifying which enterprise has the power to direct the activities of avariable interest entity that most significantly impact the entity’s economicperformance and (1) the obligation to absorb losses of the entity or(2) the right to receive benefits from the entity. ASU 2009-17 alsorequires additional disclosures about an enterprise’s involvement in variableinterest entities. ASU 2009-17 is effective as of the beginning of eachreporting entity’s first annual reporting period that begins afterNovember 15, 2009. The Company does not expect the adoption of ASU 2009-17to have a material impact on its consolidated results of operations orfinancial position.

 

In January 2010, FASBissued ASU 2010-01, Entity, which is codified as ASC505, “Accounting forDistributions to Shareholders with Components of Stock and Cash (A Consensus ofthe FASB Emerging Issues Task Force)”. The amendments in this Update clarifythat the stock portion of a distribution to shareholders that allow them toelect to receive cash or shares with a potential limitation on the total amountof cash that all shareholders can elect to receive in the aggregate isconsidered a share issuance thus eliminating the diversity in practice. Theamendments in this Update are effective for interim and annual periods endingon or after December 15, 2009, and should be applied on a retrospectivebasis. The applicationof ASC 505 did not have a material effect on the Company’sconsolidated financial statements.

 

In January 2010, FASBissued ASU 2010-02 Accounting andReporting for Decreases in Ownership of a Subsidiary- a Scope Clarification (“ASU2010-2”). ASU 2010-2 addresses implementation issues related to the changes inownership provisions in the Consolidation—Overall Subtopic (Subtopic 810-10) ofthe FASB Accounting Standards Codification , originally issued asFASB Statement No. 160, NoncontrollingInterests in Consolidated Financial Statements. Subtopic 810-10establishes the accounting and reporting guidance for noncontrolling interestsand changes in ownership interests of a subsidiary. An entity is required todeconsolidate a subsidiary when the entity ceases to have a controllingfinancial interest in the subsidiary. Upon deconsolidation of a subsidiary, anentity recognizes a gain or loss on the transaction and measures any retainedinvestment in the subsidiary at fair value. The gain or loss includes any gainor loss associated with the difference between the fair value of the retainedinvestment in the subsidiary and its carrying amount at the date the subsidiaryis deconsolidated. In contrast, an entity is required to account for a decreasein ownership 

 

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interest of a subsidiarythat does not result in a change of control of the subsidiary as an equitytransaction. ASU 2010-2 is effective for the Company starting January 1,2010. The Company does not expect the adoption of ASU 2010-2 to have a materialimpact on the Company’s consolidated results of operations or financialposition.

 

In January 2010, FASBissued ASU 2010-6 ImprovingDisclosures about Fair Measurements (“ASU 2010-6”). ASU 2010-6 providesamendments to subtopic 820-10 that require separate disclosure of significanttransfers in and out of Level 1 and Level 2 fair value measurements and thepresentation of separate information regarding purchases, sales, issuances andsettlements for Level 3 fair value measurements. Additionally, ASU 2010-6provides amendments to subtopic 820-10 that clarify existing disclosures aboutthe level of disaggregation and inputs and valuation techniques. ASU 2010-6 iseffective for financial statements issued for interim and annual periods endingafter December 15, 2010. The Company does not expect the adoption of ASU2010-06 to have a material impact on its consolidated results of operations orfinancial position.

 

The Company does not believethat any other recently issued and adopted, but not yet effective, accountingstandards should have a material effect on the accompanying financialstatements.

 

***Item 5C.         *****Research and Development, Patents and Licenses**

 

During Fiscal 2009, Fiscal2008 and Fiscal 2007, the Company expensed approximately US$99,000, US$89,000and US$47,000, respectively, on the development of its products.  It isanticipated that an additional US$150,000 in research and development costswill be expended on similar projects and potential research and developmentprojects for the development of air and water testing equipment and monitoringequipment during Fiscal 2010.

 

***Item 5D.         *****Trend Information**

 

There are increasing demandsin the PRC for clean water, clean air, greater industrial pollution controls,waste management and electricity.  We also see additional distributorscompeting with us.  However, given the political situation in the PRC,trends could quickly disappear and we do not know if they will continue in thefuture.  We note that, as evidenced by our acquisition of Pact-Yixing, weare placing greater emphasis on developing our engineering solution business inan effort to capitalize on these increased demands (clean water, pollutioncontrols and waste management).

 

The Company believes thatthe expenses incurred in product development may result in increases in revenuebut such increases are unlikely to allow for a recovery of the expenses forapproximately the next two years.

 

***Item 5E.         *****Off Balance Sheet Arrangements**

 

None.

 

***Item 5F.         *****Tabular Disclosure of Contractual Obligations**

 
| **Contractual********Obligations**  | ** ** | **Total**  | ** ** | **Less than********1 Year** | ** ** | **1-3 Years** | ** ** | **4-5 Years** | ** ** | **After********5 Years** | ** ** |
|-------------------------------------|------------|------------|------------|---------------------------------------|------------|--------------------|------------|--------------------|------------|-------------------------------|------------|
| ** **                          | ** ** | ** ** | ** ** | ** **                            | ** ** | ** **         | ** ** | ** **         | ** ** | ** **                    | ** ** |
| Operating  Leases                   |       | US$        | 224,000    |                                  | US$        | 175,000            |       | US$                | 49,000     |                          | —     |   | — |   |
|                                |       |       |       |                                  |       |               |       |               |       |                          |       |
| Total  Contractual Cash Obligations |       | US$        | 224,000    |                                  | US$        | 175,000            |       | US$                | 49,000     |                          | —     |   | — |   |

 

**6.          DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES**

 

***Item 6A.         *****Directors and Senior Management**

 

Information concerning theDirectors and Executive Officers of the Company are as follows:

 
| **Name**   | ** ** | **Age** | ** ** | **Position**                                                    |
|------------|------------|---------|------------|-----------------------------------------------------------------|
|       |       |    |       |                                                            |
| T.C. Leung |       | 66      |       | Chairman of the Board of  Directors and Chief Executive Officer |
|       |       |    |       |                                                            |
| Jerry Wong |       | 51      |       | Director and Chief  Financial Officer                           |
|       |       |    |       |                                                            |
| Alex Sham  |       | 44      |       | Director                                                        |

 

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| **Name**        | ** ** | **Age** | ** ** | **Position** |
|-----------------|------------|---------|------------|--------------|
|            |       |    |       |         |
| Y.K. Liang      |       | 78      |       | Director     |
|            |       |    |       |         |
| Ka Chong Cheang |       | 81      |       | Director     |
|            |       |    |       |         |
| Xu Hong Wang    |       | 42      |       | Director     |
|            |       |    |       |         |
| Li Da Weng      |       | 65      |       | Director     |

 

Set forth below is a briefbackground of the executive officers and directors based upon the informationsupplied by them to the Company:

 

**T.C. Leung** has been ChiefExecutive Officer and Chairman of the Board of Directors of both the Companyand Far East since their inception. Before establishing Far East,Mr. Leung was an engineer for English Electric in England, from 1965 to1968, and Lockheed Aircraft in Hong Kong, from 1968 to 1970. Mr. Leungalso served as managing director of Eurotherm (Far East) Ltd. (“Eurotherm”)between 1971 and 1992. From 1988 until he retired in February 2005,Mr. Leung had also served as managing director of Eurotherm Hong Kong.Mr. Leung received a Masters degree in Business Administration from theUniversity of East Asia, Macau in 1986 and is a Chartered Engineer, a titlebestowed upon a member of the Council of Engineering Institutions in the UnitedKingdom.

 

**Jerry Wong** has served asDirector and Chief Financial Officer of Far East since 1994 and has been withFar East since 1987. Mr. Wong has been the Chief Financial Officer and aDirector of the Company since its inception. From 1985 until 1987,Mr. Wong worked for MUA Agencies Ltd., a subsidiary of a Hong Kongpublicly listed company engaged in the insurance business, as deputy manager ofits secretarial, legal and accounting department. From 1981 until 1985,Mr. Wong served as a senior accountant in Price Waterhouse-Hong Kong. Heis a Fellow of the Association of Chartered Certified Accountants in the UnitedKingdom and a Certified Public Accountant in Hong Kong.

 

**Alex Sham** has been aDirector of the Company since its inception. Mr. Sham joined Far East in1988 and has been its Sales Manager since 1993 and became a Director of FarEast in 1996. Mr. Sham received a Bachelor of Science in Applied Chemistryfrom Hong Kong Baptist University in 1990. Prior to joining Far East,Mr. Sham was employed by the Environmental Protection Department of theHong Kong Government from 1986 until 1988.  Mr. Sham received aMaster’s Degree in Business Administration from the University of Adelaide in2003.

 

**Y.K. Liang** has been aDirector of the Company since February 1998. Mr. Liang is a directorof Wong Liang Consultants Ltd. (“Consultants”) and a member of the certifiedpublic accounting firm of Y.K. Liang & Co. (“LCO”). Mr. Liang hasbeen associated with both Consultants and LCO for more than the past fiveyears. Consultants is a general business consulting firm.

 

**Ka ChongCheang** has been a Director of the Company since December 2005. From 1952until 1977, he had been shipping manager for John Swire & Sons (HongKong) Ltd., a firm engaged in the importing and exporting shippingindustry.  For more than the past five years, Mr. Chong has been abusiness consultant.

 

**Xu HongWang** has been a director of the Company since August 2002.Mr. Wang is the East China sales manager of Euro Tech (Far East) Limited,a wholly-owned subsidiary of the Company, since mid 1994. From mid 1997 untiljoining Euro Tech, he was employed as a Research Associate and Lecturer at theAnalysis and Research Center of Shanghai’s Tongji University. Wang Xu Hongreceived Bachelor’s and Master’s degrees in Science from Fudan University in1984 and 1988, respectively.

 

**Li Da Weng**, from 1993until January 2005, was the General Director of the Yangtze Valley WaterResources Protection Bureau (“YVWRPB”).  He was employed by the YVWRPB invarious positions, for more than 25 years, before he became the GeneralDirector in 1993.  Since 2005, he has been the Secretary General ofYangtze Forum, a group of governments, businesses, universities and researchinstitutes meeting on occasion to discuss issues on protecting and developingthe Yangtze River, and since 1994 he has been a member of the Science andTechnical Committee of Changjiang Water Resources Commission.  Mr. LiDa Weng graduated from Hengyang Mining and Metallurgy College (now known asNanhua University) in 1965 with a Bachelor’s Degree in AnalyticalChemistry.  From December 1981 to December 1983, he was avisiting scholar at the Canada’s Centre for Inland Waters, National WaterResearch Institute.

 

Directors of the Companyserve until the next annual meeting of shareholders of the Company and untiltheir successors are elected and duly qualified. Officers of the Company areelected annually by the Board of Directors and serve at the discretion of theBoard of Directors.

 

None of the Company’sdirectors, officers or beneficial owners of ten percent or more of its CommonStock are required to file any reports pursuant to Section 16(a) ofthe Exchange Act.

 

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The Company had 2 meetingsof its Board of Directors during Fiscal 2009, while its Audit Committee had 4meetings during Fiscal 2009.

 

There are no material legalproceedings involving any director, officer or affiliate of the Company, ownerof record or beneficially of more than five percent of the Company’s CommonStock or any associate of any of the foregoing.

 

**KeyEmployees**

 

**GeorgeHayek**, Managing Director.  He is the founder of Pact and Yixing and isa civil engineer (1967) and post-graduate certificate holder in sanitaryengineering and environmental management from the American University of Beirutand the University of California at Irvine (in 1971 and 1988,respectively).  Since 1971, he has occupied several key posts in water andwaste-water treatment companies in the USA, the UK, Spain, Cyprus, The MiddleEast, Southeast Asia and the last 14 years in the PRC.  From 1998 to date,he has been the managing director of Pact.  His international experiencehelped Pact in securing most of the contracts with European and Americanmultinational industries in the PRC.

 

**Yvonne Xia** manages Pactand Yixing’s Procurement Department, as well as assisting the managing directorin management of the various departments.  She joined Pact-Yixing at thetime of their formation in 1998.  Ms. Xia is an environmentalengineering graduate from Qing Hua University of Beijing (1989) and an EMBAgraduate from the Olin School of Management of the Washington University(2003).  She has several positions of increasing responsibility, includingmanagement of engineering, sales, procurement and projects while with Pact-Yixing.

 

***Item 6B.         *****Compensation**

 

The following table setsforth certain summary information with respect to the compensation paid by theCompany and its subsidiaries, for services rendered in all capacities to theCompany and its subsidiaries during Fiscal 2009, Fiscal 2008 and Fiscal 2007 tothe Chairman of the Board and Chief Executive Officer and a Key Employee of theCompany**. **No other **e**xecutiveofficer or employee received in excess of US$100,000 as cash compensationduring those fiscal periods.

 

***SUMMARY COMPENSATION TABLE***

 
| ** **                                                                       | ** ** | ** ** | ** ** | **Salary  US$** | ** ** | **Bonus  US$** | ** ** |
|----------------------------------------------------------------------------------|------------|------------|------------|-----------------|------------|----------------|------------|
|                                                                             |       |       |       |            |       |           |       |
| T.C. Leung,  Chairman of the Board of Directors and Chief Executive Officer |       | 2009       |       | 154,000         |       | —         |       |
|                                                                             |       | 2008       |       | 154,000         |       | —         |       |
|                                                                             |       | 2007       |       | 155,000         |       | —         |       |
|                                                                             |       |       |       |            |       |           |       |
| George  Hayek                                                                    |       |       |       |            |       |           |       |
|                                                                             |       | 2009       |       | 110,000         |       | —         |       |
|                                                                             |       | 2008       |       | 110,000         |       | —         |       |
|                                                                             |       | 2007       |       | 110,000         |       | —         |       |

 

**Compensationof Directors.** Directors of the Company do not receivecompensation for their services as directors; however, the Board of Directorsmay authorize the payment of compensation to directors for their attendance atregular and annual meetings of the Board and for attendance at meetings ofcommittees of the Board as is customary for similar companies. Directors willbe reimbursed for their reasonable out-of-pocket expenses incurred inconnection with their duties to the Company.

 

**PensionPlan.** Prior to December 1, 2000, the Company had only one definedcontribution pension plan for all its Hong Kong employees. Under this plan, allemployees were entitled to pension benefits equal to their own contributions plus50% to 100% of individual fund account balances contributed by the Company,depending on their years of service with the Company. The Company was requiredto make specific contributions at approximately 10% of the basic salaries ofthe employees to an independent fund management company.

 

With the introduction of theMandatory Provident Fund Scheme, a defined contribution scheme managed by anindependent trustee on December 1, 2000, each of the Company and itsemployees who joined the Company subsequently makes monthly contributions tothe scheme at 5% of the employee’s cash income as defined under the Mandatory 

 

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Provident Fund legislation.Contributions of both the Company and its employees are subject to a maximum ofHK$1,000 per month and thereafter contributions are voluntary and are notsubject to any limitation. The Company and its employees made their firstcontributions in December 2000.

 

As stipulated by therules and regulations in the PRC, the Company contributes tostate-sponsored retirement plans for its employees in the PRC. The Companycontributes approximately 10% to 22% of the basic salaries of its employees,and has no further obligations for the actual payment of pension orpost-retirement benefits beyond the annual contributions. The state-sponsoredretirement plans are responsible for the entire pension obligations payable toretired employees.

 

During the years endedDecember 31, 2009, 2008 and 2007, the aggregate contributions of theCompany to the aforementioned pension plans and retirement benefit schemes wereapproximately US$327,000, US$291,000 and US$245.000respectively.

 

**ManagementOption Plan.** The Company had authorized the issuance of Optionsto purchase up to an aggregate of 4,586,400 Ordinary Shares (the “ManagementOptions”) to its officers, directors and employees as the Company’s Chairman ofthe Board and Chief Executive Officer may direct. The Management Options becameexercisable on March 14, 1998 and expired on March 14, 2007.

 

The following executiveofficers and directors of the Company had exercised the Management Options atprices/price ranges as indicated below prior to the end terms of the options.

 
| **Name of Executive********Officers and Directors** | ** ** | **Number of Shares********Exercised** | ** ** | **Price Range**    | ** ** |
|-------------------------------------------------------------------------|------------|-------------------------------------------------|------------|-------------------------|------------|
| ** **                                                              | ** ** | ** **                                      | ** ** | ** **              | ** ** |
| T.C.  Leung                                                             |       | 3,423,600                                       |       | US$1.221  – 1.6789 |       |
|                                                                    |       |                                            |       |                    |       |
| Alex  Sham                                                              |       | 163,800                                         |       | US$1.221  – 1.6789 |       |
|                                                                    |       |                                            |       |                    |       |
| Jerry  Wong                                                             |       | 173,204                                         |       | US$1.221  – 1.6789 |       |
|                                                                    |       |                                            |       |                    |       |
| C.P.  Kwan                                                              |       | 24,570                                          |       | US$1.221                |       |

 

**CompanyOption Plans.** The Company’s 2000 Officers and Directors Plan and2002 Officers and Directors Plan (collectively referred to as the “OfficersPlans”) provide for the grant of options to acquire Ordinary Shares to theCompany’s executive officers and directors and persons holding the samepositions with the Company’s subsidiaries. The 2000 Employees Plan and 2002Employees Plan (collectively referred to as the “Employees Plan”) provides forthe grant of options to acquire Ordinary Shares to key employees of the Companyand its subsidiaries. A 2000 Stock Option Plan provided for the issuance ofoptions to officers, directors, directors and employees as the Company’sChairman of the Board of Directors and Chief Executive Officer may direct (the“2000 Stock Option Plan”). All foregoing plans are collectively referred to asthe “Plans”.

 

1,195,740, 692,580 and1,637,160 shares had been originally authorized for issuance under the 2000 StockOption Plan, Employees Plan and the Officers Plans, respectively.

 

The Board of Directors or acommittee (the “Committee”) appointed by the Board of Directors administers thePlans. The Board of Directors or the Committee also has the authority todelegate decisions with respect to Options granted to key employees under theEmployees Plan who are not elected officers or directors of the Company or itssubsidiaries and to delegate decisions with respect to key employees to theChief Executive Officer.

 

Any decision by theCommittee or the Chief Executive Officer to grant an award under the Plans issubject to ratification by the Board of Directors of the Company. The Board isalso to ratify any decision that effects the terms or conditions of optionsawarded to elected officers or directors of the Company or its subsidiaries.

 

In the event that theOrdinary Shares of the Company are subdivided or consolidated as a result of areorganization, stock split, payment of a stock dividend, reverse stock splitor other change in the Company’s capitalization, the Committee or the Board ofDirectors has the authority to make appropriate adjustments in the OrdinaryShares available for issuance under the Plans, the number of shares subject tooptions that may have been or may be awarded to any participant in any 12 monthperiod, the price, number of Ordinary Shares or kind of securities subject tooutstanding options, or the terms of such options in order to prevent dilutionor enlargement of rights under the options. In addition, the Board may alsochange the kind of securities available for grant under the Plans to reflectany such corporate changes.

 

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The Committee or the ChiefExecutive Officer has the discretion to determine which employees constitutekey employees to whom options will be awarded under the Employees Plan.

 

The Committee or ChiefExecutive Officer, as the case may be, determines the number of Ordinary Sharessubject to options to be granted.

 

The purchase price per shareof the Ordinary Shares to be paid upon the exercise of the option must be atleast 100% of the fair market value of an Ordinary Shares on the date on whichthe option was granted. Under the Plans, if the Ordinary Shares are principallytraded on a national securities exchange or the Nasdaq Global Market or CapitalMarket at the time of grant, the Company is required to use, at fair marketvalue, the average of the closing prices of the Ordinary Shares for the tenconsecutive trading days immediately before the date of grant. If the OrdinaryShares are traded on a national securities exchange or the Nasdaq Stock GlobalMarket or Capital Market, but no closing prices are reported for such ten-dayperiod, or if the Ordinary Shares are principally traded in theover-the-counter market, the Company is required to use, as fair market value,the average of the mean between the bid and asked prices reported for theCompany’s Ordinary Shares at the close of trading during such ten-day periodbefore the date of grant. If the Ordinary Shares are traded neither on anational securities exchange, one of the Nasdaq’s Markets nor in theover-the-counter market or if bid and asked prices are otherwise not available,the fair market value of the Ordinary Shares on the date of grant will bedetermined in good faith by the Committee or the Board of Directors, as thecase may be.

 

The Board of Directors orthe Committee, as the case may be, or, to the extent that such authority hasbeen delegated to the Chief Executive Officer, the Chief Executive Officerdetermines, at the time of grant, when each option granted under the Plans willbecome exercisable. Notwithstanding the foregoing, all options held by a keyemployee of the Company or its subsidiaries become immediately exercisable,whether or not exercisable at the time, upon the death or disability.

 

No option is to beexercisable more than ten years from the date the option is granted.

 

Payment of Exercise Pricefor Options. Under the Plans, payment for shares purchased uponexercise of an option may be made by any of the following methods, subject tocertain requirements: (1) in cash, paid by either the optionholder or abroker to whom the optionee has tendered the option; (2) in OrdinaryShares valued at the fair market value of such shares on the date of exercise,provided that such shares were held by the optionholder for not less than sixmonths prior to the date of exercise of the option; (3) by any othermedium of payment that the Board, Committee or the Chief Executive Officer, asapplicable, has authorized at the time of grant (other than the withholding ofshares issuable upon the exercise of options); or (4) by any combinationof the preceding methods.

 

Transfer Of Options. Under thePlans, an option may not be sold, assigned or otherwise transferred except to:

** **
| · | the spouse or lineal  descendant of a plan participant;                                                   |
|--------|-----------------------------------------------------------------------------------------------------------|
|   |                                                                                                      |
| · | the trustee of a trust for  the primary benefit of a plan participant’s spouse or lineal descendant; |
|   |                                                                                                      |
| · | a partnership of which a  plan participant and lineal descendants are the only partners; or               |
|   |                                                                                                      |
| · | a charitable organization.                                                                                |

 

These assignments are onlypermitted if the assigning optionee does not receive any compensation inconnection with the assignment and the assignment is expressly approved by theBoard or Committee, as the case may be.

 

The Company indemnifies themembers of any Committee and its delegates and the Chief Executive Officeragainst (1) reasonable expenses incurred in connection with the defense ofany action, suit or proceeding to which they may be a party by reason of anyaction taken or failure to act in connection with the Plans, and (2) allamounts paid by them in settlement of or satisfaction of a judgment entered inany such action, suit or proceeding, except in cases where such a person isadjudged liable for gross negligence or gross misconduct in the performance ofhis or her duties.

 

The Board may terminate,suspend, or amend the Plans at any time without the authorization ofshareholders to the extent allowed by law or the rules of any market onwhich the Company’s shares are then listed or quoted.

 

The table below shows, as toeach of the executive officers and directors of the Company and as to allexecutive officers and directors of the Company as a group, the aggregateamounts of Ordinary Shares remaining (unexercised), subject to such optionsgranted under the Plans.

 

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| ** **                                                     | ** ** | **Shares Subject**                                    | ** ** | ** **                               | ** ** |
|----------------------------------------------------------------|------------|------------------------------------------------------------|------------|------------------------------------------|------------|
| **Names of Executive********Officers and Directors** | ** ** | **To the (Remaining)********Plans Options** | ** ** | **Per Share********Exercise Price** | ** ** |
| ** **                                                     | ** ** | ** **                                                 | ** ** | **(US$)**                                | ** ** |
| T.C.  Leung                                                    |       | 170,000                                                    | (1)        | 0.5857                                   |       |
|                                                           |       |                                                       |       |                                     |       |
| Xu  Hong Wang                                                  |       |                                                       |       |                                     |       |
|                                                           |       | 10,920                                                     | (2)        | 0.5787                                   |       |
|                                                           |       |                                                       |       |                                     |       |
|                                                           |       | 31,500                                                     | (2)        | 0.8191                                   |       |
|                                                           |       |                                                       |       |                                     |       |
| All  executive officers and Directors as a group               |       | 212,420                                                    |       | 0.5787-0.8191                            | (3)        |

 

----

(1)    Granted pursuant to the 2002 Officers and Directors Plan.

 

(2)    Granted pursuant to the 2000 Employees Plan.

 

(3)    Price range.

 

The foregoing options willexpire in August 2010.

 

As of December 31,2009, 1,541,920 options had beenexercised, including 300,300 options, 397,300 optionsand 205,800 options exercised by Mr. Leung at prices of US$0.5787, US$0.5857 and US$0.8191 pershare, respectively and 42,000 options exercised by Xu Hong Wang at a price ofUS$0.587 per share.

 

2007 Officers’ and Directors’Stock Option and Incentive Plan

 

A total of 880,000 ordinaryshares had been reserved for issuance under the Company’s 2007 Officers’ andDirectors’ Stock Option and Incentive Plan (the “2007 D&O Stock Options”). All the 672,000 options granted to theexecutive officers and directors of the Company weresurrendered and cancelled in 2008.  TheCompany plans to make no further use of this plan.

 

The Company has set forth inthis Report all required disclosure of additional compensation to its executiveofficers and directors including personal benefits and securities or propertiespaid or distributed which was not offered on the same terms to all full timeemployees during Fiscal 2007, Fiscal 2008 and Fiscal 2009.

 

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Changesin outstanding options under various plans mentioned above were as follows:

 
| ** **                     | ** ** | **As of December 31,** | ** ** |
|--------------------------------|------------|---------------------------------------|------------|
| ** **                     | ** ** | **2009**                              | ** ** | **2008** | ** ** | **2007** | ** ** |
| ** **                     | ** ** | **Number********of********Options**   | ** ** | **Weighted********average********exercise********price** | ** ** | **Number********of********Options** | ** ** | **Weighted********average********exercise********price** | ** ** | **Number of********Options** | ** ** | **Weighted********average********exercise********price** | ** ** |
|                           |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Outstanding, beginning of year |       | 583,470                               |       | 0.84 |   | 1,290,840 |   | 1.74 |   | 3,938,296 |   | 1.32 |   |
| Granted                        |       | —                                |       | — |   | 205,000 |   | 2.56 |   | 499,000 |   | 3.27 |   |
| Cancelled                      |       | (51,200                               | )          | (0.87 | ) | (704,000 | ) | (3.07 | ) | (451,210 | ) | (1.58 | ) |
| Exercised                      |       | (10,000                               | )          | (0.59 | ) | (208,370 | ) | (0.60 | ) | (2,695,246 | ) | (1.44 | ) |
|                           |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Outstanding, end of year       |       | 522,270                               |       | 0.85 |   | 583,470 |   | 0.84 |   | 1,290,840 |   | 1.74 |   |
|                           |       |                                  |       |   |   |   |   |   |   |   |   |   |   |
| Exercisable, end of year       |       | 522,270                               |       | 0.85 |   | 583,470 |   | 0.84 |   | 791,840 |   | 0.78 |   |

 

Asof December 31, 2009, the options outstanding and exercisable had exerciseprices in the range of US$0.5787 to US$3.33 and a weighted average unexpiredlife of approximately 1.7 years.

 
| **As of December 31, 2009** | ** ** | **Shares** | ** ** | **IntrinsicValue  US$’ 000** | ** ** |
|-------------------------------------------------|------------|------------|------------|----------------------------------------|------------|
|                                            |       |       |       |                                   |       |
| Total outstanding in-the-money options          |       | 482,270    |       | 719                                    |       |
| Total vested in-the-money options               |       | 482,270    |       | 719                                    |       |

 

Thetotal intrinsic value of share option exercised for the twelve months ended December 31,2009, 2008 and 2007 were approximately $8,000, $374,000 and $3,492,000,respectively.  As of December 31,2009, there was no unrecognized stock-based compensation expense related tounvested stock options.

 

TheGroup adopted the provisions of ASC 718-10, which requires us to recognizeexpense related to the fair value of our stock-based compensation awards,including employee stock options.

 

TheBlack-Scholes option-pricing model requires the input of subjectiveassumptions, including the expected volatility of stock price.  Becausechanges in subjective input assumptions can materially effect the fair valueestimate, in directors’ opinion, the existing model may not necessarily providea realizable measure of the fair value of the stock options.

 

***Item 6C.******                                                *****Board Practices**

 

Theterm of each of the Company’s directors expires at the election andqualification of their successors at the next annual meeting of the Company’sshareholders, anticipated to be held in August of this year. Of theCompany’s seven directors, all were re-elected at the Company’s last annualmeeting of shareholders in September 2009.

 

TheBoard has a standing Audit Committee to assist the Board in carrying out itsduties. The Audit Committee has a written charter approved by the Board. Thechair of the Audit Committee determines the meeting agenda of the AuditCommittee. The Audit Committee members receive materials in advance ofCommittee meetings allowing them to prepare for the meeting.

 

DuringFiscal 2009, the Audit Committee met 4 times, being attended by all members.

 

TheAudit Committee assists the Board in monitoring the Company’s financialaccounting, controls, planning and reporting. Among its duties, the AuditCommittee:

 

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·                  reviews the Company’s auditing, accountingand financial reporting process;

 

·                  reviews theadequacy of the Company’s internal controls;

 

·                  reviews the independence,fee arrangements, audit scope, and performance of the Company’s independentauditors, and recommends the appointment or replacement of independent auditorsto the Board of Directors;

 

·                  reviews andapproves all non-audit work, if any, to be performed by the auditors;

 

·                  reviews thescope of our internal auditing and the adequacy of the organizational structureand qualifications of the internal auditing staff;

 

·                  reviews, beforerelease, the audited financial statements and operating and financial reviewand prospects contained in the Company’s Annual Report on Form 20-F, andrecommends that the Board of Directors submit these items to the shareholders’meeting for approval;

 

·                  provides anopen avenue of communication among the Company’s independent auditors,financial and senior management, the internal audit function and the Board ofDirectors;

 

·                  reviews andupdates the Company’s Code of Business Conduct and Ethics and ensure that thereis a system to enforce same and that this Code complies with all applicablerules and regulations;

 

·                  ensures thatthe Company’s management and auditors assess current financial reporting issuesand practices; and

 

·                  reviews andpre-approves both audit and non-audit services to be provided by the Company’sauditors.

 

The Audit Committee is currently composed of Y.K. Liang, Ka ChongCheang and Li Da Weng.  The Audit Committee’s “financial expert” is Y.K.Liang.  The Board has determined that the membership of the AuditCommittee meets the current independence requirements of the NASDAQ listingstandards as same applies to private foreign issuers and the applicablerules and regulations of the SEC.

 

***Item 6D.******                                             *****Employees**

 

AtJune 1, 2010, the Company (exclusive of Yixing-Pact) had approximately 137full-time employees. At December 31, 2009, 2008 and 2007, staffing levelswere approximately as follows:

 
| ** **                | ** ** | **2009** | ** ** | **2008** | ** ** | **2007** | ** ** |
|---------------------------|------------|----------|------------|----------|------------|----------|------------|
|                      |       |     |       |     |       |     |       |
| Marketing and sales       |       | 54       |       | 61       |       | 65       |       |
|                      |       |     |       |     |       |     |       |
| Administrative            |       | 48       |       | 49       |       | 49       |       |
| Technical                 |       | 38       |       | 39       |       | 32       |       |
| Total full time employees |       | 140      |       | 149      |       | 146      |       |

 

AtJune 1, 2010 Pact and Yixing had approximately 207 full-time employees. AtDecember 31, 2009, 2008 and 2007, respectively, staffing levels wereapproximately as follows: Engineers; 50, 54, and 35,Administrative Persons; 20, 22 and 22.

 

TheCompany is not subject to any collective bargaining agreement and believes thatits relations with its employees are good. The Company’s Management consists ofits officers and directors.

 

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***Item 6E.******                                                *****Share Ownership**

 

Withrespect to the share ownership of the directors and senior management of theCompany, reference is made to Item 7. “Major Shareholders and Related PartyTransactions.”

 

**ITEM 7.****                                                ****MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS**

 

***Item 7A.******                                                *****Major Shareholders**

 

Thefollowing table sets forth, as of June 1, 2010, certain informationconcerning beneficial ownership of the Company’s voting shares that date, withrespect to (i) each person known to the Company to own 5% or more of theoutstanding Ordinary Shares, (ii) each director and executive officer ofthe Company, and (iii) all officers and directors of the Company as agroup:

 
| ** **                                                                              | ** ** | **Amount and********Nature of********Beneficial********Ownership(3)** | ** ** | **Approximate********Percentage********Of Ordinary********Shares Owned** | ** ** |
|-----------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------|------------|
| ** **                                                                              | ** ** | ** **                                                                      | ** ** | ** **                                                                         | ** ** |
| T.C. Leung (1)(2)(3)                                                                    |       | 6,118,998                                                                       |       | 52.2                                                                               | %          |
|                                                                                    |       |                                                                            |       |                                                                               |       |
| Pearl Venture Ltd.(1)(2)                                                                |       | 1,478,675                                                                       |       | 12.8                                                                               | %          |
|                                                                                    |       |                                                                            |       |                                                                               |       |
| Alex Sham(1)                                                                            |       | 295,480                                                                         |       | 2.6                                                                                | %          |
|                                                                                    |       |                                                                            |       |                                                                               |       |
| Jerry Wong(1)                                                                           |       | 191,766                                                                         |       | 1.7                                                                                | %          |
|                                                                                    |       |                                                                            |       |                                                                               |       |
| Y.K. Liang(1)                                                                           |       | *                                                                               |       | *                                                                                  |       |
|                                                                                    |       |                                                                            |       |                                                                               |       |
| Xu Hong Wang(1)(3)                                                                      |       | 82,420                                                                          |       | 0.7                                                                                | %          |
|                                                                                    |       |                                                                            |       |                                                                               |       |
| Ka Chong Cheang(1)                                                                      |       | *                                                                               |       | *                                                                                  |       |
|                                                                                    |       |                                                                            |       |                                                                               |       |
| Li Da Weng(1)                                                                           |       | *                                                                               |       | *                                                                                  |       |
|                                                                                    |       |                                                                            |       |                                                                               |       |
| All Executive Officers And Directors of the Company as a group (7  persons)(2) (3) |       | 6,688,664                                                                       |       | 56.9                                                                               | %          |

 

----

|    * | Denotes Nil                                                                                                                                                                                                                                                                                                |
|---------------------|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |                                                                                                                                                                                                                                                                                                       |
| (1)                 | The address for the  Company’s officers and directors is c/o Euro Tech (Far East) Ltd., 18/F Gee  Chang Hong Centre, 65 Wong Chuk Hang Road, Hong Kong. The address for Pearl  is Columbus Centre Building, Wichhams Cay, Road Town, Tortola, British Virgin  Islands.                                |
|                |                                                                                                                                                                                                                                                                                                       |
| (2)                 | Includes shares of the  Company’s Common Stock owned of record by Pearl, which is a trust established  for the benefit of Mr. Leung. Also includes those Company Ordinary  Shares owned of record by Regent, of which Pearl is the majority shareholder  .                                       |
|                |                                                                                                                                                                                                                                                                                                       |
| (3)                 | Gives effect to the  exercise of the 2000 Officers and Directors Plan, 2000 Employees Plan and 2002 Officers and Directors Plan Options owned of  record by such persons and which have vested or will vest within six  (6) months of the date of this Report. See Item 6B. “Compensation.” |

 

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***Item 7B.******                                                *****Related Party Transactions**

 

SeeItem 4.B.  Business Overview - Businessfor the discussion of the formation of the joint venture.  Pact Environmental Equipment Co. Limited in June 2007.

 

SeeItem 6B. Compensation.

 

**I****TEM 8.****                                               ****FINANCIAL INFORMATION**

 

***Item 8A.******                                                *****Consolidated Statements and Other Financial Information**

 

Item8A.1              See Item 18.

 

Item8A.2              See Item 18.

 

Item8A.3              See Report of Independent Registered Public Accounting Firms, pages F-2and F-3.

 

Item8A.4              We have complied with this requirement.

 

Item8A.5              Not applicable.

 

Item8A.6              Not applicable.

 

Item8A.7              Legal Proceedings.

 

TheCompany is not a party to any material legal proceedings.

 

Item8A.8              Dividend Policy.

 

TheCompany has not paid cash dividends to date. The payment of cash dividends, ifany, in the future is within the discretion of the Board of Directors. Thepayment of cash dividends, if any, in the future will depend upon the Company’searnings, capital requirements and financial conditions and other relevantfactors. The Company’s Board of Directors does not presently intend to declareany cash dividends in the foreseeable future, but instead intends to retain allearnings, if any, for use in the Company and Far East’s business operations.

 

***Item 8B.******                                                *****Significant Changes**

 

Therehas not been any significant change since the date of the annual financialstatements included in this Report.

 

**ITEM 9.****                                                ****THE OFFERING AND LISTING**

 

***Item 9A.******                                                *****Listing Details**

 

TheCompany has one class of securities presently registered: Ordinary Shares.These securities are presently traded on the NASDAQ’s Capital Market under thetrading symbols “CLWT”, and have so traded since the Company’s Public Offeringin March 1997.

 

Thehigh and low prices for the Ordinary Shares in the periods indicated, asreported by NASDAQ, are set forth below:

 
| **Years Ended December 31,** | ** ** | **Low** | ** ** | **High** | ** ** |
|---------------------------------------------|------------|---------|------------|----------|------------|
| ** **                                  | ** ** | **US$** | ** ** | **US$**  | ** ** |
|                                        |       |    |       |     |       |
| 2005                                        |       | 2.700   |       | 6.590    |       |
| 2006                                        |       | 1.680   |       | 5.740    |       |
| 2007                                        |       | 1.81    |       | 5.14     |       |
| 2008                                        |       | 0.66    |       | 3.15     |       |
| 2009                                        |       | 0.40    |       | 4.22     |       |

 

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| **Quarters Ended** | ** ** | **Low** | ** ** | **High** | ** ** |
|-------------------------|------------|---------|------------|----------|------------|
| ** **              | ** ** | **US$** | ** ** | **US$**  | ** ** |
|                    |       |    |       |     |       |
| March 31, 2008     |       | 1.93    |       | 3.04     |       |
| June 30, 2008      |       | 1.70    |       | 3.15     |       |
| September 30, 2008 |       | 1.13    |       | 2.30     |       |
| December 31, 2008  |       | 0.66    |       | 1.46     |       |
| March 31, 2009     |       | 0.40    |       | 1.09     |       |
| June 30, 2009      |       | 0.64    |       | 1.76     |       |
| September 30, 2009 |       | 0.81    |       | 1.69     |       |
| December 31, 2009  |       | 1.36    |       | 4.22     |       |
| March 31, 2010     |       | 1.75    |       | 2.68     |       |

 
| **The Following Months** | ** ** | **Low** | ** ** | **High**      | ** ** |
|--------------------------|------------|---------|------------|---------------|------------|
| ** **               | ** ** | **US$** | ** ** | **US$ ** | ** ** |
| January 2010        |       | 1.80    |       | 2.68          |       |
| February 2010       |       | 1.75    |       | 2.35          |       |
| March 2010          |       | 1.97    |       | 2.38          |       |
| April 2010          |       | 1.92    |       | 2.57          |       |
| May 2010            |       | 1.50    |       | 1.94          |       |

 

The Ordinary Shares were held by approximately 39holders of record as of June 1, 2010. Based upon information received from broker-dealers, clearing firms andothers, the Company believes that it has in excess of 1,900 beneficial holdersof its Ordinary Shares.

 

**Item 9C. Markets**

 

SeeItem 9A. “Listing Details.”

 

**ITEM 10.****                                         ****ADDITIONALINFORMATION**

 

***Item 10A.******                                         ******ShareCapital***

 

**Authorized Capital**. The authorized capital ofthe Company is US$250,000 comprised of 20,000,000 Ordinary Shares and 5,000,000shares of Preferred Stock. As of December 31, 2009, there were 11,544,711 Ordinary Shares and no shares of Preferred Stock, issued and outstanding.  As of December 31, 2009 approximately667,320****Ordinary Shares were held  by the Company as treasury stock and arenon-voting. All of the Company’s shares of capital stock have a par value ofUS$0.01 per share.

 

Holdersof the Company’s Ordinary Shares are entitled to one vote for each whole shareon all matters to be voted upon by shareholders, including the election ofdirectors. Holders of Ordinary Shares do not have cumulative voting rights inthe election of directors. All shares of Ordinary Shares are equal to eachother with respect to liquidation and dividend rights. Holders of OrdinaryShares are entitled to receive dividends if and when declared by the Company’sBoard of Directors out of funds legally available under British Virgin Islandslaw. In the event of the liquidation of the Company, all assets available fordistribution to the holders of Ordinary Shares are distributable among themaccording to their respective share holdings. All of the outstanding shares ofOrdinary Shares of the Company are duly authorized, validly issued, fully paidand non-assessable.

 

Pursuantto the Company’s Memorandum and Articles of Association and pursuant to thelaws of the British Virgin Islands, the Company’s Memorandum and Articles ofAssociation may be amended by a resolution of the Board of Directors withoutshareholder approval. This includes amendments to increase or reduce theauthorized capital stock of the Company or to increase or reduce the par valueof its shares. The ability of the Company to amend its Memorandum and Articlesof Association without shareholder approval could have the effect of delaying,deterring or preventing a change in control of the Company without any furtheraction by the shareholders including but not limited to, a tender offer topurchase the Common Stock at a premium over then current market prices.

 

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UnderUnited States law, majority and controlling shareholders generally have certain“fiduciary” responsibilities to the minority shareholders. Shareholder actionmust be taken in good faith and actions by controlling shareholders which areobviously unreasonable may be declared null and void. The British Virgin Islandslaw protecting the interests of the minority shareholders is not as protectivein all circumstances as the law protecting minority shareholders in UnitedStates jurisdictions. While British Virgin Islands law does not permit ashareholder of a British Virgin Islands company to sue its directorsderivatively, i.e ., in the name of and for the benefit of the Company,and to sue the Company and its directors for his benefit and the benefit ofothers similarly situated, the circumstances in which any such action may bebrought that may be available in respect of any such action may result in therights of shareholders of a British Virgin Island company being more limitedthan those rights of shareholders in a United States company.

 

TheBoard of Directors of the Company, without further shareholder action, mayissue shares of Preferred Stock in any number of series and may establish as toeach such series the designation and number of shares to be issued and therelative rights and preferences of the shares of each series, includingprovisions regarding voting powers, redemption, dividend rights, rights uponliquidation and conversion rights. The issuance of shares of Preferred Stock bythe Board of Directors could adversely effect the rights of holders of OrdinaryShares by, among other matters, establishing preferential dividends,liquidation rights and voting power. The Company has not issued any shares ofPreferred Stock and has no present intention to issue shares of PreferredStock. The issuance thereof could discourage or defeat efforts to acquirecontrol of the Company through acquisition of Ordinary Shares.

 

***Item 10B.******                                         ******Memorandum and Article of Association***

 

Setforth below is a summary of the material provisions of our Memorandum andArticles of Association (the “Articles) and the British Virgin Islands’ (“BVI”)International Business Companies Act of 1984 relating to the shares. Thisdescription does not purport to be complete and is qualified in its entirety byreference to BVI statutory law and to the Articles.

 

**Share Register and Voting Restrictions.**  TheCompany maintains a share register at its registered office in the BVI. TheCompany’s registered number is 200960. The objects of the Company are to engagein any act or activity that is not prohibited under any law of the BVI. Underthe Articles, the Company is not required to treat the holder of a registeredshare in the Company as a shareholder until that person’s name has been enteredin the share register. The holders of Ordinary Shares have one vote for eachOrdinary Share held of record. The holders of Preferred Shares have such votingpowers, full or limited, or no voting powers and such restrictions as may bestated and expressed in the resolution providing for the issuance of thePreferred Shares.

 

**Shareholders Meeting.** The directors of theCompany may convene meetings of the shareholders of the Company at such timesand in such manner and places within or outside the BVI as the directorsconsider necessary or desirable. Upon the written request of the shareholdersholding ten (10%) percent or more of the outstanding voting shares in theCompany the directors must convene a meeting of shareholders.

 

Ashareholder may participate at a meeting of shareholders by telephone or otherelectronic means, as long as all shareholders participating in the meeting areable to hear each other.

 

Ameeting of shareholders is duly constituted if, at the commencement of themeeting, there are present in person or by proxy not less than fifty (50%)percent of the votes of the shares or class series of shares entitled to voteon resolutions of shareholders to be considered at the meeting.

 

Ifa quorum is not present, the meeting, if convened upon the requisition ofshareholders, shall be dissolved; in any other case it shall stand adjourned tothe next business day at the same time and place or to such other time andplace as the directors may determine, and if at the adjourned meeting there arepresent in person or by proxy not less than one third of the votes of theshares or each class or series of shares entitled to vote on the resolutions tobe considered by the meeting, those present shall constitute a quorum butotherwise the meeting shall be dissolved.

 

Anyaction that may be taken by the shareholders at a meeting may also be taken bya resolution of shareholders consented to in writing or by written electroniccommunication, without the need for any notice, but if not a unanimous writing,a copy of such resolution shall be sent to all non-consenting shareholders.

 

**Net Profits and Dividends.** Under BVI law, dividendsmay only be declared and paid out of surplus, such that after payment ofdividends the Company must be able to satisfy its liabilities as they becomedue in the ordinary course of business and the realizable value of the assetsof such company must not be less than the sum of its liabilities (other thandeferred taxes and capital). There are no other BVI restrictions regardingdividends.

 

**Pre-emptive Rights.** The holders of OrdinaryShares and Preferred Shares are not entitled to any pre-emptive or similarrights.

 

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**Conflict of Interests.** No agreement or transactionbetween the Company and one or more of its directors or any person in which anydirector has a financial interest or to whom any director is related, includingas a director of that other person, is void and avoidable for this reason only,or by reason only that the director is present at the meeting of directors, orat the meeting of the committee of directors that approves the agreement ortransaction, or that the vote or consent of the director is counted for thatpurpose, if the material facts of the interest of each director in theagreement or transaction and his interest in or relationship to any other partyto the agreement or transaction are disclosed in good faith, or are known bythe other directors. A director who has an interest in any particular businessto be considered at a meeting of directors or shareholders may be counted forpurposes of determining whether the meeting is duly constituted.

 

**Repurchase of Shares.** The Company may purchase,redeem or otherwise acquire and hold its own shares, but only out of surplus orin exchange for newly issued shares of equal value. Subject to provisions tothe contrary in:

 

(a)                                       thedesignations, powers, preferences, rights, qualifications, limitations andrestrictions with which the shares were issued; or

 

(b)                                      thesubscription agreement for the issue of the shares,

 

the Company may notpurchase, redeem or otherwise acquire its own shares without the consent ofshareholders whose shares are to be purchased, redeemed or otherwise acquired.

 

Generally,no purchase, redemption or other acquisition of shares shall be made unless thedirectors determine that immediately after purchase, redemption or otheracquisition the Company will be able to satisfy its liabilities as they becomedue in the ordinary course of its business and the realizable value of theassets of the Company will not be less than the sum of its total liabilities,other than deferred taxes, as shown in the books of account, and its capitaland, in the absence of fraud, the decision of the directors as to therealizable value of the assets of the Company is conclusive, unless a questionof law is involved.

 

**Duration, Liquidation, Merger.**  The Company shallcontinue until wound-up and dissolved by a resolution of shareholders, or underthe terms of any insolvency or liquidation laws in force in the BVI. Under BVIlaw the Company may merge with another company, including a parent company orsubsidiary, incorporated in the BVI, or in a jurisdiction outside of the BVIwhere the laws of that jurisdiction permit the merger. A merger must beauthorized by the directors of the Company and approved by the shareholders.

 

**Board of Directors.** The business and affairs ofthe Company are managed by the directors who may exercise all such powers ofthe Company as are not by BVI law or by the Company’s Articles reserved to theshareholders of the Company.

 

***Item 10C.******                                         ******Material Contracts***

 

OnApril 29, 2007, Far East entered into a subscription agreement with BlueSky and Blue Sky’s management shareholders to purchase twenty (20%) percent ofthe equity capital of Blue Sky (the “Blue Sky Agreement”) for a total ofUS$4,700,000 of which US$4,000,000 was paid in August 2007 with a finalpayment of US$692,000 paid in Fiscal 2008. The Blue Sky Agreement contains certain provisions requiring Far East’swritten consent prior to Blue Sky; taking on new shareholders, pledging orselling assets, declaring a dividend, amending its constitution, guaranteeingthe obligations of third parties, engaging in any transaction having a materialadverse effect on its financial status or outlook, voluntarily winding up itsaffairs, dismissing management or changing their rates of compensation,appointing directors and similar provisions. Far East also has the right to andhas appointed a non-executive director to Blue Sky, who does not participate inthe day to day management of Blue Sky.  In the event Blue Sky sellsadditional shares, Far East has the right to maintain its 20% interest bypaying the same price as any proposed purchaser.  Pursuant to the Blue SkyAgreement, in March 2008, Blue Sky declared a dividend to be paid inDecember 2008, to its shareholders.  Blue Sky’s dividends to Far Eastwere US$294,000 in 2008. ** **As part of the Blue Sky Agreement,Far East agreed that if it was able and circumstances permit, it wouldundertake the obligation of guaranteeing loans of not more than US$2,900,000for Blue Sky.

 

OnJanuary 20, 2008, pursuant to a subscription agreement, of July 18,2007, with Jia Huan and Jia Huan’s management shareholders, Far East  purchased twenty (20%) percent of the equitycapital of Jia Huan for US$2,500,000 (the “Jia Huan Agreement”).  The JiaHuan Agreement contains certain provisions requiring Far East’s written consentprior to Jia Huan; taking on new shareholders, pledging or selling assets,declaring a dividend, amending its constitution, guaranteeing the obligationsof third parties, engaging in any transaction having a material adverse effecton its financial status or outlook, voluntarily winding up its affairsdismissing management or changing their rates of compensation, appointingdirectors and similar provisions. Far East, also has the right to and hasappointed a non-executive director who does not participate in the day to daymanagement of Jia Huan.  In the event Jia Huan sells additional shares,Far East has the right to maintain its 20% interest by paying the same price asany proposed purchaser.

 

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Aspart of its acquisitions of Yixing and Pact, the Company granted the minorityshareholders of both entities the right to require the Company to purchase theremaining securities of Yixing and Pact pursuant to a formula that wouldobligate the Company to pay the minority shareholders approximatelyUS$1,795,000.  On January 2, 2010, the Company purchased anadditional two (2%) of Pact for approximately US$73,000.  There has been no further indication to theCompany from the minority shareholders that they desire to sell theirshares.  See Item 4A. “History and Development of the Company” and Item4B. “Business Overview”.

 

***Item 10D.              Exchange Controls***

 

Thereare no exchange control restrictions on payment of dividends on the Company’sOrdinary Shares or on the conduct of the Company’s operations either in HongKong, where the Company’s principal executive offices are located, or theBritish Virgin Islands, where the Company is incorporated. There are no BritishVirgin Islands laws which impose foreign exchange controls on the Company orthat effect the payment of dividends, interest, or other payments tonon-resident holders of the Company’s securities. British Virgin Islands lawsand the Company’s Memorandum and Articles of Association impose no limitationson the right of non-resident or foreign owners to hold the Company’s securitiesor vote the Company’s Ordinary Shares. The PRC government has established aunified exchange rate system and system of exchange controls to which theCompany is subject.

 

***Item 10E.              Taxation***

 

BVI

 

TheCompany is exempted from taxation in the British Virgin Islands.

 

HONGKONG

 

TheCompany’s subsidiaries organized in Hong Kong, Far East, Euro Tech (China)Limited and ChinaH2O.com Limited, provide for Hong Kong profits tax at a rateof 16.5% in 2009 on the basis of their income for financial reporting purposes,adjusting for income and expense items which are not assessable or deductiblefor profits tax purposes.

 

PRC

 

EuroTech Trading (Shanghai) Limited, a subsidiary of the Company, provides for PRCEnterprise Income Tax at a rate of 20% (a rate currently levied by the PudongLocal Tax Bureau despite the National Tax Bureau Rate of 25%), after offsettinglosses brought forward, if any, on the basis of its income for financingreporting purposes, adjusting for income and expense items which are notassessable or deductible for PRC Enterprise Income Tax purposes.

 

Inaccordance with the relevant income tax laws and regulations applicable toforeign investment enterprises in the PRC, Shanghai Euro Tech Limited (“SET”),a subsidiary of the Company, is exempt from PRC Enterprise Income Tax of 15%for two years starting from 2008, afteroffsetting losses brought forward, if any, followed by a 50% reduction for thenext three years thereafter. As of December 31, 2009, SET had anassessable loss brought forward of US$313,386 as agreed by the local taxauthority to offset its profits for the coming years.  This loss will expire in five years.

 

Accordingto the relevant PRC tax rules and regulations, Shanghai Euro TechEnvironmental Engineering Limited is exempt from the PRC Enterprise Income Taxof 20% for two year period that ended in 2009, followed by a 50% reduction forthe next three years thereafter. Chongqing Euro Tech Rizhi Technology Co., Ltd, Rizhi Euro Tech Instrument (Shaanxi) Co., Ltd and Guangzhou Euro Tech EnvironmentalEquipment Co., Ltdprovide for PRC Enterprise Income Tax at a rate of 25%, after offsetting losses brought forward, if any, on the basis of itsincome for financial reporting purposes, adjusting for income and expense itemswhich are not assessable or deductible for PRC Enterprise Income Tax purposes.

 

Accordingto the relevant PRC tax rules and regulations, Yixing Pact EnvironmentalTechnology Co., Ltd is registered in Shanghai as Foreign Owned Enterprise thatis entitled to a tax rate of 25%.  PactAsia Pacific Limited is situated in the British Virgin Islands where there areno taxes imposed on it.  However, part of its profits is subject to HongKong profits tax at a rate of 16.5% in Fiscal2009 as to those profits earned in Hong Kong.

 

VariableInterest Entities (“VIES”), as defined by the Financial Accounting StandardsBoard are included in the consolidated financial statements, where applicable,of the Company and its subsidiaries (the “Group”).  VIES of the Group provide for PRC EnterpriseIncome Tax at a rate of 25%, afteroffsetting losses brought forward, if any, on the basis of its income forfinancial reporting purposes, adjusting for income and expense items which arenot assessable or deductible for PRC Enterprise Income Tax purposes.

 

Asof December 31, 2009, certain VIEs had aggregated assessable lossescarried forward of US$151,706 as agreed by the local tax authority.

 

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TheCompany’s effective tax rate for Fiscal 2009, was a weighted average statutorytax rate of 533%.  Principal adjustmentsto this statutory tax rate was a valuation allowance of****295%for Fiscal 2009.

 

OnMarch 16, 2007, the PRC National People’s Congress passed the ChinaCorporate Income Tax Law (“Income Tax Law”), which became effectiveJanuary 1, 2008 and applies a unified income tax rate for foreign investedenterprises and domestic enterprise. The Income Tax Law is effectiveimmediately for companies previously subject to higher taxation rates and providesa five-year transition period from its effective date for those enterpriseswhich were established before the effective date of the new tax law andpreviously entitled to a preferential tax treatment.

 

OnDecember 26, 2007, the State Council and on February 20, 2008 theMinistry of Finance issued implementation guidelines (“Guidelines”) setting outhow the transition of tax rates will occur. The Guidelines state that thoseenterprises which enjoyed a preferential tax rate of 15% are eligible for a graduatedrate increase to 25% over the 5-year period beginning from January 1,2008. The applicable rates under such an agreements for such enterprises are 18%, 20%, 22%, 24% and 25% for 2008, 2009, 2010, 2011, 2012 andthereafter, respectively. In addition, foreign investment manufacturingenterprises which have not fully utilized any preferential tax treatments, suchas tax holidays or reduced rates of taxation, will be able to continue toreceive them during the transitional period. The Group has applied the new ratein relation to deferred tax balances.

 

EffectiveJanuary 1, 2007, the Company adopted FASB ASC Subtopic 740-10 Income Taxes- Overall, (FIN No. 48, “Accounting for Uncertainty in Income Taxes.”). In accordance with ASC 740-10, the Company recognizes tax benefits that satisfya greater than 50% probability threshold and provides for the estimated impactof interest and penalties for such tax benefits.

 

**PRCstatutory reserve.**

 

Underthe relevant PRC laws and regulations, the Company’s PRC subsidiaries arerequired to appropriate certain percentages of their respective net income totwo statutory funds i.e. the statutory reserve fund and the statutory staffwelfare fund. The PRC subsidiaries also appropriated certain amount of theirnet income to an expansion fund.

 

(i) Statutoryreserve funds

 

Pursuantto applicable PRC laws and regulations, the Company’s PRC subsidiaries arerequired to allocate at least 10% of their net income to the statutory reservefunds until such funds reaches 50% of their respective registered capital. Thestatutory reserve funds can be utilized upon the approval by the relevantauthorities, to offset accumulated losses or to increase registered capital ofthe companies, provided that such funds be maintained at a minimum of 25% ofthe companies’ registered capital.

 

(ii) Statutorywelfare funds

 

Pursuantto applicable PRC laws and regulations, the Company’s PRC subsidiaries arerequired to allocate certain amounts of their respective net income to thestaff welfare funds determined by the Company. The staff welfare funds can onlybe used to provide staff welfare facilities and other collective benefits totheir employees. This fund is non-distributable other than upon liquidation ofthe PRC subsidiaries.

 

(iii) Expansionfunds

 

Theexpansion reserve shall only be used to make up losses, expand the Company’sPRC respective subsidiaries’ production operations, or increase the capital ofthe respective subsidiaries. The expansion fund can be utilized upon approvalby relevant authorities, to be converted into registered capital and issuebonus capital to existing investors, provided that such funds be maintained ata minimum of 25% of the respective companies’ registered capital.

 

UNITED STATES FEDERALINCOME TAXATION

 

The following discussion is a summary of the material United Statesfederal income tax considerations that may be relevant to the purchase,holding, ownership, disposition or sale of our ordinary shares.

 

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This discussion is general in nature and does not discuss all aspectsof U.S. federal income taxation which may be important to particular investorsin light of their individual circumstances, including investors subject tospecial U.S. taxation rules, such as:  (a) banks(b) dealers in securities or currencies; (c) insurance companies; (d) Tax-exemptorganizations; (e) persons holding our ordinary shares as part of hedging,conversion, constructive sale, straddle or other integrated transactions; (f) tradersin securities that have elected the mark-to-market method of accounting; (g) personswho own 5% or more of our shares; (h) U.S. persons whose “functionalcurrency” is not the U.S. dollar; or (i) Non-U.S. Holders (as definedbelow).

 

The discussion below is based upon the provisions of the InternalRevenue Code of 1986, as amended, or the Code, and U.S. Treasury regulations(including temporary and proposed regulations), rulings and judicial decisionsthereunder as of the date hereof. Such authorities are subject to change,possibly on a retroactive basis, which may result in U.S. federal income taxconsequences different from those discussed below.

 

**A U.S. Holder holding or considering acquiring ordisposing of our ordinary shares is urged to consult his or her own tax advisorconcerning the U.S. federal, state, local and non-U.S. income and other taxconsequences of the holding, ownership, purchase, disposition or sale of ourordinary shares in light of such U.S. Holder’s particular circumstances.**

 

A “U.S. Holder” for purposes of this discussion is a beneficial ownerof ordinary shares that is, for U.S. federal income tax purposes:  (a) a citizen or resident of the UnitedStates; (b) a corporation or other entity taxable as a corporation createdor organized in or under the laws of the United States, any state thereof, orthe District of Columbia; (c) an estate the income of which is subject toU.S. federal income taxation, regardless of its source; or (d) a trust ifit is subject to the primary supervision of a court within the United Statesand one or more U.S. persons have the authority to control all substantialdecisions of the trust or has a valid election in effect under applicable U.S.Treasury regulations to be treated as a U.S. person.

 

A beneficial owner of our ordinary shares that is not a U.S. Holder isreferred to herein as a “Non-U.S. Holder.”

 

If a partnership holds our ordinary shares, the tax treatment of apartner will generally depend on the status of the partner and the activitiesof the partnership. A partner of a partnership holding our ordinary shares isurged to consult its own tax advisor regarding an investment in our ordinaryshares.

 

*Passive foreign investment company rules.* In general, wewill be a passive foreign investment company for any taxable year in whicheither (a) at least 75% of our gross income is passive income or(b) at least 50% of the value (determined on the basis of a quarterly average)of our assets is attributable to assets that produce or are held for theproduction of passive income. For this purpose, passive income generallyincludes dividends, interest, royalties, rents (other than rents and royaltiesderived in the active conduct of a trade or business and not derived from arelated person), annuities and gains from assets that produce passive income.If we own at least 25% by value of the equity shares of another corporation, wewill be treated for purposes of the passive foreign investment company tests asowning a proportionate share of the assets of the other corporation, and asreceiving directly a proportionate share of the other corporation’s income. Thetax rules do not clearly indicate whether our contractual arrangementswith our VIES would be treated as ownership of equity in such entities.

 

The annual PFIC determination to be made by a U.S. Holder of ourordinary shares is an inherently factual determination and there is limitedguidance regarding the application of the PFIC rules to specificsituations. Although the determination of PFIC status is subject to factualuncertainties because it depends upon the valuation of our ordinary shares aswell as our goodwill and other assets and income.  In addition, as the determination of PFICstatus is made on an annual basis and depends on variables over which we havelimited control, there can be no assurance that we will not be classified as aPFIC for 2010 or any future calendar years. If we are a PFIC in any year, U.S.Holders would be subject to the tax regime described in the followingparagraphs.

 

If we are a passive foreign investment company for any taxable yearduring which a U.S. Holder has an equity interest in us, such U.S. Holder willbe subject to special tax rules in any future taxable year.  Unless the U.S. Holder makes a mark-to-marketelection, those special rules will apply to (a) “excess distributions”and (b) gain from the sale or other disposition of stock. Excessdistributions are defined generally as the excess of the amount received withrespect to the equity interests in the taxable year over 125% of the averageannual distributions received in the shorter of either the three previous yearsor a U.S. Holder’s holding period before the taxable year. Under these specialtax rules:

 

·**                 **the gain orexcess distribution will be allocated ratably over the holding period for theordinary shares;

 

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·**                 **the amountallocated to the taxable year in which the gain or excess distribution isrealized and to years before we became a PFIC will be taxed as ordinary income;

 

·**                 **the amountallocated to each other taxable year, with certain exceptions, will be taxed atthe highest tax rate in effect for that year; and

 

·**                 **the interestcharge generally applicable to underpayments of tax will be imposed in respectof the tax attributable to each such other taxable year.

 

We do not intend to provide information necessary for U.S. Holders tomake qualified electing fund elections, which if available could materiallyaffect the tax consequences of the ownership and disposition of our ordinaryshares.

 

In certain circumstances, instead of being subject to the excessdistribution rules discussed above, a U.S. Holder may make an election toinclude gain on ordinary shares of a passive foreign investment company asordinary income under a mark-to-market method, provided that ordinary sharesare regularly traded on a qualified exchange. The mark-to-market election isavailable only for ordinary shares that are regularly traded within the meaningof U.S. Treasury regulations on certain designated U.S. exchanges and foreignexchanges that meet trading, listing, financial disclosure and otherrequirements to be treated as a qualified exchange.

 

If a U.S. Holder makes a mark-to-market election, the U.S. Holder willinclude each year as ordinary income, rather than capital gain, the excess, ifany, of the fair market value of the U.S. Holder’s ordinary shares at the endof the taxable year over such U.S. Holder’s adjusted basis in the ordinaryshares and will be permitted an ordinary loss in respect of the excess, if any,of the adjusted basis of these ordinary shares over their fair market value atthe end of the taxable year, but limited to the extent of the net amountpreviously included in income as a result of the mark-to-market election. AU.S. Holder’s basis in the ordinary shares will be adjusted to reflect any suchincome or loss amounts.

 

Furthermore, if we were a PFIC or, with respect to a particular U.S.Holder, were treated as a PFIC for the taxable year in which we paid a dividendor the prior taxable year, the favorable dividend rate with respect todividends paid to certain non-corporate U.S. Holders would not apply. If a U.S.Holder has held our ordinary shares at any time when we were a PFIC, such U.S.Holder must generally file an annual report with his or her federal income taxreturn.

 

**A U.S. Holder is urged to consult his or her taxadvisor concerning the U.S. federal income tax consequences of an investment inour ordinary shares under the passive foreign investment company rules.**

 

*Sale, exchange or other disposition of our ordinaryshares.* Subject to the application of the passive foreign investment companyrules, as discussed above, upon the sale, exchange or other disposition ofordinary shares, a U.S. Holder generally will recognize capital gain or lossequal to the difference between the amount realized upon the sale, exchange orother disposition and the adjusted tax basis of the U.S. Holder in the ordinaryshares. The capital gain or loss generally will be long-term capital gain orloss if, at the time of sale, exchange or other disposition, the U.S. Holderhas held the ordinary share for more than one year. Net long-term capital gainsof non-corporate U.S. Holders, including individuals, are eligible for reducedrates of taxation. The deductibility of capital losses is subject tolimitations.

 

Gains realized on the disposition of our ordinary shares could besubject to PRC withholding tax. Any gain or loss recognized by a U.S. Holder ona disposition of our ordinary shares will generally be treated as U.S.-sourceincome or loss for foreign tax credit limitation purposes. A U.S. Holder thatis eligible for the benefits of the Treaty may be able to elect to treatdisposition gain that is subject to PRC taxation as foreign-source gain andclaim a credit in respect of the tax. The rules governing foreign taxcredits are complex, and U.S. Holders should consult their tax advisersregarding the creditability of foreign taxes in their particular circumstances.

 

***Item 10H.              Documents on Display***

 

Thedocuments that are exhibits to or incorporated by reference in this annual reportcan be read at the U.S. Securities and Exchange Commission’s public referencefacilities at 100 F Street, N.E., Washington, DC 20549-2001 or on theCommission’s website: www.sec.gov.

 

***Item 10I.               Subsidiary Information***

 

Forinformation on the Company’s subsidiaries see Item 4C.  The separate financial statements of Blue Skyand Jia Huan, as required under Regulation S-X 210.3-09, entities in which theCompany owns a 20% equity interest are attached hereto.

 

**ITEM 11.             QUANTITATIVE AND QUALITATIVEDISCLOSURES ABOUT MARKET RISK**

 

TheCompany’s primary risk exposures arise from changes in interest rates andforeign currency exchanges rates. 

 

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*ForeignCurrency Risks*

 

The Company is exposed to risk from changing foreign currency exchangerates. The Company’s sales are denominated either in HK dollar or RMB. Themajority of the Company’s expenses and cost of revenue are denominated in HKdollars, followed by RMB, US dollars, Japanese yen and the Euro. The Company issubject to a variety of risks associated with changes among the relative valueof the US dollar, HK dollar, RMB, Japanese yen and the Euro. The Company doesnot currently adequately hedge its foreign exchange positions. Any materialincrease in the value of the HK dollar, RMB, Japanese yen and the Euro relativeto the US dollar would increase the Company’s expenses and cost of revenue andtherefore would have a material adverse effect on the Company’s business,financial condition and results of operations.

 

*Inflation*

 

TheCompany cannot accurately determine the precise effect of inflation on itsoperations, it does not believe inflation has had a material effect on sales orresults of operations during the past several years.  Efforts by the PRC to curb inflation may alsocurb economic growth, increase our overhead costs and adversely affect oursales.  If the PRC rate of inflationcontinues to increase, the Chinese government may introduce further measuresintended to reduce the inflation rate in the PRC.  Any such measuresadopted by the Chinese government may not be successful in reducing or slowingthe increase in the PRC’s inflation rate.  Sustained or increasedinflation in the PRC may have an adverse impact on the PRC’s economy and maymaterially and adversely affect our business and financial results.

 

TheCompany is currently not exposed to material future earnings or cash flowexposures from changes in interest rates on debt obligations as the Company hadno bank indebtedness in Fiscal 2009. The Company does not currently anticipateentering into interest rate swaps and/or similar instruments.

 

**PART II**

 

**ITEM15. CONTROLS AND PROCEDURES**

 

(a)          Evaluation ofDisclosure Controls and Procedures

 

OurChief Executive Officer and Chief Financial Officer has evaluated theeffectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and15d -15(e) under the Securities Exchange Act of 1934 (“Exchange Act”) asof the end of the period covered by this Annual Report on Form 20-F. Based on such evaluation, they have concluded that as of such date, ourdisclosure controls and procedures are effective and designed to ensure thatinformation required to be disclosed by us in reports that we file or submitunder the Exchange Act is recorded, processed, summarized and reported withinthe time periods specified in applicable Securities and Exchange Commission (“SEC”)rules and forms and they effectively ensure that information required tobe disclosed in our reports filed or submitted under the Exchange Act isaccumulated and communicated to our management, including, our Chief ExecutiveOfficer and Principal Financial Officer, allowing for timely decisionsregarding required disclosures.

 

(b)        Management’s AnnualReport on Internal Control over Financial Reporting

 

Ourmanagement, under the supervision of our Chief Executive Officer and ChiefFinancial Officer, is responsible for establishing and maintaining adequateinternal control over financial reporting as defined in Rule 13a-15(f) andRule 15d-15(f) of the Exchange Act.  Our internal control systemwas designed to provide reasonable assurance regarding the reliability offinancial reporting and the preparation and fair presentation of ourconsolidated financial statements for external purposes in accordance withgenerally accepted accounting principles.  Our Chief Executive Officer andChief Financial Officer assessed the effectiveness of our internal control overfinancial reporting as of December 31, 2009.  In making thisassessment, they used the criteria established in Internal Control-IntegratedFramework issued by the Committee of Sponsoring Organizations of the TreadwayCommission (“COSO”).  Based on this assessment, our Chief ExecutiveOfficer and Chief Financial Officer have concluded that, as of December 31,2009, our internal control over financial reporting is effective based on thosecriteria.  Notwithstanding the foregoing, all internal control systems, nomatter how well designed, have inherent limitations.  Therefore, eventhose systems determined to be effective may not prevent or detectmisstatements and can provide only reasonable assurance with respect tofinancial statement preparation and presentation.  Also, projections ofany evaluation of effectiveness to future periods are subject to the risk thatcontrols may become inadequate because of changes in conditions, or that thedegree of compliance with the policies or procedures may deteriorate.

 

(c)        Changes in InternalControls

 

Therewere no changes in our internal controls that occurred during the periodcovered by our annual report that has materially affected, or is reasonablylikely to materially affect our internal control over financial reporting.

 

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***Item 16A.               Audit Committee Financial Expert***

 

TheCommittee includes one non-employee director who meets the independence and “financialexpert” requirements and two other members who meet the independencerequirements of the NASDAQ listing standards and the rules and regulationsof U.S. Securities and Exchange Commission.  The Committee includesMessrs. Y.K. Liang, Ka Chong Cheang and Li Da Weng.  Mr. Y.K.Liang is the “financial expert” on that committee.

 

***Item 16B.               Code Of Ethics***

 

OurBoard of Directors has adopted a code of business conduct and ethics thatapplies to our directors, officers and employees, including certain provisionsthat specifically apply to our chief executive officer, chief financial officerand any other persons who perform similar functions for us.  The Companyagrees to undertake to provide to any person without charge, a copy of our codeof business conduct and ethics within ten working days after we receive suchperson’s written request.

 

***Item 16C.               Principal Accountant Fees AndServices***

 

Thefollowing table sets forth the aggregate fees by categories specified below inconnection with certain professional services rendered by BDO Limited who wereour principal external auditors, for 2009, 2008 and 2007.

 
| ** **            | ** ** | **For the Year Ended December, 31** | ** ** |
|-----------------------|------------|--------------------------------------------------------------|------------|
| ** **            | ** ** | **2009**                                                     | ** ** | **2008** | ** ** | **2007** | ** ** |
| ** **            | ** ** | **US$**                                                      | ** ** | **US$** | ** ** | **US$** | ** ** |
|                  |       |                                                         |       |   |   |   |   |
| Audit fees(1)         |       | 190,000                                                      |       | 154,000 |   | 189,000 |   |
| Audit-related fees(2) |       | Nil                                                          |       | Nil |   | 25,000 |   |
| Tax fees(3)           |       | 6,400                                                        |       | 3,800 |   | 8,100 |   |
| All other fees        |       | Nil                                                          |       | Nil |   | Nil |   |

 

OurAudit Committee has adopted a pre-approval policy for the engagement of ourindependent accountant to perform permitted audit and non-audit services. Underthis policy, which is designed to assure that such engagements do not impairthe independence of our auditors, the Audit Committee pre-approves annually arange of specific audit and non-audit services in the categories of Audit Service,Audit-Related Services, Tax Services and other services that may be performedby our independent accountants, and the maximum pre-approved fees that may bepaid as compensation for each pre-approved service in those categories. Anyproposed services exceeding the maximum pre-approved fees require specificapproval by the Audit Committee.

 

----

(1)            “Audit fees”means the aggregate fees billed in each of the fiscal years listed forprofessional services rendered by our principal auditors for the audit of ourannual financial statements.

 

(2)            “Audit-relatedfees” means the aggregate fees billed in each of the fiscal years listed forassurance and related services by our principal auditors that are reasonablyrelated to the performance of the audit or review of our financial statementsand are not reported under “Audit fees.” Services comprising the fees disclosedunder the category of “Audit-related fees” involve principally the performanceof certain agreed upon procedures for the years ended December 31, 2007,2008 and 2009, respectively.

 

(3)            “Tax fees”means the aggregated fees billed in each of the years listed for professionalservices rendered by our principal auditors for tax compliance, tax advice andtax planning.

 

***Item 16D.               Exemptions From Listing Standards***

 

TheCompany is a “Controlled Company” as defined in NASDAQ’s corporate governancerules as a majority of our shares are owned by a “control group”consisting of T.C. Leung, Pearl Venture Ltd. and Regent Earnings Limited, whohave disclosed their “control group” status in their filings with theCommission.  So long as that “controlled company” status remains ineffect, the Company will be exempt from certain of NASDAQ corporate governancerules that, including among other things, would require: (a) amajority of our directors be independent; (b) the compensation of ourchief executive officer be determined or recommended by independent directors;and (c) director nominations be determined or recommended by independentdirectors.

 

TheCompany believes it is in compliance with NASDAQ’s corporate governancerules as in effect and intends to comply with the changes to saidrules no later than the date that they become effective.

 

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***Item 16E.               Purchases of Equity Securities ByIssuer and Affiliated Purchasers.***

 

Duringthe following months in 2008 and 2009, T.C. Leung , our Chief ExecutiveOfficer and principal shareholder, either directly or through an entitybeneficially owned by him (Regent), purchased shares in the open market fromtime to time.

 

Asof May 31, 2010, the Company shares have been purchased by him at pricesranging from US$0.52 to US$1.04 with an average price per share of US$0.78 asmore particularly set forth below:

 
| **Period**                                       | ** ** | **(a)  Total Number of  Shares Purchased** | ** ** | **(b)  Average Price  Per Share** | ** ** |
|--------------------------------------------------|------------|------------------------------------------------------|------------|---------------------------------------------|------------|
|                                             |       |                                                 |       |                                        |       |
| November 1, 2008 to  November 30, 2008 |       | 1,300                                                |       | US$                                         | 0.95       |   |
|                                             |       |                                                 |       |                                        |       |
| December 1, 2008 to  December 31, 2008 |       | 1,100                                                |       | US$                                         | 0.91       |   |
|                                             |       |                                                 |       |                                        |       |
| January 1, 2009 to  January 31, 2009   |       | 2,900                                                |       | US$                                         | 1.00       |   |
|                                             |       |                                                 |       |                                        |       |
| February 1, 2009 to  February 28, 2009 |       | 2,000                                                |       | US$                                         | 0.52       |   |
|                                             |       |                                                 |       |                                        |       |
| March 1, 2009 to  March 31, 2009       |       | 500                                                  |       | US$                                         | 0.57       |   |

 

InNovember 2008, the Company adopted a program to repurchase up to 300,000of its issued and outstanding Ordinary Shares by December 31, 2009. Thisgave Euro Tech the ability to purchase the shares in the open market or throughnegotiated or block transactions from time to time based on market and businessconditions. Under this program, the Company had the ability to purchase itsOrdinary Shares in the open market or through negotiated or block transactionsfrom time to time based on market and business conditions until the end of2009.  As of July 31, 2009, 300,034of the Company’s Ordinary Shares have been purchased by the Company under thisprogram at prices ranging from US$0.45 to US$1.19 with an average price pershare of US$0.88 as more particularly described below:

 

November 2008 Buy Back Program

 
| **Period**                                       | ** ** | **(a) Total  Number of  Shares  Purchased** | ** ** | **(b) Average Price  Paid per Share** | ** ** | **(c) Total Number of  Shares Purchased as  Part of Publicly  Announced Plans or  Programs** | ** ** | **(d) Maximum  Number of Shares  that May Yet Be  Purchased Under the  Plans or Programs** | ** ** |
|--------------------------------------------------|------------|--------------------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------|------------|
| ** **                                       | ** ** | ** **                                       | ** ** | ** **                                 | ** ** | ** **                                                                                             | ** ** | ** **                                                                                           | ** ** |
| November 1, 2008 to  November 30, 2008 |       | 12,691                                           |       | US$                                        | 1.06       |                                                                                                   | 12,691     |                                                                                                 | 287,309    |   |
|                                             |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| December 1, 2008 to  December 31, 2008 |       | 28,350                                           |       | US$                                        | 1.08       |                                                                                                   | 28,350     |                                                                                                 | 258,959    |   |
|                                             |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| January 1, 2009 to  January 31, 2009   |       | 36,900                                           |       | US$                                        | 0.99       |                                                                                                   | 36,900     |                                                                                                 | 222,059    |   |
|                                             |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| February 1, 2009 to  February 28, 2009 |       | 41,090                                           |       | US$                                        | 0.62       |                                                                                                   | 41,090     |                                                                                                 | 180,969    |   |
|                                             |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| March 1, 2009 to  March 31, 2009       |       | 77,320                                           |       | US$                                        | 0.63       |                                                                                                   | 77,320     |                                                                                                 | 103,649    |   |
|                                             |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| April 1, 2009 to  April 30, 2009       |       | 36,183                                           |       | US$                                        | 0.98       |                                                                                                   | 36,183     |                                                                                                 | 67,466     |   |
|                                             |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| May 1, 2009 to  May 31, 2009           |       | 20,149                                           |       | US$                                        | 1.02       |                                                                                                   | 20,149     |                                                                                                 | 47,317     |   |

 

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| June 1, 2009 to  June 30, 2009 |   | 5,400  |   | US$    | 1.21   |   | 5,400  |   | 41,917 |   |
|------------------------------------------|--------|--------|--------|--------|--------|--------|--------|--------|--------|--------|
|                                     |   |   |   |   |   |   |   |   |   |
| July 1, 2009 to  July 31, 2009 |   | 41,951 |   | US$    | 1.09   |   | 41,951 |   | — |   |

 

InJuly 2009, the Company adopted another program to repurchase up to anadditional 300,000 of its issued and outstanding ordinary shares by July 31,2010.  As of May 31, 2010, 34,135 ofthe Company’s Ordinary Shares have been purchased by the Company under thisadditional program at prices ranging from US$0.86 to US$1.73 with an averageprice per share of US$1.39 as more particularly described below:

 

July 2009 Buy Back Program

 
| **Period**                                         | ** ** | **(a) Total  Number of  Shares  Purchased** | ** ** | **(b) Average Price  Paid per Share** | ** ** | **(c) Total Number of  Shares Purchased as  Part of Publicly  Announced Plans or  Programs** | ** ** | **(d) Maximum  Number of Shares  that May Yet Be  Purchased Under the  Plans or Programs** | ** ** |
|----------------------------------------------------|------------|--------------------------------------------------|------------|--------------------------------------------|------------|--------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------------------|------------|
|                                               |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| July 1, 2009 to  July 31, 2009           |       | 100                                              |       | US$                                        | 1.43       |                                                                                                   | 100        |                                                                                                 | 299,900    |   |
|                                               |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| August 1, 2009 to  August 31, 2009       |       | 13,500                                           |       | US$                                        | 1.27       |                                                                                                   | 13,500     |                                                                                                 | 286,400    |   |
|                                               |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| September 1, 2009 to  September 30, 2009 |       | 12,535                                           |       | US$                                        | 1.30       |                                                                                                   | 12,535     |                                                                                                 | 273,865    |   |
|                                               |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| October 1, 2009 to  October 31, 2009     |       | 500                                              |       | US$                                        | 1.57       |                                                                                                   | 500        |                                                                                                 | 273,365    |   |
|                                               |       |                                             |       |                                       |       |                                                                                                   |       |                                                                                                 |       |
| May 1, 2010 to  May 31, 2010             |       | 8,500                                            |       | US$                                        | 1.69       |                                                                                                   | 8,500      |                                                                                                 | 264,865    |   |

 

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**PART III**

 

**ITEM 18.****                                         ****FINANCIAL STATEMENTS**

 

Thefollowing financial statements are filed as part of this annual report onForm 20-F.

 
| Euro Tech Holdings Company Limited                                              |
|---------------------------------------------------------------------------------|
|                                                                            |
| Report of Independent Registered Public Accounting Firm                         |
|                                                                            |
| Consolidated balance sheets                                                     |
|                                                                            |
| Consolidated statements of income                                               |
|                                                                            |
| Consolidated statements of cash flows and changes in  shareholders’ equity |

 

 
| Zhejiang Jiahuan Electronic Company Limited              |
|----------------------------------------------------------|
|                                                     |
| Report of Independent Registered Public Accounting  Firm |
|                                                     |
| Consolidated balance sheet                               |
|                                                     |
| Consolidated statement of income,                        |
|                                                     |
| Cash flows and changes in shareholders’ equity      |

 

 
| Zhejiang Tianlan Environmental Protection Technology  Company Limited |
|-----------------------------------------------------------------------|
|                                                                  |
| Report of Independent Registered Public Accounting  Firm              |
|                                                                  |
| Consolidated balance sheets                                           |
|                                                                  |
| Consolidated statements of income,                                    |
|                                                                  |
| Cash flows and changes in shareholders’ equity                   |

 

**ITEM 19.****                                         ****EXHIBITS**

 

Lists of Exhibits

 
| **Exhibit No.** | ** ** | **Description**                                                                                                                                                                  |
|----------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                 |       |                                                                                                                                                                             |
| 1.1                  |       | Amended and Restated  Memorandum and Articles of Association (1)                                                                                                                 |
|                 |       |                                                                                                                                                                             |
| 1.2                  |       | Amendments to  Exhibit 3.1 adopted by shareholders on August 15, 2000 (3)                                                                                              |
|                 |       |                                                                                                                                                                             |
| 4.5                  |       | 2000 Officers and  Directors Stock Option and Incentive Plan (3)                                                                                                                 |
|                 |       |                                                                                                                                                                             |
| 4.6                  |       | 2000 Employees’ Stock  Option and Incentive Plan (3)                                                                                                                        |
|                 |       |                                                                                                                                                                             |
| 4.7                  |       | Equity Interest Transfer  Agreement between Tamworth Industrial Ltd. (“Tamworth”) and Registrant (4)                                                                   |
|                 |       |                                                                                                                                                                             |
| 4.8                  |       | Equity Interest Transfer  and Shareholders’ Agreement among Tamworth, Registrant and Pact Asia Pacific  Limited (4)                                                         |
|                 |       |                                                                                                                                                                             |
| 4.10                 |       | 2002 Officers and  Directors Stock Option Plan (6)                                                                                                                               |
|                 |       |                                                                                                                                                                             |
| 4.11                 |       | Registrant’s Audit  Committee Charter (7)                                                                                                                                   |
|                 |       |                                                                                                                                                                             |
| 4.12                 |       | 2007 Officers and  Directors Option Plan (8)                                                                                                                                     |
|                 |       |                                                                                                                                                                             |
| 8.1                  |       | List of Subsidiaries *                                                                                                                                                           |
|                 |       |                                                                                                                                                                             |
| 10.1                 |       | Share Sale and Purchase  Agreement between Tamworth Industrial Ltd. And Registrant’s subsidiary (5)                                                                         |
|                 |       |                                                                                                                                                                             |
| 10.2                 |       | Equity Interest Transfer  Agreement between Tamworth Industrial Ltd. And the Registrant’s subsidiary  (5)                                                                   |
|                 |       |                                                                                                                                                                             |
| 10.3                 |       | Share Transfer and  Subscription Agreement among Registrant’s subsidiary, Zhejiang Jia Huan  Limited (“Jia Huan”) and the Management Shareholders of Jia Huan (9) |

 

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| 10.4   |   | Share Subscription  Agreement among Registrant’s subsidiary, Zhejang Tianlan Limited (“Blue Sky”)  and the Management Shareholders of Blue Sky (9)   |
|--------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                |
| 12.1   |   | Certification of Chief  Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of  2002 *                                                         |
|   |   |                                                                                                                                                                |
| 12.2   |   | Certification of Chief  Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of  2002 *                                                         |
|   |   |                                                                                                                                                                |
| 13.1   |   | Certification of the Chief  Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant  to Section 906 of the Sarbanes-Oxley Act of 2002 *  |
|   |   |                                                                                                                                                                |
| 13.2   |   | Certification of the Chief  Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted  pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 * |

 

----

|    * |   | Filed Herewith                                                                                                                                                   |
|---------------------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                |   |                                                                                                                                                             |
| (1)                 |   | Incorporated by reference, previously filed as an  Exhibit to Registration Statement, SEC File No. 333-16277 and is  incorporated by reference herein. |
|                |   |                                                                                                                                                             |
| (2)                 |   | Incorporated by reference,  previously filed as an Exhibit to Registrant’s Report on Form 20-F  for its year ended December 31, 1999.        |
|                |   |                                                                                                                                                             |
| (3)                 |   | Incorporated by reference,  previously filed as an Exhibit to Registrant’s Report on Form 20-F  for its year ended December 31, 2000.        |
|                |   |                                                                                                                                                             |
| (4)                 |   | Incorporated by reference,  previously filed as an Exhibit to Registrant’s Report on Form 6-K  filed on February 11, 2002.                   |
|                |   |                                                                                                                                                             |
| (5)                 |   | Incorporated by reference,  previously filed as an Exhibit to Registrant’s Report on Form 6-K,  filed on December 8, 2005.                   |
|                |   |                                                                                                                                                             |
| (6)                 |   | Incorporated by reference,  previously filed as an Exhibit to Registrant’s Report on Form 6-K  filed on July 24, 2002.                       |
|                |   |                                                                                                                                                             |
| (7)                 |   | Incorporated by reference,  previously filed as an Exhibit to Registrant’s Report on Form 6-K  filed on August 19, 2002.                     |
|                |   |                                                                                                                                                             |
| (8)                 |   | Incorporated by reference,  previously filed as an Exhibit to Registrant’s Report on Form 6-K,  filed on August 14, 2007.                    |
|                |   |                                                                                                                                                             |
| (9)                 |   | Incorporated by reference,  previously filed as an Exhibit to Registrant’s Report on Form 20-F,  filed on June 28, 2008.                     |

 

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**SIGNATURES**

 

Pursuantto the requirements of Section 12 of the Securities Exchange Act of 1934,the registrant certifies that it meets all of the requirements for filing onForm 20-F and has duly caused this annual report to be signed on itsbehalf by the undersigned, thereunto duly authorized.

 

 
| ** **                | **EURO TECH HOLDINGS**                             |
|---------------------------|----------------------------------------------------|
| ** **                | **COMPANY LIMITED**                                |
| ** **                | (Registrant)                                       |
|                      |                                               |
|                      | /s/ T.C. Leung                                     |
|                      | T.C. Leung,                                        |
|                      | Chief Executive Officer  and Chairman of the Board |
|                      |                                               |
|                      |                                               |
| Dated: June 28, 2010 |                                               |

 

50

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**EURO TECH HOLDINGS COMPANYLIMITED**

 

**AUDITED CONSOLIDATED BALANCESHEETS**

 

**AS OF DECEMBER 31, 2009 AND 2008AND**

 

**CONSOLIDATED STATEMENTS OFINCOME,**

 

**CONSOLIDATED CASH FLOWS ANDCHANGES IN SHAREHOLDERS’ EQUITY**

 

**FOR THE YEARS ENDED DECEMBER 31,2009, 2008 AND 2007**

 

**TOGETHER WITH REPORT OFINDEPENDENT REGISTERED**

 

**PUBLIC ACCOUNTING FIRM**

 

F-1

----

Tableof Contents

 

**Report of Independent Registered Public Accounting Firm**

 

To the Board of Directors andshareholders of

Euro Tech Holdings CompanyLimited

 

We have audited theaccompanying consolidated balance sheets of Euro Tech Holdings Company Limitedas of December 31, 2009 and 2008 and the related consolidated statementsof income, shareholders’ equity and cash flows for each of the three years inthe period ended December 31, 2009. These financial statements are theresponsibility of the Company’s management. Our responsibility is to express anopinion on these financial statements based on our audits.

 

We conducted our audits inaccordance with standards of the Public Company Accounting Oversight Board (UnitedStates).  Those standards require that weplan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  The Company is not required to have, nor werewe engaged to perform, an audit of its internal control over financialreporting.  Our audits includedconsideration of internal control over financial reporting as a basis fordesigning audit procedures that are appropriate in the circumstances, but notfor the purpose of expressing an opinion on the effectiveness of the Company’sinternal control over financial reporting. Accordingly, we express no suchopinion. An auditalso includes examining, on a test basis, evidence supporting the amounts anddisclosures in the financial statements, assessing the accounting principlesused and significant estimates made by management, as well as evaluating theoverall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, the consolidatedfinancial statements referred to above present fairly, in all materialrespects, the consolidated financial position of Euro Tech Holdings CompanyLimited as of December 31, 2009 and 2008, and the results of itsoperations and its cash flows for each of the three years in the period ended December 31,2009, in conformity with accounting principles generally accepted in the UnitedStates of America.

 

 

/s/ BDO Limited

BDO Limited

 

Hong Kong, June 28, 2010

 

F-2

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Table of Contents

** **

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**CONSOLIDATED BALANCE SHEETS**

**AS OF DECEMBER 31, 2009 AND 2008**

 
| ** **                                                                                                                                             | ** ** | **Note**             | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------|------------|------------------|------------|------------------|------------|
| ** **                                                                                                                                             | ** ** | ** **           | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Assets                                                                                                                                                 |       |                 |       |             |       |             |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Current  assets:                                                                                                                                       |       |                 |       |             |       |             |       |
| Cash  and cash equivalents                                                                                                                             |       |                 |       | 7,025            |       | 7,146            |       |
| Restricted cash                                                                                                                                        |       |                 |       | 461              |       | 388              |       |
| Accounts  receivable, net                                                                                                                              |       | 6                    |       | 6,063            |       | 6,707            |       |
| Prepayments  and other current assets                                                                                                                  |       |                 |       | 618              |       | 1,041            |       |
| Inventories,  net                                                                                                                                      |       | 7                    |       | 1,347            |       | 2,600            |       |
| Taxation  recoverable                                                                                                                                  |       |                 |       | 1                |       | —           |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Total  current assets                                                                                                                                  |       |                 |       | 15,515           |       | 17,882           |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Property,  plant and equipment, net                                                                                                                    |       | 8 & 21(iii) |       | 1,412            |       | 1,513            |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Investments  in affiliates                                                                                                                             |       | 9                    |       | 8,067            |       | 7,679            |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Goodwill                                                                                                                                               |       | 12                   |       | 1,060            |       | 1,060            |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Deferred  tax assets                                                                                                                                   |       | 4                    |       | 190              |       | 144              |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Total  assets                                                                                                                                          |       |                 |       | 26,244           |       | 28,278           |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Liabilities  and shareholders’ equity                                                                                                             |       |                 |       |             |       |             |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Current  liabilities:                                                                                                                                  |       |                 |       |             |       |             |       |
| Accounts  payable                                                                                                                                      |       |                 |       | 3,884            |       | 5,838            |       |
| Other  payables and accrued expenses                                                                                                                   |       | 10                   |       | 2,835            |       | 2,844            |       |
| Taxation  payable                                                                                                                                      |       |                 |       | 593              |       | 617              |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Total  current liabilities                                                                                                                             |       |                 |       | 7,312            |       | 9,299            |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Commitments  and contingencies                                                                                                                         |       | 19                   |       | —           |       | —           |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Shareholders’  equity:                                                                                                                            |       |                 |       |             |       |             |       |
| Ordinary  share, par value US$0.01 each, 20,000,000 (2008: 20,000,000) shares authorized;  12,212,031 (2008: 12,202,031) shares issued and outstanding |       | 11                   |       | 122              |       | 122              |       |
| Additional  paid-in capital                                                                                                                            |       |                 |       | 9,501            |       | 9,495            |       |
| Treasury  stock, 667,320 (2008: 381,692) shares at cost                                                                                                |       | 13                   |       | (534             | )          | (281             | )          |
| PRC  statutory reserve                                                                                                                                 |       | 14                   |       | 222              |       | 200              |       |
| Accumulated  other comprehensive income                                                                                                                |       |                 |       | 487              |       | 478              |       |
| Retained  earnings                                                                                                                                     |       |                 |       | 6,989            |       | 6,979            |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Total Euro Tech  shareholders’ equity                                                                                                             |       |                 |       | 16,787           |       | 16,993           |       |
| Non-controlling  interest                                                                                                                              |       |                 |       | 2,145            |       | 1,986            |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Total  shareholders’ equity                                                                                                                       |       |                 |       | 18,932           |       | 18,979           |       |
|                                                                                                                                                   |       |                 |       |             |       |             |       |
| Total  liabilities and shareholders’ equity                                                                                                       |       |                 |       | 26,244           |       | 28,278           |       |

 

The accompanyingnotes are an integral part of these consolidated financial statements.

 

F-3

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**CONSOLIDATED STATEMENTS OF INCOME**

**FOR THE YEARS ENDED DECEMBER 31,2009****,****2008 AND 2007**

** **
| ** **                                                            | ** ** | **Note**              | ** ** | **2009**         | ** ** | **2008**         | ** ** | **2007**         | ** ** |
|-----------------------------------------------------------------------|------------|-----------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **                                                            | ** ** | ** **            | ** ** | **US$’000** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
| Revenues                                                              |       |                  |       |             |       |             |       |             |       |
| Trading and manufacturing                                             |       |                  |       | 18,326           |       | 21,439           |       | 20,010           |       |
| Engineering                                                           |       |                  |       | 9,010            |       | 10,299           |       | 7,220            |       |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Total revenues                                                        |       | 21(i) & (ii) |       | 27,336           |       | 31,738           |       | 27,230           |       |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Cost  of revenues                                                     |       |                  |       |             |       |             |       |             |       |
| Trading and manufacturing                                             |       |                  |       | (14,266          | )          | (16,618          | )          | (15,406          | )          |
| Engineering                                                           |       |                  |       | (6,610           | )          | (7,536           | )          | (4,992           | )          |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Total cost of revenues                                                |       |                  |       | (20,876          | )          | (24,154          | )          | (20,398          | )          |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Gross  profit                                                         |       |                  |       | 6,460            |       | 7,584            |       | 6,832            |       |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Selling  and administrative expenses                                  |       |                  |       | (6,608           | )          | (7,214           | )          | (6,566           | )          |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Operating  (loss)/ income                                             |       |                  |       | (148             | )          | 370              |       | 266              |       |
| Interest  income                                                      |       |                  |       | 37               |       | 45               |       | 256              |       |
| Other  income, net                                                    |       | 3                     |       | 71               |       | 145              |       | 142              |       |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| (Loss)/Income  before income taxes and equity in profit of affiliates |       |                  |       | (40              | )          | 560              |       | 664              |       |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Income  taxes                                                         |       | 4                     |       | (218             | )          | (321             | )          | (144             | )          |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Equity  in profit of affiliates                                       |       |                  |       | 595              |       | 273              |       | 247              |       |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Net  income for the year                                              |       |                  |       | 337              |       | 512              |       | 767              |       |
| Less:  net income attributable to non-controlling interest            |       |                  |       | (305             | )          | (363             | )          | (345             | )          |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Net  income attributable to the Company                               |       |                  |       | 32               |       | 149              |       | 422              |       |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Net  income per ordinary share                                        |       |                  |       |             |       |             |       |             |       |
| -  Basic                                                              |       |                  |       | US$              | 0.003      |             | US$        | 0.01             |       | US$ | 0.04 |   |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| -  Diluted                                                            |       |                  |       | US$              | 0.003      |             | US$        | 0.01             |       | US$ | 0.03 |   |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| Weighted  average number of ordinary shares outstanding               |       |                  |       |             |       |             |       |             |       |
| -  Basic                                                              |       | 5                     |       | 11,632,460       |       | 11,824,153       |       | 11,105,556       |       |
|                                                                  |       |                  |       |             |       |             |       |             |       |
| -  Diluted                                                            |       | 5                     |       | 11,896,537       |       | 12,212,058       |       | 12,095,335       |       |

 

The accompanyingnotes are an integral part of these consolidated financial statements.

 

F-4

----

Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**CONSOLIDATED STATEMENTS OF CASHFLOWS**

**FOR THE YEARS ENDED DECEMBER 31,2009, 2008 AND 2007**

 
| ** **                                                                                   | ** ** | **2009**             | ** ** | **2008**             | ** ** | **2007**             | ** ** |
|----------------------------------------------------------------------------------------------|------------|----------------------|------------|----------------------|------------|----------------------|------------|
| ** **                                                                                   | ** ** | **US$’000**     | ** ** | **US$’000**     | ** ** | **US$’000**     | ** ** |
| Cash flows from operating activities:                                                        |       |                 |       |                 |       |                 |       |
| Net income                                                                                   |       | 32                   |       | 149                  |       | 422                  |       |
| Adjustments to reconcile net income to net  cash provided by (used in) operating activities: |       |                 |       |                 |       |                 |       |
| Depreciation of property, plant and  equipment                                               |       | 202                  |       | 218                  |       | 232                  |       |
| Stock based  compensation expense                                                            |       | —               |       | 217                  |       | 148                  |       |
| Loss (Gain) on disposal of property, plant and  equipment                                    |       | 10                   |       | 1                    |       | (19                  | )          |
| Minority  interest in profits of subsidiaries                                                |       | 305                  |       | 363                  |       | 345                  |       |
| Equity in profit of affiliates                                                               |       | (595                 | )          | (273                 | )          | (247                 | )          |
| Deferred tax assets                                                                          |       | (46                  | )          | (10                  | )          | (96                  | )          |
| (Increase) decrease in current assets:                                                       |       |                 |       |                 |       |                 |       |
| Accounts receivable, net                                                                     |       | 644                  |       | (1,739               | )          | (54                  | )          |
| Prepayments and other current assets                                                         |       | 423                  |       | (129                 | )          | (189                 | )          |
| Inventories, net                                                                             |       | 1,253                |       | (588                 | )          | 16                   |       |
| Taxation recoverable                                                                         |       | (1                   | )          | 12                   |       | —               |       |
| Increase (decrease) in current liabilities:                                                  |       |                 |       |                 |       |                 |       |
| Accounts payable                                                                             |       | (1,954               | )          | 2,726                |       | (1,080               | )          |
| Other payables and accrued expenses                                                          |       | (9                   | )          | (400                 | )          | 896                  |       |
| Taxation payable                                                                             |       | (24                  | )          | 97                   |       | 75                   |       |
|                                                                                         |       |                 |       |                 |       |                 |       |
| Net cash provided by operating activities                                                    |       | 240                  |       | 644                  |       | 449                  |       |
|                                                                                         |       |                 |       |                 |       |                 |       |
| Cash flows from investing activities:                                                        |       |                 |       |                 |       |                 |       |
| Purchase of property, plant and equipment                                                    |       | (118                 | )          | (99                  | )          | (250                 | )          |
| Proceeds on  disposal of property, plant and equipment                                       |       | 7                    |       | —               |       | 43                   |       |
| Dividend  received from affiliates                                                           |       | 207                  |       | 294                  |       |                 |       |
| Investments in  affiliates                                                                   |       | —               |       | (3,302               | )          | (4,151               | )          |
| Restricted cash  for issuance of bank guarantees                                             |       | (73                  | )          | (56                  | )          | 83                   |       |
| Dividend paid to  non-controlling interest                                                   |       | (147                 | )          | —               |       | (140                 | )          |
|                                                                                         |       |                 |       |                 |       |                 |       |
| Net cash used in investing activities                                                        |       | (124                 | )          | (3,163               | )          | (4,415               | )          |
|                                                                                         |       |                 |       |                 |       |                 |       |
| Cash flows from financing activities:                                                        |       |                 |       |                 |       |                 |       |
| Issuance of  ordinary shares on exercise of options                                          |       | 6                    |       | 51                   |       | 3,720                |       |
| Purchase of  treasury stock                                                                  |       | (253                 | )          | (44                  | )          | —               |       |
| Cash from  issuance of registered capital in subsidiary to non-controlling interest          |       | —               |       | —               |       | 200                  |       |
|                                                                                         |       |                 |       |                 |       |                 |       |
| Net cash provided by financing activities                                                    |       | (247                 | )          | 7                    |       | 3,920                |       |
|                                                                                         |       |                 |       |                 |       |                 |       |
| Effect of exchange rate changes on cash and  cash equivalents                                |       | 10                   |       | 271                  |       | 273                  |       |
|                                                                                         |       |                 |       |                 |       |                 |       |
| Net (decrease)/increase in cash and cash equivalents                                         |       | (121                 | )          | (2,241               | )          | 227                  |       |
| Cash and cash equivalents, beginning of  year                                                |       | 7,146                |       | 9,387                |       | 9,160                |       |
|                                                                                         |       |                 |       |                 |       |                 |       |
| Cash and cash equivalents, end of year                                                       |       | 7,025                |       | 7,146                |       | 9,387                |       |
|                                                                                         |       |                 |       |                 |       |                 |       |
| ** **                                                                                   | ** ** | **US$****’000** | ** ** | **US$****’000** | ** ** | **US$****’000** | ** ** |
| Supplementary information                                                                    |       |                 |       |                 |       |                 |       |
| Interest received                                                                            |       | 37                   |       | 45                   |       | 256                  |       |
| Interest paid                                                                                |       | —               |       | —               |       | —               |       |
| Income taxes paid                                                                            |       | 289                  |       | 233                  |       | 166                  |       |
| Shares  surrendered for exercise of stock options                                            |       | —               |       | 73                   |       | 155                  |       |

 

As at December 31,2007 there was a final consideration of US$648,000 payable in relation to theacquisition of Zhejiang Tianlan Environmental Technology Co., Ltd.included in other payables and accrued expenses.

 

Theaccompanying notes are an integral part of these consolidated financialstatements.

 

F-5

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**CONSOLIDATED STATEMENTS OFCHANGES IN SHAREHOLDERS’ EQUITY**

**FOR THE YEARS ENDED DECEMBER 31,2009, 2008 AND 2007**

 
| ** **                                                            | ** ** | **Number of********Ordinary  share** | ** ** | **Ordinary  share** | ** ** | **Additional********paid-in********capital** | ** ** | **Treasury********stock** | ** ** | **Accumulated********other    comprehensive********income** | ** ** | **PRC  statutory  reserve** | ** ** | **Retained********earnings** | ** ** | **Non-  controlling   interest** | ** ** | **Total**        | ** ** |
|-----------------------------------------------------------------------|------------|--------------------------------------|------------|---------------------|------------|----------------------------------------------|------------|---------------------------|------------|-------------------------------------------------------------|------------|-----------------------------|------------|------------------------------|------------|----------------------------------|------------|------------------|------------|
| ** **                                                            | ** ** | ** **                           | ** ** | **US$’000**    | ** ** | **US$’000**                             | ** ** | **US$’000**          | ** ** | **US$’000**                                            | ** ** | **US$’000**            | ** ** | **US$’000**             | ** ** | **US$’000**                 | ** ** | **US$’000** | ** ** |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Balance as of January 1, 2007                                    |       | 9,375,192                            |       | 94                  |       | 5,387                                        |       | (237                      | )          | 69                                                          |       | 88                          |       | 6,522                        |       | 1,067                            |       | 12,990           |       |
| Net income                                                            |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | —                      |       | 422                          |       | 345                              |       | 767              |       |
| Other  comprehensive income: Foreign  exchange translation adjustment |       | —                               |       | —              |       | —                                       |       | —                    |       | 202                                                         |       | —                      |       | —                       |       | 273                              |       | 475              |       |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Total  comprehensive income                                           |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       | 1,242            |       |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Shares  surrendered for exercise of stock options                     |       | (45,537                              | )          | (1                  | )          | (154                                         | )          | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | (155             | )          |
| Exercise of  stock options                                            |       | 2,695,246                            |       | 27                  |       | 3,848                                        |       | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | 3,875            |       |
| Transfer of reserve                                                   |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | 77                          |       | (79                          | )          | —                           |       | (2               | )          |
| Stock-based  compensation expense                                     |       | —                               |       | —              |       | 148                                          |       | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | 148              |       |
| Dividend paid to  non-controlling interest                            |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | —                      |       | —                       |       | (140                             | )          | (140             | )          |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Balance as of  December 31, 2007                                 |       | 12,024,901                           |       | 120                 |       | 9,229                                        |       | (237                      | )          | 271                                                         |       | 165                         |       | 6,865                        |       | 1,545                            |       | 17,958           |       |
| Net income                                                            |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | —                      |       | 149                          |       | 363                              |       | 512              |       |
| Other  comprehensive income: Foreign  exchange translation adjustment |       | —                               |       | —              |       | —                                       |       | —                    |       | 207                                                         |       | —                      |       | —                       |       | 78                               |       | 285              |       |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Total  comprehensive income                                           |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       | 797              |       |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Purchase of  treasury stock                                           |       | —                               |       | —              |       | —                                       |       | (44                       | )          | —                                                      |       | —                      |       | —                       |       | —                           |       | (44              | )          |
| Shares  surrendered for exercise of stock options                     |       | (31,240                              | )          | —              |       | (73                                          | )          | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | (73              | )          |
| Exercise of  stock options                                            |       | 208,370                              |       | 2                   |       | 122                                          |       | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | 124              |       |
| Transfer of reserve                                                   |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | 35                          |       | (35                          | )          | —                           |       | —           |       |
| Stock-based  compensation expense                                     |       | —                               |       | —              |       | 217                                          |       | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | 217              |       |
| Dividend paid to  non-controlling interest                            |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | —           |       |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Balance as of  December 31, 2008                                 |       | 12,202,031                           |       | 122                 |       | 9,495                                        |       | (281                      | )          | 478                                                         |       | 200                         |       | 6,979                        |       | 1,986                            |       | 18,979           |       |
| Net income                                                            |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | —                      |       | 32                           |       | 305                              |       | 337              |       |
| Other  comprehensive income: Foreign  exchange translation adjustment |       | —                               |       | —              |       | —                                       |       | —                    |       | 9                                                           |       | —                      |       | —                       |       | 1                                |       | 10               |       |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Total comprehensive  income                                           |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       | 347              |       |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Purchase of treasury stock                                            |       | —                               |       | —              |       | —                                       |       | (253                      | )          | —                                                      |       | —                      |       | —                       |       | —                           |       | (253             | )          |
| Shares  surrendered for exercise of stock options                     |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | —           |       |
| Exercise of  stock options                                            |       | 10,000                               |       | —              |       | 6                                            |       | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | 6                |       |
| Transfer of reserve                                                   |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | 22                          |       | (22                          | )          | —                           |       | —           |       |
| Stock-based  compensation expense                                     |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | —                      |       | —                       |       | —                           |       | —           |       |
| Dividend paid to  non-controlling interest                            |       | —                               |       | —              |       | —                                       |       | —                    |       | —                                                      |       | —                      |       | —                       |       | (147                             | )          | (147             | )          |
|                                                                  |       |                                 |       |                |       |                                         |       |                      |       |                                                        |       |                        |       |                         |       |                             |       |             |       |
| Balance as of  December 31, 2009                                 |       | 12,212,031                           |       | 122                 |       | 9,501                                        |       | (534                      | )          | 487                                                         |       | 222                         |       | 6,989                        |       | 2,145                            |       | 18,932           |       |

 

Theaccompanying notes are an integral part of these consolidated financialstatements.

 

F-6

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATED FINANCIALSTATEMENTS**

 

**1****                                        ****Organization and principalactivities**

 

EuroTech Holdings Company Limited (the “Company”) was incorporated in the BritishVirgin Islands on September 30, 1996.

 

EuroTech (Far East) Limited (“Far East”) is the principal operating subsidiary ofthe Company.  It is principally engagedin the marketing and trading of water and waste water related process control,analytical and testing instruments, disinfection equipment, supplies andrelated automation systems in Hong Kong and in the People’s Republic of China(the “PRC”).

 

Detailsof the Company’s significant subsidiaries and affiliates are summarized asfollows:

 
| **Name**                                                      | ** ** | **Percentage of  equity  ownership** | ** ** | **Place of  incorporation** | ** ** | **Principal activities**                                                                                                                                                      |
|---------------------------------------------------------------|------------|--------------------------------------|------------|-----------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                          |       |                                 |       |                        |       |                                                                                                                                                                          |
| Subsidiaries:                                                 |       |                                 |       |                        |       |                                                                                                                                                                          |
|                                                          |       |                                 |       |                        |       |                                                                                                                                                                          |
| Euro Tech (Far East) Limited                                  |       | 100%                                 |       | Hong Kong                   |       | Marketing and trading of water and waste  water related process control, analytical and testing instruments,  disinfection equipment, supplies and related automation systems |
|                                                          |       |                                 |       |                        |       |                                                                                                                                                                          |
| Euro Tech (China) Limited                                     |       | 100%                                 |       | Hong Kong                   |       | Inactive                                                                                                                                                                      |
|                                                          |       |                                 |       |                        |       |                                                                                                                                                                          |
| ChinaH2O.com Limited                                          |       | 100%                                 |       | Hong Kong                   |       | Internet content provider and provision of  marketing services for environmental industry to the Company and  its subsidiaries                                                |
|                                                          |       |                                 |       |                        |       |                                                                                                                                                                          |
| Euro Tech Trading (Shanghai) Limited                          |       | 100%                                 |       | The PRC                     |       | Marketing and trading of water and waste  water related process control, analytical and testing instruments,  disinfection equipment, supplies and related automation systems |
|                                                          |       |                                 |       |                        |       |                                                                                                                                                                          |
| Shanghai Euro Tech Limited                                    |       | 100%                                 |       | The PRC                     |       | Manufacturing of analytical and testing  equipment                                                                                                                            |
|                                                          |       |                                 |       |                        |       |                                                                                                                                                                          |
| Shanghai Euro Tech Environmental  Engineering Company Limited |       | 100%                                 |       | The PRC                     |       | Undertaking water and waste-water treatment engineering  projects                                                                                                             |
|                                                          |       |                                 |       |                        |       |                                                                                                                                                                          |
| Chongqing Euro Tech Rizhi Technology Co., Ltd                 |       | 100%                                 |       | The PRC                     |       | Marketing and trading of water and waste  water related process control, analytical and testing instruments, disinfection  equipment, supplies and related automation systems |

 

F-7

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Table of Contents

** **

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**1****                                        ****Organization and principalactivities****(Continued)**

 
| **Name**                                                                                                                                            | ** ** | **Percentage of  equity  ownership** | ** ** | **Place of  incorporation** | ** ** | **Principal activities**                                                                                                                                                  |
|-----------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------|------------|----------------------------------|------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                                |       |                                      |       |                             |       |                                                                                                                                                                           |
| Rizhi Euro Tech Instrument (Shaanxi) Co., Ltd                                                                                                       |       | 100%                                      |       | The PRC                          |       | Marketing and trading of water and waste  water related process control, analytical and testing instruments,  disinfection equipment, supplies and related automation systems  |
|                                                                                                                                                |       |                                      |       |                             |       |                                                                                                                                                                           |
| Guangzhou Euro Tech Environmental  Equipment Co., Ltd                                                                                               |       | 100%                                      |       | The PRC                          |       | Marketing  and trading of water and waste water related process control, analytical and  testing instruments, disinfection equipment, supplies and related automation  systems |
|                                                                                                                                                |       |                                      |       |                             |       |                                                                                                                                                                           |
| Yixing  Pact Environmental Technology Co., Ltd                                                                                                      |       | 51%                                       |       | The PRC                          |       | Design,  manufacturing and operation of water and waste water treatment machinery and  equipment                                                                               |
|                                                                                                                                                |       |                                      |       |                             |       |                                                                                                                                                                           |
| Pact  Asia Pacific Limited                                                                                                                          |       | 51%                                       |       | The British Virgin Islands       |       | Producing  and selling of environment protection equipment, undertaking environment  protection projects and providing relevant technology advice, training and  services      |
|                                                                                                                                                |       |                                      |       |                             |       |                                                                                                                                                                           |
| Affiliates:                                                                                                                                         |       |                                      |       |                             |       |                                                                                                                                                                           |
|                                                                                                                                                |       |                                      |       |                             |       |                                                                                                                                                                           |
| Zhejiang Tianlan Environmental Protection  Technology Co. Ltd. (Formerly known as Zhejiang Tianlan Desulfurization and  Dust—Removal Co. Ltd.) |       | 20%*                                      |       | The PRC                          |       | Design, general contract, equipment  manufacturing, installation, testing and operation management of the  treatment of waste gases emitted                                    |
|                                                                                                                                                |       |                                      |       |                             |       |                                                                                                                                                                           |
| Zhejaing Jia Huan Electronic Co. Ltd.                                                                                                               |       | 20%**                                     |       | The PRC                          |       | Design and manufacturing automatic control systems and electric  voltage control equipment for electrostatic precipitators (air purification equipment)                        |

 

----

* In the year 2007, the Company acquired 20% equity interest of thiscompany.

 

** In the year 2008, the Company acquired 20% equity interest of thiscompany.

 

F-8

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****                                        ****Summary of significant accountingpolicies**

 

**(a)****                             ****Basis of Consolidation**

 

The consolidatedfinancial statements include the accounts of Euro Tech Holdings Company Limitedand its subsidiaries (the “Group”).  Thefinancial statements of variable interest entities (“VIEs”), as defined by the Financial AccountingStandards Board (“FASB”) AccountingStandards Codification (“ASC”) Subtopic 810-10, Consolidation(previously FASB Interpretation No. 46 (R), “Consolidationof Variable Interest Entities”), are included in the consolidated financial statements, if applicable.

 

The Group identifiedthat certain retail shops established in the PRC qualified as variable interestentities as defined in ASC 810-10.  Theretail shops are principally engaged in the retailing business of water andwaste water related process control, analytical and testing instruments,disinfection equipment, supplies and related automation systems.  The Company is the primary beneficiary ofthese retail shops and, accordingly, consolidated their financial statementseffective December 31, 2004.  TheCompany has a controlling financial interest in these retail shops and issubject to a majority of the risk of loss from the retailing activities, and isentitled to receive a majority of the retail shops’ residual returns.  Total assets and liabilities of theseconsolidated VIEs total US$90,805 and US$33,952,as of December 31, 2009 andUS$107,386 andUS$66,412, as of December 31,2008, respectively.  The cumulative losses on consolidating these VIEs in the Group’sconsolidated statement of income in 2009 were US$43,534 (2008: losses ofUS$41,443 and 2007: profits of US$17,638),including taxes of US$2,432 (2008: US$3,126 and 2007: US$11,118).  Theassets of the entities consist mainly of cash and bank balances, trade andother receivables, inventories and property, plant and equipment.   The creditors of these entities do not haverecourse to the general credit of the Group. The Group will provide all of the needed financingfor the VIEs.

 

Investments inbusiness entities in which the Company does not have control, but has theability to exercise significant influence over operating and financial policies(generally 20-50 percent ownership), are accounted for using the equity methodof accounting.  All material intercompanybalances and transactions have been eliminated on consolidation.

 

**(b)****                             ****Subsidiaries**

 

A subsidiary is acompany in which the Company holds, directly or indirectly, more than 50% ofits outstanding voting share capital and over which it is able to exercisecontrol.

 

**(c)****                             ****Revenue Recognition**

 

The Group’s mainsource of revenue is the sale of water and waste water related process control,analytical and testing instruments, disinfection equipment, supplies andrelated automation systems. The Company recognizes revenue when the product isdelivered and the title is transferred. For certain products where installation is necessary, revenue isrecognized upon completion of installation. Revenue earned from customersupport services, which represents a minor percentage of total revenues, isrecognized when such services are provided.

 

F-9

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****                                        ****Summary of significant accountingpolicies (Continued)**

 

**(c)****                             ****Revenue Recognition (Continued)**

 

Revenuesand profits in long term fixed price contracts or the engineering income are recorded under the percentage ofcompletion methodinaccordance with FASB ASC Subtopic 605-35, Revenue Recognition —Construction-Type and Production-Type Contracts, (previously Statement of Position (“SOP”) 81-1,“Accounting for Performance of Construction-Type and Certain Production-TypeContracts”).Thisapproach relies on estimates of total expected direct costs at completion,which are compared to actual direct costs incurred to date to arrive at anestimate of revenue and profit earned to date. Recognized revenue and profit are subject to revisions as the contractprogresses to completion.  Revisions toprofit estimates are reflected in income in the period in which the facts thatgive rise to the revision become known. For any contract where it is identified that aloss will be incurred, the full loss will be recognized immediately.

 

**(d)****                             ****Research and Development Costs**

 

Researchand development costs (“R&D” costs) are expensed as incurred.  The R&D costs amounted to approximatelyUS$99,000, US$89,000 and US$47,000for the years ended December 31,2009, 2008 and 2007 respectively and were included in “Selling andAdministrative” expenses****in the Group’sconsolidated statement of income.

 

**(e)****                             ****Advertising and promotionalexpenses**

 

Advertisingand promotional expenses (“A&P” expenses) are expensed as incurred.  The A&P expenses amounted toapproximately US$64,000,US$40,000 and US$78,000 for the years December 31, 2009, 2008and 2007 respectively and were included in “Selling and Administrative”expenses****in the Group’s consolidated statementof income.

 

**(f)****                               ****Taxation**

 

TheGroup accounts for income and deferred tax under the provision of FASB ASCSubtopic 740-10, Income Taxes, (previously Statementof Financial Accounting Standards (“SFAS”) No. 109: “Accounting for IncomeTaxes”), under which deferred taxes are recognized for all temporarydifferences between the applicable tax balance sheets and the consolidatedbalance sheet.  Deferred tax assets andliabilities are recognized for the estimated future tax consequencesattributable to differences between the financial statement carrying amounts ofexisting assets and liabilities and their respective tax bases.  ASC 740-10 also requires the recognition ofthe future tax benefits of net operating loss carry forwards.  A valuation allowance is established when thedeferred tax assets are not expected to be realized within a reasonable periodof time.

 

Inaccordance with ASC 740-10, the Company recognizes tax benefits that satisfy agreater than 50% probability threshold and provides for the estimated impact ofinterest and penalties for such tax benefits. The Company did not have such uncertain taxpositions in 2009, 2008 and 2007.

 

Deferredtax assets and liabilities are measured using the enacted tax rates expected tobe applicable for taxable income in the years in which temporary differencesare expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in taxrates is recognized in income for the period that includes the enactment date.

 

Note4 shows the applicable tax rates for individual subsidiary and variableinterest entities, as well as the major temporary differences so recorded.

 

F-10

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****                                        ****Summary of significant accountingpolicies (Continued)**

 

**(g)****                            ****Cash and Cash Equivalents**

 

Cashand cash equivalents include cash on hand and demanddeposits with banks.

 

**(h)****                            ****Receivables and Other Assets**

 

Receivablesand other assets are recorded at their nominal values.  Doubtful debt allowances are provided foridentified individual risks for these line items.  If the loss of a certain part of thereceivables is probable, doubtful debt allowances are provided to cover theexpected loss. Receivablesare writtenoff against the allowance after all means of collection have been exhausted andthe potential for recovery is considered remote.

 

**(i)****                               ****Inventories**

 

Inventoriesare stated at the lower of cost, on the first-in, first-out method, or market value. Costs include purchase and related costs incurred in bringing eachproduct to its present location and condition. Marketvalue is calculated based on the estimated normal selling price, less furthercosts expected to be incurred for disposal. Provision is made for obsolete, slow moving or defective items, whereappropriate.

 

**(j)****                               ****Property, Plant and Equipment**

 

Property,plant and equipment are stated at cost less accumulated depreciation. Gains orlosses on disposal are reflected in current operations.  Major expenditures for betterments andrenewals are capitalized.  All ordinaryrepair and maintenance costs are expensed as incurred.  Depreciation of property, plant and equipmentis computed using the straight-line method over the assets’ estimated usefullives as follows:

 
| Office  premises                          |   | 47 to 51  years                                                 |
|-------------------------------------------|--------|-----------------------------------------------------------------|
| Leasehold  improvements                   |   | over terms  of the leases or the useful lives whichever is less |
| Furniture,  fixtures and office equipment |   | 3 to 5 years                                                    |
| Motor  vehicles                           |   | 4 years                                                         |
| Testing  equipment                        |   | 3 years                                                         |

 

**(k)****                           ****Impairment**

 

TheGroup has adopted FASB ASC Subtopic 360-10, Property, Plant, and Equipment, (previously SFAS No. 144: “Accounting for Impairmentor Disposal of Long-Lived Assets”) which requires impairment losses to berecorded for property, plant and equipment to be held and used in operationswhen indicators of impairment are present. Reviews are regularly performed to determine whether the carrying valueof assets is impaired.  The Groupdetermines the existence of such impairment by measuring the expected futurecash flows (undiscounted and without interest charges) and comparing suchamount to the carrying amount of the assets. An impairment loss, if one exists, is then measured as the amount bywhich the carrying amount of the asset exceeds the discounted estimated futurecash flows. Assets to be disposed of are reported at the lower of the carryingamount or fair value of such assets less costs to sell.  Asset impairment charges are recorded toreduce the carrying amount of the long-lived asset that will be sold ordisposed of to their estimated fair values. Charges for the asset impairmentreduce the carrying amount of the long-lived assets to their estimated salvagevalue in connection with the decision to dispose of such assets. There were noimpairment losses recorded during each of the three years ended December 31,2009.

 

F-11

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****                                        ****Summary of significant accountingpolicies (Continued)**

 

**(l)****                               ****Operating Leases**

 

Leaseswhere substantially all the risks and rewards of ownership of the leased assetsremain with the lessors are accounted for as operating leases.  Rental payments under operating leases arecharged to expense on the straight-line basis over the period of the relevantleases.

 

**(m)****                         ****Goodwill**

 

The Group has adoptedFASB ASC Subtopic 350-10, Intangibles — Goodwill and Other (previously SFAS No.142: “Goodwill and other intangibleassets”) which assess the possible impairment of goodwill existing at the dateof adoption and perform a subsequent impairment test on an annual basis.

 

**(n)****                            ****Foreign Currency Translation**

 

TheCompany maintains its books and records in United States dollars.  Its subsidiaries and affiliates maintaintheir books and records either in Hong Kong dollars or Chinese Renminbi (“functionalcurrencies”).  Foreign currencytransactions during the year are translated into the respective functionalcurrencies at the applicable rates of exchange at the dates of thetransactions.  Monetary assets andliabilities denominated in foreign currencies are translated into therespective functional currencies using the exchange rates prevailing at thebalance sheet dates.  Gains or lossesfrom foreign currency transactions are recognized in the consolidatedstatements of income during the year in which they occur.  Translation adjustments on subsidiaries’equity are included as  accumulatedcomprehensive income or loss.

 

**(o)****                             ****Derivative Instruments andHedging Activities**

 

FASBASC Subtopic 815-10, Derivates and Hedging, (previously SFASNo. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS133”), as amended by SFAS No. 137, “Accounting for Derivative Instrumentsand Hedging Activities — Deferral of the Effective Date of FASB Statement No. 133— an amendment of FASB Statement No. 133”, and SFAS No. 138, “Accountingfor Certain Derivative Instruments and Certain Hedging Activities — anamendment of FASB Statement No. 133”, as well as the interpretations ofthe Derivatives Implementation Group (“DIG”), are applied as amended by SFAS No. 149,“Amendment of Statement 133 on Derivative Instruments and Hedging Activities”).  ASC 815-10 contains accounting and reportingstandards for hedging accounting and for derivative financial instruments,including certain derivative financial instruments embedded in other contracts.

 

ASC815-10 requires that all derivatives be recognized as either assets orliabilities in the consolidated balance sheet and measured at fair value.  Depending on the documented designation of aderivative instrument, any change in fair value is recognized either in netincome or shareholders’ equity (as a component of accumulated othercomprehensive income).

 

Fairvalues of derivative instruments are classified as operating assets orliabilities.  Changes in fair value ofderivative instruments affecting income are classified as other operatingincome or expenses.  Please see note 17 for additional information regarding theCompany’s use of derivative instruments.

 

F-12

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****                                        ****Summary of significant accountingpolicies (Continued)**

 

**(p)****                                 ****Comprehensive Income**

 

TheGroup has adopted FASB ASC Subtopic 220-10, Comprehensive Income, (previously SFAS No. 130:  “Reporting Comprehensive Income,”) whichrequires the Group to report all changes in equity during a period, except forthose resulting from investment by owners and distribution to owners, in thefinancial statements for the period in which they are recognized.  The Group has presented comprehensive income,which encompasses net income and foreign currency translation adjustments, inthe consolidated statement of changes in shareholders’ equity.

 

**(q)****                             ****Ordinary Share**

 

Ordinaryshare refers to the $0.01par value capital stock as designated in the Company’s Certificate ofIncorporation.  Treasury stock isaccounted for using the cost method. When treasury stock is reissued, the value is computed and recordedusing a weighted-average basis.

 

**(r)****                             ****Net income per****Ordinary****Share**

 

Netincome per ordinaryshare is computed in accordance with FASB ASC Subtopic 260-10, Earnings PerShare, (previously SFASNo. 128 “Earnings Per Share”), by dividing the net income by the weightedaverage number of shares of ordinary share outstanding during the period.  The Company reports both basic earnings pershare, which is based on the weighted average number of ordinary shares outstanding, and diluted earnings pershare, which is based on the weighted average number of ordinary shares outstanding and all dilutivepotential ordinaryshares outstanding.  Outstanding stockoptions are the only dilutive potential shares of the Company.

 

**(s)****                             ****Stock-based Compensation**

 

The Group adopted the provisions of FASB ASCSubtopic 718-10, Compensation — Stock Compensation), (previously SFAS No. 123(revised 2004) (SFAS No. 123(R)), Share-Based Payment) which requires theGroup to recognize expense related to the fair value of our stock-basedcompensation awards, including employee stock options.

 

**(t)****                                   ****Use of Estimates**

 

Thepreparation of consolidated financial statements in conformity with accountingprinciples generally accepted in the United States of America (“GAAP”) requiresmanagement to make estimates and assumptions that affect the amounts that arereported in the consolidated financial statements and accompanyingdisclosures.  Although these estimatesare based on management’s best knowledge of current events and actions that theCompany may undertake in the future, actual results may be different from theestimates.

 

F-13

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****                                        ****Summary of significant accountingpolicies (Continued)**

 

**(u)**                             **Related Parties**

 

Entitiesare considered to be related to the Group if the parties, directly orindirectly, through one or more intermediaries, control, are controlled by, orare under common control with the Group. Related parties also include principal owners of the Group, itsmanagement, members of the immediate families of principal owners of the Groupand its management and other parties with which the Group may deal if one partycontrols or can significantly influence the management or operating policies ofthe other to an extent that one of the transacting parties might be prevented fromfully pursuing its own separate interests. A party which can significantly influence the management or operatingpolicies of the transacting parties or if it has an ownership interest in oneof the transacting parties and can significantly influence the other to anextent that one or more of the transacting parties might be prevented fromfully pursuing its own separate interests is also a related party.

 

**(v)**                               **Segment Information**

 

TheCompany’s segment reporting is prepared in accordance with FASB ASC Subtopic280-10, Segment Reporting, (previously SFASNo. 131, “Disclosures about Segments of an Enterprise and RelatedInformation”).  The management approachrequired by ASC 280-10 designates that the internal reporting structure that isused by management for making operating decisions and assessing performanceshould be used as the source for presenting the Company’s reportablesegments.  The Company categorizes itsoperations into two business segments: Trading and manufacturing, and Engineering.

 

**(w)**                            **Recent Accounting Pronouncements**

 

In May 2009, the FASB issued SFAS No. 165,Subsequent Events (nowcodified within ASC 855-10, *SubsequentEvents*(“ASC 855-10”)).  ASC 855-10 provides general standards of accounting for anddisclosure of events that occur after the balance sheet date but beforefinancial statements are issued or are available to be issued. ASC 855-10 is applicable for interim or annual periods after June 15,2009.  In January 2010, the FASBissued Accounting Standards Update (“ASU”) No. 2010-09, “Subsequent Events”,which is codified as ASC 855, “Amendments to Certain Recognition and DisclosureRequirements”. This update amends the ASC855-10, to replace the term “publicentity” with the term “an SEC filer”, in order to avoid potential conflict withsome of the Securities and Exchange Commission’s (SEC) guidance. All of theamendments in this update are effective immediately. The application of ASC 855 did nothave a material effect on the Company’sconsolidated financial statements.

 

InJune 2009, the FASB issued SFAS No. 168, “The FASB Accounting Standards Codification and theHierarchy of Generally Accepted Accounting Principles”, (nowcodified within ASC 105, GenerallyAccepted Accounting Principles). ASC 105 establishes the Codification asthe single source of authoritative GAAP recognized by the FASB to be applied bynongovernmental entities. All guidance contained in the Codification carries anequal level of authority. Following this statement, FASB will not issue newstandards in the form of statements, FASB Staff Positions, or Emerging IssuesTask Force Abstracts. Instead, it will issue Accounting Standards Updates,which will serve only to: (1) update the Codification; (2) providebackground information about the guidance; and (3) provide the bases forconclusions on the change(s) in the Codification. ASC 105 was effectivefor financial statements issued for interim and annual periods ending afterSeptember 15, 2009. The Codification supersedes all existing non-SECaccounting and reporting standards. The adoption of ASC 105 did not have animpact on the Company’s consolidated results of operations or financialposition.

 

F-14

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****                                        ****Summary of significant accountingpolicies (Continued)**

 

**(w)**                                **Recent Accounting Pronouncements****(Continued)**

 

In August 2009, FASB issued ASU 2009-5 Fair Value Measurements and Disclosures(Topic 820) Measuring Liabilities at Fair Value (“ASU 2009-5”). ASU2009-5 provides amendments to Subtopic 820-10, Fair Value Measurements and Disclosures-Overall, for the fairvalue measurement of liabilities. ASU 2009-5 clarifies that in circumstances inwhich a quoted price in an active market for the identical liability is notavailable, a reporting entity is required to measure fair value. ASU 2009-5 waseffective for the Company for interim and annual periods ending afterSeptember 30, 2009. The adoption of ASU 2009-5 did not have a materialimpact on the Company’s consolidated results of operations or financialposition.

 

InDecember 2009, FASB issued ASU 2009-17 Consolidations (Topic 810) Improvements to Financial Reporting byEnterprises Involved with Variable Interest Entities (“ASU 2009-17”).ASU 2009-17 amends the FASB ASC for the issuance of FASB StatementNo. 167, Amendments to FASBInterpretation No. 46(R) . The amendments in ASU 2009-17replace the quantitative-based risks and rewards calculation for determiningwhich enterprise, if any, has a controlling financial interest in a variableinterest entity with an approach focused on identifying which enterprise hasthe power to direct the activities of a variable interest entity that mostsignificantly impact the entity’s economic performance and (1) theobligation to absorb losses of the entity or (2) the right to receivebenefits from the entity. ASU 2009-17 also requires additional disclosuresabout an enterprise’s involvement in variable interest entities. ASU 2009-17 iseffective as of the beginning of each reporting entity’s first annual reportingperiod that begins after November 15, 2009. The Company does not expectthe adoption of ASU 2009-17 to have a material impact on its consolidatedresults of operations or financial position.

 

InJanuary 2010, FASB issued ASU 2010-01, Entity, which is codified asASC505, “Accounting for Distributions to Shareholders with Components of Stockand Cash (A Consensus of the FASB Emerging Issues Task Force)”. The amendmentsin this Update clarify that the stock portion of a distribution to shareholdersthat allow them to elect to receive cash or shares with a potential limitationon the total amount of cash that all shareholders can elect to receive in theaggregate is considered a share issuance thus eliminating the diversity inpractice. The amendments in this Update are effective for interim and annualperiods ending on or after December 15, 2009, and should be applied on aretrospective basis. The application of ASC 505 did not have a material effect onthe Company’sconsolidated financial statements.

 

InJanuary 2010, FASB issued ASU 2010-02 Accounting and Reporting for Decreases in Ownership of a Subsidiary- aScope Clarification (“ASU 2010-2”). ASU 2010-2 addresses implementationissues related to the changes in ownership provisions in theConsolidation—Overall Subtopic (Subtopic 810-10) of the FASB Accounting Standards Codification , originally issued asFASB Statement No. 160, NoncontrollingInterests in Consolidated Financial Statements. Subtopic 810-10establishes the accounting and reporting guidance for noncontrolling interestsand changes in ownership interests of a subsidiary. An entity is required todeconsolidate a subsidiary when the entity ceases to have a controllingfinancial interest in the subsidiary. Upon deconsolidation of a subsidiary, anentity recognizes a gain or loss on the transaction and measures any retainedinvestment in the subsidiary at fair value. The gain or loss includes any gainor loss associated with the difference between the fair value of the retainedinvestment in the subsidiary and its carrying amount at the date the subsidiaryis deconsolidated. In contrast, an entity is required to account for a decreasein ownership interest of a subsidiary that does not result in a change ofcontrol of the subsidiary as an equity transaction. ASU 2010-2 is effective forthe Company starting January 1, 2010. The Company does not expect the adoptionof ASU 2010-2 to have a material impact on the Company’s consolidated resultsof operations or financial position.

 

F-15

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

In January 2010,FASB issued ASU 2010-6 ImprovingDisclosures about Fair Measurements (“ASU 2010-6”). ASU 2010-6 providesamendments to subtopic 820-10 that require separate disclosure of significanttransfers in and out of Level 1 and Level 2 fair value measurements and thepresentation of separate information regarding purchases, sales, issuances andsettlements for Level 3 fair value measurements. Additionally, ASU 2010-6provides amendments to subtopic 820-10 that clarify existing disclosures aboutthe level of disaggregation and inputs and valuation techniques. ASU 2010-6 iseffective for financial statements issued for interim and annual periods endingafter December 15, 2010. The Company does not expect the adoption of ASU2010-06 to have a material impact on its consolidated results of operations orfinancial position.

 

**3****             ****Other income, net**

 
| ** **         | ** ** | **2009**         | ** ** | **2008**         | ** ** | **200****7**     | ** ** |
|--------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **         | ** ** | **US$’000** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|               |       |             |       |             |       |             |       |
| Exchange gain, net |       | 47               |       | 120              |       | 104              |       |
| Rental income      |       | 24               |       | 25               |       | 38               |       |
|               |       | 71               |       | 145              |       | 142              |       |

 

**4****             ****Income taxes**

 

The Company is exemptfrom taxation in the British Virgin Islands.

 

Euro Tech (Far East)Limited, Euro Tech (China) Limited and ChinaH2O.com Limited provided for HongKong profits tax at a rate of 16.5%in year 2009 (2008: 16.5%, 2007: 17.5%) on the basis of their income for financialreporting purposes, adjusting for income and expense items which are notassessable or deductible for profits tax purposes.

 

Euro Tech Trading(Shanghai) Limited, a subsidiary of the Company, provides for PRC EnterpriseIncome Tax at a rate of 20% (2008: 18%, 2007: 15%) (a rate currently levied by the Pudong local TaxBureau despite the rate National Tax Bureau of 25%),after offsetting losses brought forward, if any, on the basis of its income forfinancial reporting purposes, adjusting for income and expense items which arenot assessable or deductible for PRC Enterprise Income Tax purposes.

 

In accordance withthe relevant income tax laws and regulations applicable to foreign investmententerprises in the PRC, Shanghai Euro Tech Limited (“SET”), a subsidiary of theCompany, is exempt from the PRC Enterprise Income Tax for two years startingfrom 2008, after offsetting losses brought forward, if any, followed by a 50%reduction for the next three years thereafter. As of December 31, 2009,SET had an assessable loss carried forward of US$313,386 as agreed by thelocal tax authority to offset its profit for the coming year (2008: US$242,253). Such loss will expire in 5 years.

 

According to therelevant PRC tax rules and regulations, Shanghai Euro Tech Environmental EngineeringLimited is exempt fromthe PRC Enterprise Income Tax of 20% (2008: 18%, 2007: 15%) for two yearsstarting from 2007,followed by a 50% reduction for the next three years thereafter. Chongqing Euro Tech Rizhi Technology Co., Ltd,Rizhi Euro Tech Instrument (Shaanxi) Co.,Ltd and Guangzhou EuroTech Environmental EquipmentCo., Ltd providefor PRC Enterprise Income Tax at a rate of 25%,after offsetting losses brought forward, if any, on the basis of its income forfinancial reporting purposes, adjusting for income and expense items which arenot assessable or deductible for PRC Enterprise Income Tax purposes.

 

According to therelevant PRC tax rules and regulations, Yixing Pact EnvironmentalTechnology Co., Ltd is registeredin Shanghai as Foreign Owned Enterprise that are entitled to Enterprise Income Tax rate of 25% (2008: 25%, 2007:27%).PactAsia Pacific Limited operates in the British Virgin Islands where there are no taxes imposed on it. However, part of its profit is subject to Hong Kong profits tax at a rate of 16.5%(2008: 16.5%, 2007: 17.5%) as the profit is earned in Hong Kong.

 

F-16

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**4****             ****Income taxes****(Continued)**

 

VIEs of the Groupprovide for PRC Enterprise Income Tax at a rate of 25% (2008: 25%, 2007: 33%),after offsetting losses brought forward, if any, on the basis of its income forfinancial reporting purposes, adjusting for income and expense items which arenot assessable or deductible for PRC Enterprise Income Tax purposes.

 

As of December 31,2009, certain VIEs had aggregated assessable losses carried forward ofUS$151,706 as agreed by the local tax authority (2008: US$99,830).

 

On March 16,2007, the PRC National People’s Congress passed the China Corporate Income TaxLaw (“Income Tax Law”), which became effective January 1, 2008 and appliesa unified income tax rate for foreign invested enterprises and domesticenterprise. The Income Tax Law is effective immediately for companiespreviously subject to higher taxation rates and provides a five-year transitionperiod from its effective date for those enterprises which were establishedbefore the effective date of the new tax law and previously entitled to apreferential tax treatment.

 

On December 26,2007, the State Council and on February 20, 2008 the Ministry of Financeissued implementation guidelines (“Guidelines”) setting out how the transitionof tax rates will occur. The Guidelines state that those enterprises whichenjoyed a preferential tax rate of 15% are eligible for a graduated rateincrease to 25% over the 5-year period beginning from January 1, 2008. Theapplicable rates under such an agreements for such enterprises are 18%, 20%,22%, 24% and 25% for 2008, 2009, 2010, 2011, 2012 and thereafter, respectively.In addition, foreign investment manufacturing enterprises which have not fullyutilized any preferential tax treatments, such as tax holidays or reduced ratesof taxation, will be able to continue to receive them during the transitionalperiod. The Group has applied the new rate in relation to deferred taxbalances.

 

(Loss)/Income before income taxes/(benefit):

 
| ** **     | ** ** | **2009**         | ** ** | **2008**         | ** ** | **2007**         | ** ** |
|----------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **     | ** ** | **US$’000** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|           |       |             |       |             |       |             |       |
| Domestic (BVI) |       | —           |       | —           |       | —           |       |
| Foreign        |       | (40              | )          | 560              |       | 664              |       |
|           |       | (40              | )          | 560              |       | 664              |       |

 

F-17

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**4****             ****Income taxes (Continued)**

 

The provision for income taxes consists of:

 
| ** **               | ** ** | **2009**         | ** ** | **2008**         | ** ** | **2007**         | ** ** |
|--------------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **               | ** ** | **US$’000** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
| Current tax expenses:    |       |             |       |             |       |             |       |
| Domestic (BVI)           |       | —           |       | —           |       | —           |       |
| Foreign                  |       | 264              |       | 331              |       | 240              |       |
| Total current provision  |       | 264              |       | 331              |       | 240              |       |
|                     |       |             |       |             |       |             |       |
| Deferred tax benefit:    |       |             |       |             |       |             |       |
| Domestic (BVI)           |       | —           |       | —           |       | —           |       |
| Foreign                  |       | (46              | )          | (10              | )          | (96              | )          |
| Total deferred provision |       | (46              | )          | (10              | )          | (96              | )          |

 

The principalreconciling items from income tax computed at the statutory rates and at theeffective income tax rates are as follows:

 
| ** **                                                    | ** ** | **2009**         | ** ** | **2008**         | ** ** | **2007**         | ** ** |
|---------------------------------------------------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **                                                    | ** ** | **US$’000** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|                                                          |       |             |       |             |       |             |       |
| Computed tax at respective company’s statutory tax  rate |       | 46               |       | 223              |       | 75               |       |
| Change in valuation allowances                                |       | 121              |       | 99               |       | 114              |       |
| Under-provision for income tax in prior years                 |       | 7                |       | —           |       | —           |       |
| Others                                                        |       | 44               |       | (1               | )          | (45              | )          |
| Total provision for income tax at effective tax rate          |       | 218              |       | 321              |       | 144              |       |

 

The components ofdeferred tax assets are as follows:

 
| ** **                                                   | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|--------------------------------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                                                   | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|                                                         |       |             |       |             |       |
| Deferred  tax assets arising from tax losses                 |       | 528              |       | 360              |       |
| Deferred  tax liabilities arising from temporary differences |       | (4               | )          | (3               | )          |
| Less:  Valuation allowances                                  |       | (334             | )          | (213             | )          |
| Net  deferred tax assets                                     |       | 190              |       | 144              |       |

 

F-18

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**5****             ****Netincome per ordinary share**

 

The calculation of the basic and diluted net incomeper ordinary share is based on the following data:

 
| ** **                                                                                    | ** ** | **2009**             | ** ** | **2008**   | ** ** | **2007**   | ** ** |
|-----------------------------------------------------------------------------------------------|------------|----------------------|------------|------------|------------|------------|------------|
| ** **                                                                                    | ** ** | **Number of shares** | ** ** |
|                                                                                          |       |                 |       |       |       |       |       |
| Weighted  average number of ordinary shares for the  purposes of basic net income per share   |       | 11,632,460           |       | 11,824,153 |       | 11,105,556 |       |
| Effect of dilutive potential ordinary shares:Stock options                                    |       | 264,077              |       | 387,905    |       | 989,779    |       |
| Weighted  average number of ordinary shares for the  purposes of diluted net income per share |       | 11,896,537           |       | 12,212,058 |       | 12,095,335 |       |

 

**6****             ****Accounts receivable**

** **
| ** **                         | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                         | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|                               |       |             |       |             |       |
| Trade receivables                  |       | 6,081            |       | 6,792            |       |
| Less: Allowance for doubtful debts |       | (18              | )          | (85              | )          |
|                               |       | 6,063            |       | 6,707            |       |
|                               |       |             |       |             |       |

 
| ** **                               | ** ** | **2009**         | ** ** | **200****8**     | ** ** |
|------------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                               | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
| Allowance for doubtful  debts            |       |             |       |             |       |
| Balance at beginning                     |       | 85               |       | 95               |       |
| Released/(charged) to costs and expenses |       | (9               | )          | 8                |       |
| Write off                                |       | (58              | )          | (18              | )          |
| Balance at end                           |       | 18               |       | 85               |       |

 

As of December 31, 2009, accounts receivables in the form of billsreceivable under letter of credit through banks amounted to approximately US$104,000(2008: US$50,000).

 

F-19

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**7****             ****Inventories, net**

** **
| ** **       | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|------------------|------------|------------------|------------|------------------|------------|
| ** **       | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|             |       |             |       |             |       |
| Raw materials    |       | 167              |       | 162              |       |
| Work in progress |       | 213              |       | 365              |       |
| Finished goods   |       | 967              |       | 2,073            |       |
|             |       | 1,347            |       | 2,600            |       |

 

Managementcontinuously reviews obsolete and slow moving inventories and assesses theinventory valuation to determine if the provision is deemed appropriate. For the year endedDecember 31,2009, and 2008, provision for obsolete and slow moving inventories amounted toUS$73,563 andUS$68,758, respectively, which were charged to cost of revenue in ConsolidatedStatements of Income.

 

**8****             ****Property, plant and equipment**

 
| ** **                               | ** ** | ** **       | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|------------------------------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **                               | ** ** | ** **       | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|                                     |       |             |       |             |       |             |       |
| Office premises                          |       |             |       | 2,257            |       | 2,257            |       |
| Leasehold improvements                   |       |             |       | 150              |       | 150              |       |
| Furniture, fixtures and office equipment |       |             |       | 939              |       | 857              |       |
| Motor vehicles                           |       |             |       | 162              |       | 162              |       |
| Testing equipment                        |       |             |       | 77               |       | 77               |       |
|                                     |       |             |       | 3,585            |       | 3,503            |       |
|                                     |       |             |       |             |       |             |       |
| Less: Accumulated depreciation           |       |             |       | (2,173           | )          | (1,990           | )          |
|                                     |       |             |       | 1,412            |       | 1,513            |       |
|                                     |       |             |       |             |       |             |       |
|                                     |       | **2009**         | ** ** | **2008**         | ** ** | **2007**         |       |
|                                     |       | **US$’000** | ** ** | **US$’000** | ** ** | **US$’000** |       |
| Depreciation charge                      |       | 202              |       | 218              |       | 232              |       |

 

F-20

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDACCOUNTS**

 

**9****             ****Investments in affiliates**

 

During the year endedDecember 31, 2007,the Group acquired 20%equity interests in Zhejiang Tianlan Environmental ProtectionTechnology Co. Ltd,a company incorporated in the PRC for a total consideration of US$4,648,000. The Group believes that after this acquisition,it has astrategic partner to work with in China for the environmental protectionbusiness.Withthis affiliate’stechnology and technical support, itcan now provide services and environmental solutions not only for water andwastewater treatment but also for air pollution control for industrial clientsin China. Investments in thisaffiliate are accounted for using the equity method of accounting.

 

A summary of the financial information of the affiliate, ZhejiangTianlan Environmental Protection Technology Co. Ltd, is set forth below:

 
| **Balance Sheet:**               | ** ** | **2009**         | ** ** | **200****8**     | ** ** |
|----------------------------------|------------|------------------|------------|------------------|------------|
| ** **                       | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|                             |       |             |       |             |       |
| Current assets                   |       | 15,947           |       | 16,952           |       |
|                             |       |             |       |             |       |
| Non-current assets               |       | 6,751            |       | 5,504            |       |
| Total assets                     |       | 22,698           |       | 22,456           |       |
|                             |       |             |       |             |       |
| Total liabilities                |       | (8,803           | )          | (9,831           | )          |
|                             |       |             |       |             |       |
| Total  shareholders’ equity |       | 13,895           |       | 12,625           |       |

 
| **Operating results:** | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|------------------------|------------|------------------|------------|------------------|------------|
| ** **             | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|                   |       |             |       |             |       |
| Net sales              |       | 17,786           |       | 14,688           |       |
|                   |       |             |       |             |       |
| Operating  profits     |       | 536              |       | 1,396            |       |
|                   |       |             |       |             |       |
| Net profits            |       | 272              |       | 1,215            |       |

 

F-21

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**9****             ****Investments in affiliates****(Continued)**

 

During theyear ended December 31, 2008,the Group acquired 20%equity interests in Zhejiang JiaHuan Electronic Co. Ltd., (“Jia Huan”), a company incorporated in the PRC, for approximately US$2,610,000.Jia Huan has been in the environmental protection business since 1969 and isbased in Jin Hua, Zhejiang. The Group believes that after this acquisition,it has a strategic partnerto help it make inroadsinto the rapidly growing air pollution control market in China. Investments inthis affiliate areaccounted for using the equity method of accounting.

 

A summary of the financial information of the affiliate, Zhejiang Jia Huan Electronic Co. Ltd, is set forthbelow:

 
| **Balance Sheet:**               | ** ** | **2009**         | ** ** | **200****8**     | ** ** |
|----------------------------------|------------|------------------|------------|------------------|------------|
| ** **                       | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|                             |       |             |       |             |       |
| Current assets                   |       | 16,705           |       | 17,423           |       |
|                             |       |             |       |             |       |
| Non-current assets               |       | 4,820            |       | 5,197            |       |
| Total assets                     |       | 21,525           |       | 22,620           |       |
|                             |       |             |       |             |       |
| Total liabilities                |       | (8,630           | )          | (11,559          | )          |
|                             |       |             |       |             |       |
| Total  shareholders’ equity |       | 12,895           |       | 11,061           |       |

 
| **Operating results:** | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|------------------------|------------|------------------|------------|------------------|------------|
| ** **             | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|                   |       |             |       |             |       |
| Net sales              |       | 11,521           |       | 13,571           |       |
|                   |       |             |       |             |       |
| Operating  profits     |       | 433              |       | 639              |       |
|                   |       |             |       |             |       |
| Net profits            |       | 2,718            |       | 152              |       |

 

**10****          ****Other payables and accruedexpenses**

 

Other payables andaccrued expenses mainly represent deposits received from customers and accrualsfor operating expenses.

 

F-22

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**11****          ****Ordinaryshare**

 

During the year ended December 31,2008, the Company issued 208,370 ordinary shares for stock optionsexercised and cancelled 31,240 shares surrendered for exercise of stockoptions.

 

During the year ended December 31,2009, the Company issued 10,000 ordinary shares for stock options exercised.

 

**12****          ****Goodwill**

 

TheCompany accounted for the acquisition in accordance with FASB ASC Subtopic805-10, Business Combinations, (previously SFASNo. 141 “Business Combinations”), which resulted in the recognition ofgoodwill. Goodwill represents the excess of acquisition cost over the estimatedfair value of net assets acquired as of October 18, 2005, in relation tothe acquisition of Yixing Pact Environmental Technology Co., Ltd and Pact AsiaPacific Limited..

 

Asof December 31, 2009, the Company completed the annual impairment test.(i.e. comparing the carrying amount of the net assets, including goodwill, withthe fair value of the Company as of December 31,2009) Based on the result of the first step of the test, the Company determinedthat there was no impairment of goodwill as of December 31, 2009.

 

**1****3****          ****Treasury stock**

 

The Companyauthorized a stock buyback program in December 2000 pursuant to which upto 341,250shares, but not to exceed US$281,250 in value, of the Company’s ordinary sharecould be purchased in the open market from time to time as market and businessconditions warrant.  The Companyrepurchased a total of 36,445 shares and 304,206 shares of ordinary shareduring 2000 and 2001 for considerations of approximately US$16,000 andUS$221,000, respectively.

 

The Companyauthorized a stock buyback program in November 2008pursuant to which up to 300,000shares, but not to exceed US$420,000 in value, of the Company’s ordinary sharecould be purchased in the open market from time to time as market and businessconditions warrant.  The Companyrepurchased a total of 41,041 shares and 258,993 shares of ordinary shareduring 2008 and 2009 forconsiderations of approximately US$44,000and US$219,000, respectively.

 

The Companyauthorized a stock buyback program in July 2009 pursuant to which up to 300,000 shares, but not to exceed US$420,000in value, of the Company’s ordinary share could be purchased in the open marketfrom time to time as market and business conditions warrant.  The Company repurchased a total of 26,635 sharesof ordinary share during 2009 for considerations of approximately US$34,000.

 

There was noreissuance of treasury stock during each of the three years ended December 31,2009.

 

F-23

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**1****4****          ****PRC statutory reserve**

 

Under the relevantPRC laws and regulations, the PRC subsidiaries are required to appropriatecertain percentage of their respective net incometo two statutoryfunds i.e. the statutory reserve fund and the statutory staff welfare fund.  The PRC subsidiaries also appropriated certainamount of their net income to the expansion funds.

 

(i) Statutoryreserve funds

 

Pursuant toapplicable PRC laws and regulations, the PRC subsidiaries are required toallocate at least 10% of the companies’ net incometo the statutory reserve funds until such funds reaches 50% of the companies’ registeredcapital. The statutory reserve funds can be utilized upon the approval by therelevant authorities, to offset accumulated losses or to increase registeredcapital of the companies, provided that such funds be maintained at a minimumof 25% of the companies’ registered capital.

 

(ii) Statutorywelfare funds

 

Pursuant toapplicable PRC laws and regulations, the PRC subsidiaries are required toallocate certain amountof the companies’ net incometo the staff welfare funds determined by the Company. The staff welfare funds can only be used toprovide staff welfare facilities and other collective benefits to the companies’employees. This fund is non-distributable other than upon liquidation of thePRC subsidiaries.

 

(iii) Expansion funds

 

The expansion reserve shall only be used to make uplosses, expand the PRC subsidiaries’ production operations, or increase thecapital of the subsidiaries. The expansion fund can be utilized upon approvalby relevant authorities, to convert into registered capital and issue bonuscapital to existing investors, provided that such funds be maintained at aminimum of 25% of the companies’ registered capital.

 

F-24

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Table ofContents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDACCOUNTS**

 

**1****5****          ****Stock options**

 

(i)            Management Options Plan

 

A total of 4,586,400 shares of ordinary share have been reservedfor issuance under the Company’s management option plan (the “ManagementOptions”).  The Management Optionsprovide for the grant of options to its officers, directors and employees asthe Company’s Chairman of the Board of Directors and Chief Executive Officermay direct.

 

During the year ended December 31, 2007, 90,090 options and 2,018,916 options underthe Management Options with the exercise price of US$ 1.221 per share and US$1.6789 per share, respectively,were exercised. All the remaining unexercised options expired inMarch 2007.

 

(ii)           2000 Stock Option Plan

 

A total of 1,195,740 shares of ordinary share have been reservedfor issuance under the Company’s 2000 Stock Option Plan (the “2000 StockOptions”).  The 2000 Stock Optionsprovide for the grant of options to its officers, directors and employees asthe Company’s Chairman of the Board of Directors and Chief Executive Officermay direct.

 

During the year endedDecember 31, 2007,16,380options and 6,300 optionswith exercise price of US$0.5787and US$0.6809, respectively, werecancelled.  During the same year, 46,410 options and 101,430 options with exercise price of US$ 0.5787 andUS$0.8191 per share, respectively,were exercised**.**

 

During the year endedDecember 31, 2008,32,000 options with an exercise price of US$2.56 per share were granted to its employees. These options weresubsequently surrendered and cancelledduring the vesting period. Duringthe same year, 24,570options with exerciseprice of US$ 0.5787 per sharewere exercised**.**

 

During the year endedDecember 31, 2009, 10,920 options, 22,680options and 5,000 optionswith exercise price of US$0.5787, US$0.8191 and US$2.02, respectively, were cancelled.

 

F-25

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDACCOUNTS**

 

**1****5****          ****Stock options (Continued)**

 

(iii)          2002 Employees’ Stock Option and IncentivePlan and 2002 Officers’ and Directors’ Stock Option and Incentive Plan

 

Atotal of 294,000shares and 840,000shares of ordinary share have been reserved for issuance under the Company’s2002 Employees’ Stock Option and Incentive Plan (the “2002 Employee StockOptions”) and 2002 Officers’ and Directors’ Stock Option and Incentive Plan (the“2002 D&O Stock Options”), respectively. Both 2002 Employee Stock Options and the 2002 D&O Stock Optionsprovide for the grant of options to its employees as the Company’s Chairman ofthe Board of Directors and Chief Executive Officer may direct.

 

During the year ended December 31, 2006, 8,400 options with the exercise price of US$ 0.7618 were cancelled.During the same year, 21,000options with exerciseprice of US$ 0.7618 per sharewere exercised.

 

During the year ended December 31, 2007, 8,400 options with the exercise price of US$ 0.7618 were cancelled.During the same year, 50,400options and 388,000 options with exerciseprice of US$ 0.7618 and US$0.5857 per share, respectively,were exercised**.**

 

During the year ended December 31, 2008,16,800 options and 167,000options with exerciseprice of US$ 0.7618 and US$0.5857 per share, respectively,were exercised**.**

 

During the year ended December 31, 2009,12,600options with exercise price of US$0.7618 were cancelled. During the same year, 10,000 options with exerciseprice of US$0.5857 per share were exercised**.**

 

(iv)          2007Officers’ and Directors’ Stock Option and Incentive Plan

 

Atotal of 880,000shares of ordinary share have been reserved for issuance under the Company’s2007 Officers’ andDirectors’ Stock Option and Incentive Plan (the “2007D&O Stock Options”).  The 2007D&O Stock Options provide for the grant of options to its directors andofficers as theCompany’s Chairman of the Board of Directors and Chief Executive Officer maydirect.  During the year ended December 31,2007, the Companygranted such options to itsofficers and directors under the 2007D&O Stock Options, which allow them to purchase up to 133,000, 66,500,66,500,100,000 and133,000 shares ofordinary share at an exercise price of US$2.85, US$4.00, US$4.05, US$3.66 and US$2.66, respectively. The options vested for aperiod of a six-month period and will expire before end of November 2009. During the same year,no options had been exercised.

 

During the year ended December 31, 2008, allthe 499,000 options granted in 2007 were cancelled.On January 24, 2008,173,000 options with an exercise price of US$2.56 per share were granted. These options were subsequentlysurrendered and cancelledon July 4, 2008.

 

TheCompany estimate the fair value of the options granted under the Black-Scholespricing model.

 

F-26

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDACCOUNTS**

 

**1****5****          ****Stock options (Continued)**

 

(iv)          2007Officers’ and Directors’ Stock Option and Incentive Plan (Continued)

 

Changesin outstanding options under various plans mentioned above were as follows:

 
| ** **                      | ** ** | **2009**                            | ** ** | **2008**                                                                   | ** ** | **2007**                            | ** ** |
|---------------------------------|------------|-------------------------------------|------------|----------------------------------------------------------------------------|------------|-------------------------------------|------------|
| ** **                      | ** ** | **Number  of******** options** | ** ** | **Weighted******** average******** exercise******** price** | ** ** | **Number  of******** options** | ** ** | **Weighted******** average******** exercise******** price** | ** ** | **Number  of******** options** | ** ** | **Weighted******** average******** exercise******** price** | ** ** |
| ** **                      | ** ** | ** **                          | ** ** | **US$**                                                                    | ** ** | ** **                          | ** ** | **US$** | ** ** | ** ** | ** ** | **US$** | ** ** |
|                            |       |                                |       |                                                                       |       |                                |       |   |   |   |   |   |   |
| Outstanding,  beginning of year |       | 583,470                             |       | 0.84                                                                       |       | 1,290,840                           |       | 1.74 |   | 3,938,296 |   | 1.32 |   |
| Granted                         |       | —                              |       | —                                                                     |       | 205,000                             |       | 2.56 |   | 499,000 |   | 3.27 |   |
| Cancelled/Expired               |       | (51,200                             | )          | (0.87                                                                      | )          | (704,000                            | )          | (3.07 | ) | (451,210 | ) | (1.58 | ) |
| Exercised                       |       | (10,000                             | )          | (0.59                                                                      | )          | (208,370                            | )          | (0.60 | ) | (2,695,246 | ) | (1.44 | ) |
| Outstanding,  end of year       |       | 522,270                             |       | 0.85                                                                       |       | 583,470                             |       | 0.84 |   | 1,290,840 |   | 1.74 |   |
|                            |       |                                |       |                                                                       |       |                                |       |   |   |   |   |   |   |
| Exercisable,  end of year       |       | 522,270                             |       | 0.85                                                                       |       | 583,470                             |       | 0.84 |   | 791,840 |   | 0.78 |   |

 

As of December 31,2009, the options outstanding and exercisable had exercise prices in the rangeof US$0.5787 to US$3.33and a weighted average unexpired life of approximately 1.7 years.

 
| **As of December 31, 2009**        | ** ** | **Shares** | ** ** | **Intrinsic  Value** | ** ** |
|-----------------------------------------|------------|------------|------------|----------------------|------------|
| ** **                              | ** ** | ** ** | ** ** | **US$’ 000**    | ** ** |
| Total  outstanding in-the-money options |       | 482,270    |       | 719                  |       |
| Total  vested in-the-money options      |       | 482,270    |       | 719                  |       |

 

The total intrinsic valueof share options exercised for the twelve months ended December 31, 2009and 2008 were approximately $8,000 and $374,000, respectively. As of December 31, 2009 there was nounrecognized stock-based compensation expense related to unvested stock options.

 

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDACCOUNTS**

 

**1****5****          ****Stock options (Continued)**

 

The Group adopted the provisions of ASC 718-10,which requires us to recognize expense related to the fair value of ourstock-based compensation awards, including employee stock options.

 

TheBlack-Scholes option-pricing model is used to estimate the fair value of theoptions granted. This requires the input of subjective assumptions, includingthe expected volatility of stock price, expected option term, expectedrisk-free rate over the expected option term and expected dividend yield rateover the expected option term.  Becausechanges in subjective input assumptions can materially affect the fair valueestimate, in directors’ opinion, the existing model may not necessarily providea realizable measure of the fair value of the stock options. Expected volatilityis based on historical volatility in the 180 days prior to the issue of theoptions. Expected option term and dividend yield rate are based on historicaltrends. Expected risk-free rate is based on US Treasury securities with similarmaturities as the expected terms of the options at the date of grant.

 

Thefollowing table summarizes the assumptions used during the years ended December 31,2008 and 2007:

 
| **Assumptions**       | ** ** | **200****8** | ** ** | **200****7** | ** ** |
|-----------------------|------------|--------------|------------|--------------|------------|
|                  |       |         |       |         |       |
| Expected volatility   |       | 75.9-86.7%   |       | 75.9-86.7%   |       |
| Expected dividends    |       | —       |       | —       |       |
| Expected term (years) |       | 1.25         |       | 1.25         |       |
| Risk-free rate        |       | 3.2-4.3%     |       | 3.2-4.3%     |       |

 

**1****6****          ****Pension plan**

 

Priorto December 1, 2000, the Group had only one defined contribution pensionplan for all its Hong Kong employees. Under this plan, all employees were entitled to pension benefits equalto their own contributions plus 50% to 100% of individual fund account balancescontributed by the Group, depending on their years of service with theGroup.  The Group was required to makespecific contributions at approximately 10% of the basic salaries of theemployees to an independent fund management company.

 

Withthe introduction of the Mandatory Provident Fund Scheme, a defined contributionscheme managed by an independent trustee on December 1, 2000, the Groupand its employees who joined the Group subsequently make monthly contributionsto the scheme at 5% of the employee’s cash income as defined under theMandatory Provident Fund legislation. Contributions of both the Group and its employees are subject to amaximum of HK$1,000 per month and thereafter contributions are voluntary andare not subject to any limitation.  TheGroup and its employees made their first contributions in December 2000.

 

F-28

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**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDACCOUNTS**

 

**1****6****          ****Pension plan****(Continued)**

 

Asstipulated by the rules and regulations in the PRC, the Group contributesto state-sponsored retirement plans for its employees in Mainland China.  The Group contributes approximately ranging from10% to 22% of the basic salaries of its employees, andhas no further obligations for the actual payment of pension or post-retirementbenefits beyond the annual contributions. The state-sponsored retirement plans are responsible for the entirepension obligations payable to retired employees.

 

Duringthe years ended December 31, 2009, 2008 and 2007, the aggregatecontributions of the Group to the aforementioned pension plans and retirementbenefit schemes were approximately US$327,000, US$291,000and US$245,000respectively.

 

**1****7****          ****Risk factor and DerivativeInstruments**

 

Financial riskfactors

 

TheGroup’s activities expose it to a variety of financial risks: foreign exchangerate risk and credit risk.

 

(i)            Credit risk

 

TheGroup has no significant concentration of credit risk.  The Group has policies in place to ensurethat sales of products are made to customers with an appropriate credit history.  The Group has policies that limit the amountof credit exposure to any customers. Derivative counterparties and cashtransactions are limited to high credit quality banks.

 

(ii)          Foreign exchange risk

 

The Group operates inHong Kong, the PRC and trades with both local and overseas customers, and isexposed to foreign exchange risk arising from various currency exposures,primarily with respect to purchases in, Hong Kong dollar, Renminbi and Euro.  Foreign exchange risk arises from committedand unmatched future commercial transactions, such as confirmed import purchaseorders and sales orders, recognized assets and liabilities, and net investmentin the PRC operations. The Group uses derivative financial instruments such asforeign exchange contracts to hedge certain foreign currency exposures.

 

The Group’sprevailing risk management policy is to hedge the net committed transactions(mainly sales and import purchases) in each major currency.

 

The Company’s policy generally permits the use of derivatives if theyare associated with underlying assets or liabilities, forecasted transactions,or legally binding rights or obligations. There were no such derivatives during the years ended December 31,2009 and 2008.

 

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDACCOUNTS**

 

**18****          ****Related party transactions**

 

Other than the compensation paid and stock options available to thedirectors, there were no other transactionswith related parties in the years 2009, 2008 and 2007.

 

**19****          ****Commitments and contingencies**

 

(i)           Operating leases

 

The Group has variousoperating lease agreements for office and industrial premises.  Rental expenses for the years ended December 31,2009, 2008 and 2007 were approximately US$394,000, US$411,000, and US$448,000,respectively.  Future minimum rentalpayments as of December 31, 2009, under agreements classified as operatingleases with non-cancellable terms amounted to US$224,000 of which US$175,000are payable in the year 2010 and US$49,000 are payable within years 2011 to 2013.  As of December 31, 2008, the future minimum rental payments under agreementsclassified as operating leases with non-cancellable terms amounted to US$177,000 of which US$154,000are payable in the year 2009and US$23,000 arepayable within years 2010to 2012.

 

(ii)          Banking facilities

 

As at December 31,2009, 2008 and 2007, the Group hadvarious banking facilities available for overdraft, import and export creditsand foreign exchange contracts from which the Group can access up toapproximately US$2,564,000,US$2,564,000 and US$4,167,000respectively, of which approximately US$260,000, US$234,000 and US$138,000 was utilizedfor issuance of bank guarantees.

 

(iii)          Non-controlling interest put option

 

The Groupgranted the non-controllinginterest of YixingPact Environmental Technology Co., Ltd and Pact Asia Pacific Limited a putoption, which is effective from 2009, requiring the Groupto acquire part or all remaining securities of these two companiesat 5.2 times of their averagenet incomefor the three prior fiscal years.

 

**20****          ****Fair value of financialinstruments**

 

The carrying valuesof financial instruments, which consist of cash and cash equivalents, accountsreceivable and accounts payable, bills receivable, bills payable, otherpayables and balances with related companies approximate their fair values dueto the short-term nature of these instruments.

 

F-30

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDACCOUNTS**

 

**2****1****          ****Segment information**

 

(i) TheGroup reports under two segments: Trading and manufacturing, and Engineering.

 

Operating income represents total revenues lessoperating expenses, excluding other expense, interest and income taxes. Theidentifiable assets by segment are those used in each segment’s operations.Intersegment amounts are not significant and are eliminated to arrive atconsolidated totals.

 
| ** **                | ** ** | **2009**         | ** ** | **2008**         | ** ** | **2007**         | ** ** |
|---------------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **                | ** ** | **US$’000** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
| Revenue                   |       |             |       |             |       |             |       |
| Trading and manufacturing |       | 18,326           |       | 21,439           |       | 20,010           |       |
| Engineering               |       | 9,010            |       | 10,299           |       | 7,220            |       |
|                      |       | 27,336           |       | 31,738           |       | 27,230           |       |
| Operating income          |       |             |       |             |       |             |       |
| Trading and manufacturing |       | (462             | )          | (185             | )          | (57              | )          |
| Engineering               |       | 314              |       | 555              |       | 323              |       |
|                      |       | (148             | )          | 370              |       | 266              |       |

 
| ** **                  | ** ** | **2009**         | ** ** | **2008**         | ** ** | **2007**         | ** ** |
|-----------------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **                  | ** ** | **US$’000** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
| Depreciation:               |       |             |       |             |       |             |       |
| Trading and manufacturing   |       | 172              |       | 179              |       | 197              |       |
| Engineering                 |       | 30               |       | 39               |       | 35               |       |
|                        |       | 202              |       | 218              |       | 232              |       |
| Capital Expenditures, Gross |       |             |       |             |       |             |       |
| Trading and manufacturing   |       | 81               |       | 56               |       | 147              |       |
| Engineering                 |       | 37               |       | 43               |       | 103              |       |
|                        |       | 118              |       | 99               |       | 250              |       |

 
| ** **                | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|---------------------------|------------|------------------|------------|------------------|------------|
| ** **                | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
| Assets                    |       |             |       |             |       |
| Trading and manufacturing |       | 10,938           |       | 12,754           |       |
| Engineering               |       | 7,239            |       | 7,845            |       |
| Unallocated               |       | 8,067            |       | 7,679            |       |
|                      |       | 26,244           |       | 28,278           |       |
| Liabilities               |       |             |       |             |       |
| Trading and manufacturing |       | 4,383            |       | 6,108            |       |
| Engineering               |       | 2,929            |       | 3,191            |       |
| Unallocated               |       | —           |       | —           |       |
|                      |       | 7,312            |       | 9,299            |       |

 

F-31

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Tableof Contents

 

**EURO TECH HOLDINGS COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDACCOUNTS**

 

**2****1****          ****Segment information****(Continued)**

 

(ii)           Geographicalanalysis of revenue by customer location is as follows:

 
| ** ** | ** ** | **2009**         | ** ** | **2008**         | ** ** | **2007**         | ** ** |
|------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** ** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
| Revenue -  |       |             |       |             |       |             |       |
| The PRC    |       | 19,333           |       | 25,430           |       | 21,595           |       |
| Hong Kong  |       | 7,621            |       | 5,745            |       | 5,401            |       |
| Others     |       | 382              |       | 563              |       | 234              |       |
|       |       | 27,336           |       | 31,738           |       | 27,230           |       |

 

(iii)          Long-livedassets (1)

 

Geographical analysisof long-lived assets is as follows:

 
| ** ** | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|------------|------------|------------------|------------|------------------|------------|
| ** ** | ** ** | **US$’000** | ** ** | **US$’000** | ** ** |
|       |       |             |       |             |       |
| Hong Kong  |       | 755              |       | 810              |       |
| The PRC    |       | 657              |       | 703              |       |
|       |       | 1,412            |       | 1,513            |       |

 

----

(1)           Long-lived assets represent property, plantand equipment, net.

 

(iv)         Majorsuppliers

 

Details of individualsuppliers accounting for more than 5% of the Group’s purchases are as follows:

 
| ** **                        | ** ** | **2009** | ** ** | **200****8** | ** ** | **2007** | ** ** |
|-----------------------------------|------------|----------|------------|--------------|------------|----------|------------|
|                              |       |     |       |         |       |     |       |
| Thermo Fisher Scientific          |       | 21       | %          | 10           | %          | 5        | %          |
| Siemens Water  Technologies Group |       | 13       | %          | 7            | %          | 10       | %          |
| Calipers Life Sciences  Inc.      |       | 10       | %          | 10           | %          | 6        | %          |
| Hach Company - Lachat Instruments |       | 10       | %          | 8            | %          | 5        | %          |
| Hioki E.E. Corp.                  |       | 6        | %          | 15           | %          | 32       | %          |
| Stanford Research Systems Inc.    |       | 5        | %          | 4            | %          | 4        | %          |

 

Some of the purchaseagreements signed with the Group’s suppliers are memorialized. They are notformal contracts and are arranged through other acknowledgements orcorrespondence which may contain vague description of the terms and conditionsof such arrangements, and therefore may be unenforceable.

 

(iv)          Majorcustomers

 

No revenue from asingle customer exceeds 10% of the Group revenue during the years ended December 31,2009, 2008 and 2007.

 

**22****          ****Postbalance sheet events**

 

In January 2010,the Group acquiredadditional 2%equity interests in Yixing Pact Environmental Technology Co., Ltd and Pact AsiaPacific Limited for a total consideration of approximately US$73,000.

 

F-32

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Table of Contents

 

**ZHEJIANGJIAHUAN ELECTRONIC COMPANY LIMITED**

 

**AUDITEDCONSOLIDATED BALANCE SHEET**

 

**AS OFDECEMBER 31, 2009 AND**

 

**CONSOLIDATEDSTATEMENT OF INCOME,**

 

**CASHFLOWS AND CHANGES IN SHAREHOLDERS’ EQUITY**

 

**FORTHE YEAR ENDED DECEMBER 31, 2009**

 

**TOGETHERWITH REPORT OF INDEPENDENT REGISTERED**

 

**PUBLICACCOUNTING FIRM**

 

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Tableof Contents

 

**Report of Independent Registered Public Accounting Firm**

 

To the Board of Directorsand shareholders of

Zhejiang Jiahuan Electronic Co., Ltd.

 

We have audited theaccompanying consolidated balance sheet ofZhejiangJiahuan Electronic Co., Ltd.asof December 31,2009 and the related consolidated statementof income, shareholders’ equity, and cash flows for the year then ended.  These financial statements are theresponsibility of the Company’s management. Our responsibility is to express an opinion on these financialstatements based on our audit.

 

We conducted our audit inaccordance with standards of the Public Company Accounting Oversight Board (UnitedStates).  Those standards require that weplan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement.  The Company is not required to have, nor werewe engaged to perform, an audit of its internal control over financialreporting.  Our audit included considerationof internal control over financial reporting as a basis for designing auditprocedures that are appropriate in the circumstances, but not for the purposeof expressing an opinion on the effectiveness of the Company’s internal controlover financial reporting. Accordingly, we express no such opinion.  An audit also includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements, assessing the accounting principles used and significant estimatesmade by management, as well as evaluating the overall financial statementpresentation. We believe that our audit provide a reasonable basis for ouropinion.

 

In ouropinion, the consolidated financial statements referred to above presentfairly, in all material respects, the consolidated financial position of ZhejiangJiahuan Electronic Co., Ltd. as of December 31, 2009 and the results ofits operations and cash flows for the year then ended, in conformity withaccounting principles generally accepted in the United States of America.

 

Thiswas our first audit of the consolidated financial statements of ZhejiangJiahuan Electronic Co., Ltd. and, as instructed, the scope of our engagementdid not include sufficient procedures with respect to the consolidated financialstatements for the preceding year to enable us to express an opinion on theconsistency of application of accounting principles.

 

 

/s/BDO Limited

BDO Limited

 

Hong Kong, June 28,2010

 

F-34

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Table of Contents

** **

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

** **

**CONSOLIDATEDBALANCE SHEETS**

**AS OFDECEMBER 31, 2009 AND 2008**

 
| ** **                                                                                       | ** ** | ** ** | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|--------------------------------------------------------------------------------------------------|------------|------------|------------|------------------|------------|------------------|------------|
| ** **                                                                                       | ** ** | **Note**   | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **                                                                                       | ** ** | ** ** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| **ASSETS**                                                                                       |       |       |       |             |       |             |       |
|                                                                                             |       |       |       |             |       |             |       |
| **Current assets**                                                                               |       |       |       |             |       |             |       |
| Cash and cash equivalents                                                                        |       |       |       | 7,183            |       | 14,132           |       |
| Accounts receivable, net                                                                         |       | 5          |       | 67,080           |       | 64,349           |       |
| Notes receivable                                                                                 |       |       |       | 1,500            |       | 11,142           |       |
| Other receivables                                                                                |       | 6          |       | 12,281           |       | 5,138            |       |
| Amounts due from  shareholders                                                                   |       | 14         |       | 826              |       | 181              |       |
| Short term investments                                                                           |       | 7          |       | 8,200            |       | 200              |       |
| Inventories                                                                                      |       | 8          |       | 17,051           |       | 23,040           |       |
|                                                                                             |       |       |       |             |       |             |       |
| Total  current assets                                                                            |       |       |       | 114,121          |       | 118,182          |       |
|                                                                                             |       |       |       |             |       |             |       |
| Property, plant and  equipment, net                                                              |       | 9          |       | 25,429           |       | 27,146           |       |
| Land use right, net                                                                              |       | 10         |       | 7,430            |       | 7,603            |       |
| Long term investment                                                                             |       | 7          |       | 69               |       | 518              |       |
|                                                                                             |       |       |       |             |       |             |       |
| **Total assets**                                                                                 |       |       |       | 147,049          |       | 153,449          |       |
|                                                                                             |       |       |       |             |       |             |       |
| **LIABILITIES AND SHAREHOLDERS’****EQUITY**                                                 |       |       |       |             |       |             |       |
|                                                                                             |       |       |       |             |       |             |       |
| **Current liabilities**                                                                          |       |       |       |             |       |             |       |
| Accounts payable                                                                                 |       |       |       | 18,280           |       | 21,094           |       |
| Other payables and  accrued expenses                                                             |       | 11         |       | 12,804           |       | 18,574           |       |
| Short term loans                                                                                 |       | 12         |       | 20,000           |       | 31,000           |       |
| Amount due to a related  company                                                                 |       | 14         |       | 838              |       | 896              |       |
| Income tax payable                                                                               |       |       |       | 427              |       | 405              |       |
|                                                                                             |       |       |       |             |       |             |       |
| Total current liabilities                                                                        |       |       |       | 52,349           |       | 71,969           |       |
|                                                                                             |       |       |       |             |       |             |       |
| Other long term  liabilities                                                                     |       | 15         |       | 6,609            |       | 6,862            |       |
|                                                                                             |       |       |       |             |       |             |       |
| **Commitments and contingencies**                                                                |       |       |       | —           |       | —           |       |
|                                                                                             |       |       |       |             |       |             |       |
| **Shareholders’ equity**                                                                    |       |       |       |             |       |             |       |
| 11,250,000 shares  authorised; 11,250,000 shares issued and fully paid; par value RMB1 per share |       |       |       | 11,250           |       | 11,250           |       |
| PRC statutory reserves                                                                           |       | 16         |       | 29,461           |       | 27,600           |       |
| Retained earnings                                                                                |       |       |       | 46,236           |       | 35,160           |       |
|                                                                                             |       |       |       |             |       |             |       |
| Total shareholders’  equity of Zhejiang Jiahuan Electroic Co., Ltd.                    |       |       |       | 86,947           |       | 74,010           |       |
| Non-controlling interest                                                                         |       |       |       | 1,144            |       | 608              |       |
| Total equity                                                                                     |       |       |       | 88,091           |       | 74,618           |       |
|                                                                                             |       |       |       |             |       |             |       |
| **Total liabilities and shareholders’  equity**                                             |       |       |       | 147,049          |       | 153,449          |       |

 

The accompanying notes are an integral part ofthese consolidated financial statements.

 

F-35

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Table of Contents

** **

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

** **

**CONSOLIDATEDSTATEMENTS OF****INCOME**

**FOR THEYEAR ENDED DECEMBER 31, 2009 AND 2008**

** **
| ** **                                                                                 | ** ** | ** ** | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|--------------------------------------------------------------------------------------------|------------|------------|------------|------------------|------------|------------------|------------|
| ** **                                                                                 | ** ** | **Note**   | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **                                                                                 | ** ** | ** ** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| ** **                                                                                 | ** ** | ** ** | ** ** | ** **       | ** ** | ** **       | ** ** |
| Revenue                                                                                    | ** ** | ** ** |       | 78,670           |       | 95,994           |       |
|                                                                                       |       |       |       |             |       |             |       |
| Cost of revenue                                                                            |       |       |       | (52,055          | )          | (70,828          | )          |
|                                                                                       |       |       |       |             |       |             |       |
| Gross profit                                                                               | ** ** | ** ** |       | 26,615           |       | 25,166           |       |
|                                                                                       |       |       |       |             |       |             |       |
| Selling and administrative expenses                                                        |       |       |       | (22,885          | )          | (24,468          | )          |
|                                                                                       |       |       |       |             |       |             |       |
| Operating income                                                                           | ** ** | ** ** |       | 3,730            |       | 698              |       |
|                                                                                       |       |       |       |             |       |             |       |
| Interest income                                                                            |       |       |       | 99               |       | 118              |       |
|                                                                                       |       |       |       |             |       |             |       |
| Other income, net                                                                          |       | 3          |       | 15,949           |       | 310              |       |
|                                                                                       |       |       |       |             |       |             |       |
| Income before income taxes                                                                 | ** ** | ** ** |       | 19,778           |       | 1,126            |       |
|                                                                                       |       |       |       |             |       |             |       |
| Income taxes                                                                               |       | 4          |       | (1,080           | )          | (1,065           | )          |
|                                                                                       |       |       |       |             |       |             |       |
| Net Income                                                                                 |       |       |       | 18,698           |       | 61               |       |
|                                                                                       |       |       |       |             |       |             |       |
| Net income attributable to non-controlling  interest                                       |       |       |       | (136             | )          | (9               | )          |
|                                                                                       |       |       |       |             |       |             |       |
| Net income attributable to Zhejiang Jiahuan  Electronic Co., Ltd.’s shareholders |       |       |       | 18,562           |       | 52               |       |

 

The accompanying notes are an integral part ofthese consolidated financial statements.

 

F-36

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Table of Contents

 

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

** **

**CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

**FORTHE YEAR ENDED DECEMBER 31, 2009 AND 2008**

** **
| ** **                                                                         | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|------------------------------------------------------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                                                                         | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **                                                                         | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| Cash  flows from operating activities:                                             |       |             |       |             |       |
| Net  income                                                                        |       | 18,698           |       | 61               |       |
| Adjustments  to reconcile net income to net cash provided by operating activities: |       |             |       |             |       |
| Amortisation  of land use right                                                    |       | 173              |       | 180              |       |
| Depreciation  of property, plant and equipment                                     |       | 2,099            |       | 2,074            |       |
| Gain  on disposal of land                                                          |       | (14,892          | )          | —           |       |
| Gain  on disposal of investments                                                   |       | (883             | )          | —           |       |
| Increase  in allowance for doubtful debts on trade receivables                     |       | 2,458            |       | 3,528            |       |
| Impairment  loss on long term investment                                           |       | —           |       | 485              |       |
| Loss  on disposal of property, plant and equipment                                 |       | 9                |       | —           |       |
| Recovery  of previously written off trade receivables                              |       | (707             | )          | —           |       |
| (Increase)/decrease  in current assets:                                            |       |             |       |             |       |
| Accounts  receivable, net                                                          |       | (4,482           | )          | (6,918           | )          |
| Notes  receivable                                                                  |       | 9,642            |       | 755              |       |
| Other  receivables                                                                 |       | 749              |       | (1,528           | )          |
| Inventories                                                                        |       | 9,143            |       | 2,838            |       |
| Increase/(decrease)  in current liabilities:                                       |       |             |       |             |       |
| Accounts  payable                                                                  |       | (5,967           | )          | (8,863           | )          |
| Other  payables and accrued expenses                                               |       | (5,770           | )          | 1,147            |       |
| Amount  due to a related company                                                   |       | (58              | )          | 896              |       |
| Income  tax payable                                                                |       | 22               |       | (3,011           | )          |
| Other  long term payables                                                          |       | (253             | )          | 819              |       |
|                                                                               |       |             |       |             |       |
| Net  cash provided by/(used in) operating activities                               |       | 9,981            |       | (7,238           | )          |
|                                                                               |       |             |       |             |       |
| Cash  flows from investing activities:                                             |       |             |       |             |       |
| Purchase  of property, plant and equipment                                         |       | (391             | )          | (1,227           | )          |
| Purchase  of short term investments                                                |       | (8,000           | )          | —           |       |
| Proceeds  from sale of land                                                        |       | 7,000            |       | —           |       |
| Proceeds  from sale of long term investments                                       |       | 1,332            |       | 128              |       |
|                                                                               |       |             |       |             |       |
| Net  cash used in investing activities                                             |       | (59              | )          | (1,099           | )          |
|                                                                               |       |             |       |             |       |
| Cash  flows from financing activities:                                             |       |             |       |             |       |
| Repayment  of bank borrowings                                                      |       | (11,000          | )          | —           |       |
| Advance  of bank borrowings                                                        |       | —           |       | 5,000            |       |
| Proceeds  from issuance of share                                                   |       | —           |       | 8,947            |       |
| Dividend  paid to shareholders                                                     |       | (5,625           | )          | (1,280           | )          |
| Increase  in amounts due from shareholders                                         |       | (246             | )          | 398              |       |
|                                                                               |       |             |       |             |       |
| Net  cash (used in)/provided by financing activities                               |       | (16,871          | )          | 13,065           |       |
|                                                                               |       |             |       |             |       |
| Net  (decrease)/increase in cash and cash equivalents                              |       | (6,949           | )          | 4,728            |       |
| Cash  and cash equivalents, beginning of year                                      |       | 14,132           |       | 9,404            |       |
|                                                                               |       |             |       |             |       |
| Cash  and cash equivalents, end of year                                            |       | 7,183            |       | 14,132           |       |

 
| ** **                | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
|---------------------------|------------|------------------|------------|------------------|------------|
| Supplementary information |       |             |       |             |       |
| Interest received         |       | 99               |       | 118              |       |
| Interest paid             |       | (1,860           | )          | (2,124           | )          |
| Income taxes paid         |       | (1,058           | )          | (4,076           | )          |

 

The accompanying notes are an integral part ofthese consolidated financial statements.

 

F-37

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Table of Contents

 

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**CONSOLIDATEDSTATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY AND COMPREHENSIVE INCOME**

**FORTHE YEAR ENDED DECEMBER 31, 2009 AND 2008**

 
| ** **                                                                                  | ** ** | **Share**     | ** ** | **PRC**          | ** ** | ** **       | ** ** | **Non-**         | ** ** | ** **       | ** ** |
|---------------------------------------------------------------------------------------------|------------|---------------|------------|------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **                                                                                  | ** ** | **Number**    | ** ** | ** **       | ** ** | **statutory**    | ** ** | **Retained**     | ** ** | **controlling**  | ** ** | ** ** | ** ** |
| ** **                                                                                  | ** ** | **of shares** | ** ** | **Amount**       | ** ** | **reserves**     | ** ** | **earnings**     | ** ** | **interest**     | ** ** | **Total** | ** ** |
|                                                                                        |       |          |       | **RMB’000** |       | **RMB’000** |       | **RMB’000** |       | **RMB’000** |       | **RMB’000** |   |
|                                                                                        |       |          |       |             |       |             |       |             |       |             |       |   |   |
| Balance as of January 1,  2009                                                         |       | 11,250,000    |       | 11,250           |       | 27,600           |       | 35,160           |       | 608              |       | 74,618 |   |
|                                                                                        |       |          |       |             |       |             |       |             |       |             |       |   |   |
| Net income                                                                                  |       | —        |       | —           |       | —           |       | 18,562           |       | 136              |       | 18,698 |   |
|                                                                                        |       |          |       |             |       |             |       |             |       |             |       |   |   |
| Total comprehensive income                                                                  |       |          |       |             |       |             |       |             |       |             |       | 18,698 |   |
|                                                                                        |       |          |       |             |       |             |       |             |       |             |       |   |   |
| Retained earnings attributed  to non-controlling interest in an acquisition of a subsidiary |       | —        |       | —           |       | —           |       | —           |       | 400              |       | 400 |   |
|                                                                                        |       |          |       |             |       |             |       |             |       |             |       |   |   |
| Dividends                                                                                   |       | —        |       | —           |       | —           |       | (5,625           | )          | —           |       | (5,625 | ) |
|                                                                                        |       |          |       |             |       |             |       |             |       |             |       |   |   |
| Transfer to reserve                                                                         |       | —        |       | —           |       | 1,861            |       | (1,861           | )          | —           |       | — |   |
|                                                                                        |       |          |       |             |       |             |       |             |       |             |       |   |   |
| Balance as of December 31,  2009                                                       |       | 11,250,000    |       | 11,250           |       | 29,461           |       | 46,236           |       | 1,144            |       | 88,091 |   |

 

 
| ** **                            | ** ** | **Share**       | ** ** | **PRC**          | ** ** | ** **       | ** ** | **Non-**         | ** ** | ** **       | ** ** |
|---------------------------------------|------------|-----------------|------------|------------------|------------|------------------|------------|------------------|------------|------------------|------------|
| ** **                            | ** ** | **Number**      | ** ** | ** **       | ** ** | **statutory**    | ** ** | **Retained**     | ** ** | **controlling**  | ** ** | ** ** | ** ** |
| ** **                            | ** ** | **of shares**   | ** ** | **Amount**       | ** ** | **reserves**     | ** ** | **earnings**     | ** ** | **interest**     | ** ** | **Total** | ** ** |
| ** **                            | ** ** | ** **      | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| ** **                            | ** ** | **(Unaudited)** | ** ** | **(Unaudited)**  | ** ** | **(Unaudited)**  | ** ** | **(Unaudited)**  | ** ** | **(Unaudited)**  | ** ** | **(Unaudited)** | ** ** |
|                                  |       |            |       |             |       |             |       |             |       |             |       |   |   |
| Balance as of January 1,  2008   |       | 10,000,000      |       | 10,000           |       | 19,900           |       | 36,391           |       | 599              |       | 66,890 |   |
|                                  |       |            |       |             |       |             |       |             |       |             |       |   |   |
| Net income                            |       | —          |       | —           |       | —           |       | 52               |       | 9                |       | 61 |   |
|                                  |       |            |       |             |       |             |       |             |       |             |       |   |   |
| Total comprehensive income            |       |            |       |             |       |             |       |             |       |             |       | 61 |   |
|                                  |       |            |       |             |       |             |       |             |       |             |       |   |   |
| Capital injection                     |       | 1,250,000       |       | 1,250            |       | 7,697            |       | —           |       | —           |       | 8,947 |   |
|                                  |       |            |       |             |       |             |       |             |       |             |       |   |   |
| Dividends                             |       | —          |       | —           |       | —           |       | (1,280           | )          | —           |       | (1,280 | ) |
|                                  |       |            |       |             |       |             |       |             |       |             |       |   |   |
| Transfer to reserve                   |       | —          |       | —           |       | 3                |       | (3               | )          | —           |       | — |   |
|                                  |       |            |       |             |       |             |       |             |       |             |       |   |   |
| Balance as of December 31,  2008 |       | 11,250,000      |       | 11,250           |       | 27,600           |       | 35,160           |       | 608              |       | 74,618 |   |

 

The accompanying notes are an integral part ofthese consolidated financial statements.

 

F-38

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Table ofContents

 

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**1****                                        ****Organisationand principal activities**

 

Zhejiang Jiahuan Electronic Co., Ltd.  (“the Company”) was established in the People’sRepublic of China (“PRC”) as a limited liability company.  The principal activities of theCompany are design, manufacturing and sales of automaticcontrol systems and electric voltage control equipment for electrostaticprecipitators (air purification equipment).

 

Particulars of the Company’s subsidiariesare summarised as follows:

 
| **Name**                                                        | ** ** | **Percentage********of equity********ownership** | ** ** | **Place of********incorporation** | ** ** | **Principal activities**                                          |
|-----------------------------------------------------------------|------------|--------------------------------------------------|------------|-----------------------------------|------------|-------------------------------------------------------------------|
|                                                            |       |                                             |       |                              |       |                                                              |
| Jinhua Jiahuan Puzhau New Energy Technology Co., Ltd.      |       | 80                                               | %          | PRC                               |       | Design,  manufacture andsales of solar  and wind power  equipment |
|                                                            |       |                                             |       |                              |       |                                                              |
| Zhejiang Jiahuan Xinyu Environmental Protection  Co., Ltd. |       | 70                                               | %          | PRC                               |       | Design,  manufacture andservicing of environmental equipment      |

 

**2****                                        ****Summary of significant accounting policies**

 

(a)**                                 ****Basis ofConsolidation**

 

Theconsolidated financial statements include the accounts of the Company and itssubsidiaries (collectively, “the Group”). In preparing the consolidated financial statements presented herewith,all significant intercompany balances and transactions have been eliminated on consolidation.

 

(b)**                                ****Subsidiaries**

 

A subsidiary is acompany in which the Company holds, directly or indirectly, more than 50% ofits outstanding voting share capital and over which it is able to exercisecontrol.

 

(c)**                                 ****RevenueRecognition**

 

Revenuefrom sale of automatic control systems, electric voltage controlequipment, environmental equipment, and solar and wind power equipment is recognised when theproduct is delivered and the title is transferred.  For certain products where installation isnecessary, revenue is recognised upon completion of installation.

 

(d)                                 **Research and Development Costs**

 

Researchand development costs (“R&D” costs) are expensed as incurred.  The R&D costs amounted to approximately RMB4,368,000and RMB4,054,000 for the year ended December 31, 2009 and 2008respectively and were included in “Selling and Administrative” expenses in theGroup’s consolidated statement of income.

 

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Table ofContents

 

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**2****                                        ****Summary of important accounting policies - Continued**

 

(e)**                                 ****Taxation**

 

TheGroup accounts for income and deferred tax under the provision of FASB ASCSubtopic 740-10, Income Taxes, (previously Statement of FinancialAccounting Standards (“SFAS”) No. 109: “Accounting for Income Taxes”).  Deferred tax assets and liabilities arerecognised for the estimated future tax consequences attributable todifferences between the financial statement carrying amounts of existing assetsand liabilities and their respective tax bases. ASC 740-10 also requires the recognition of the future tax benefits ofnet operating loss carry forwards.  Avaluation allowance is established when the deferred tax assets are notexpected to be realised within a reasonable period of time.

 

Note 4 shows the applicable tax rates for theCompany and its subsidiaries, as well as the major temporary differences sorecorded.

 

(f)**                                   ****Cash and Cash Equivalents**

 

Cash and cash equivalents include cash on hand,demand deposits with banks.

 

(g)**                                ****Investments**

 

Investments comprise marketable securities which are classified asavailable-for-sale securities and are carried at fair value with unrealisedgains and losses, net of taxes, reported as a separate component ofshareholders’ equity (deficit). The Company determines any realised gains orlosses on the sale of marketable securities on a specific identificationmethod, and records such gains and losses as a component of other income(expense), net in the consolidated statement of income.

 

(h)**                                ****Receivablesand Other Assets**

 

Receivables and other assets are recorded at theirnominal values.  Doubtful debtsallowances are provided for identified individual risks for these lineitems.  If the loss of a certain part ofthe receivables is probable, doubtful debts allowances are provided to coverthe expected loss. Receivables are written off against the allowance after allmeans of collection have been exhausted and the potential for recovery isconsidered remote.

 

(i)**                                    ****Inventories**

 

Inventories are stated at the lower of cost, on thefirst-in, first-out method, or market value. Costs include purchase and relatedcosts incurred in bringing each product to its present location andcondition.  Market value is calculatedbased on the estimated normal selling price, less further costs expected to beincurred for disposal.  Provision is madefor obsolete, slow moving or defective items, where appropriate.

 

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** **

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

** **

**2****                                        ****Summary of important accounting policies - Continued**

 

(j)**                                    ****Property,Plant and Equipment and Land Use Right**

 

Property, plant and equipment and land use right arestated at cost less accumulated depreciation and amortisation. Gains or losseson disposal are reflected in current operations.  Major expenditures for betterments andrenewals are capitalised.  All ordinaryrepair and maintenance costs are expensed as incurred.

 

Land in the PRC is owned by the PRC government. Thegovernment in the PRC, according to PRC law, may sell the right to use the landfor a specified period of time. Thus, all of the Group’s land purchases in thePRC are considered to be leasehold land and classified as land use right. Theyare amortised on a straight-line basis over the respective term of the right touse the land. The period for right to use was 50 years.

 

Construction in progress is stated at cost lessimpairment losses. Cost comprises direct costs of construction as well as borrowingcosts capitalised during the periods of construction and installation.Capitalisation of these costs ceases and the construction in progress istransferred to the appropriate class of property, plant and equipment whensubstantially all the activities necessary to prepare the assets for theirintended use are completed. No depreciation is provided for in respect ofconstruction in progress until it is completed and ready for its intended use.

 

Depreciation of property, plant and equipment andamortisation of land use right are computed using the straight-line method overthe assets’ estimated useful lives as follows:

 
| Land use right                      |   | 50 years      |   |
|-------------------------------------|--------|---------------|--------|
| Buildings                           |   | 5 to 20 years |   |
| Furniture, fixtures and machineries |   | 3 to 10 years |   |
| Motor vehicles                      |   | 5 to 10 years |   |

 

(k)**                                 ****Impairment**

 

TheGroup has adopted FASB ASC Subtopic 360-10, Property, Plant, and Equipment, (previously SFAS No. 144: “Accounting for Impairmentor Disposal of Long-Lived Assets”) which requires impairment losses to berecorded for property, plant and equipment to be held and used in operationswhen indicators of impairment are present. Reviews are regularly performed to determine whether the carrying valueof assets is impaired.

 

F-41

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** **

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**2****                                        ****Summary of important accounting policies - Continued**

 

(k)**                                 ****Impairment-****Continued**

 

The Group determines theexistence of such impairment by measuring the expected cash flows (undiscountedand without interest charges) and comparing such amount to the carrying amountof the assets. An impairment loss, if one exists, is then measured as theamount by which the carrying amount of the asset exceeds the discountedestimated future cash flows. Assets to be disposed of are reported at the lowerof the carrying amount or fair value of such assets less costs to sell. Assetimpairment charges are recorded to reduce the carrying amount of the long-livedasset that will be sold or disposed of to their estimated fair values. Changesfor the asset impairment reduce the carrying amount of the long-lived assets totheir estimated salvage value in connection with the decision to dispose ofsuch assets.

 

The Group determined that therewere no impairment losses recorded during each of the two years ended      December 31, 2009 and 2008.

 

(l)**                                   ****Foreign CurrencyTranslation**

 

The Group maintains its books andrecords in Chinese Renminbi (“RMB”), which is the Group’s functionalcurrency.  Foreign currency transactions during the yearare translated into the functional currency at the applicable rates of exchangeat the dates of the transactions. Monetary assets and liabilities denominatedin foreign currencies are translated into the functional currency using theexchange rates prevailing at the balance sheet date.  Gains or losses from foreign currencytransactions are recognised in the consolidated statement of income during theyear in which they occur.

 

(m)**                             ****Comprehensive Income**

 

The Group has adoptedFASB ASC Subtopic 220-10, Comprehensive Income, (previously SFAS No. 130:  “Reporting Comprehensive Income,”) whichrequires the Group to report all changes in equity during a period, except forthose resulting from investment by owners and distribution to owners, in thefinancial statements for the period in which they are recognized.  The Group has presented comprehensive income,which encompasses net income, in the consolidated statement of changes inshareholders’ equity.

 

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**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**2****                                        ****Summary of important accounting policies - Continued**

 

(n)**                                ****Use ofEstimates**

 

The preparation of consolidatedfinancial statements in conformity with accounting principles generallyaccepted in the United States of America (“GAAP”) requires management to makeestimates and assumptions that affect the amounts that are reported in the consolidated financial statements andaccompanying disclosures.  Although theseestimates are based on management’s best knowledge of current events andactions that the Group may undertake in the future, actual results may bedifferent from the estimates.

 

(o)**                                ****RelatedParties**

 

Entities areconsidered to be related to the Company if the parties, directly or indirectly,through one or more intermediaries, control, are controlled by, or are undercommon control with the Group.  Relatedparties also include principal owners of the Group, its management, members ofthe immediate families of principal owners of the Group and its management andother parties with which the Group may deal if one party controls or cansignificantly influence the management or operating policies of the other to anextent that one of the transacting parties might be prevented from fullypursuing its own separate interests.  Aparty which can significantly influence the management or operating policies ofthe transacting parties or if it has an ownership interest in one of thetransacting parties and can significantly influence the other to an extent thatone or more of the transacting parties might be prevented from fully pursuingits own separate interests is also a related party.

 

(p)**                                ****Recent Accounting Pronouncements**

 

In May 2009,the FASB issued SFAS No. 165, Subsequent Events (now codified within ASC855-10, Subsequent Events (“ASC 855-10”)). ASC 855-10 provides general standards of accounting for and disclosureof events that occur after the balance sheet date but before financialstatements are issued or are available to be issued. ASC 855-10 is applicablefor interim or annual periods after June 15, 2009.  In January 2010, the FASB issuedAccounting Standards Update (“ASU”) No. 2010-09, “Subsequent Events”,which is codified as ASC 855, “Amendments to Certain Recognition and DisclosureRequirements”. This update amends the ASC855-10, to replace the term “publicentity” with the term “an SEC filer”, in order to avoid potential conflict withsome of the Securities and Exchange Commission’s (SEC) guidance. All of theamendments in this update are effective immediately. The application of ASC 855did not have a material effect on the Company’s consolidated financialstatements.

 

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**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**2****                                        ****Summary of important accounting policies - Continued**

 

(p)**                                ****Recent Accounting Pronouncements****- Continued**

 

InJune 2009, the FASB issued SFAS No. 168, “The FASB AccountingStandards Codification and the Hierarchy of Generally Accepted AccountingPrinciples”, (now codified within ASC 105, Generally Accepted AccountingPrinciples (“ASC 105”)). ASC 105 establishes the Codification as the singlesource of authoritative GAAP recognised by the FASB to be applied bynongovernmental entities. All guidance contained in the Codification carries anequal level of authority. Following this statement, FASB will not issue newstandards in the form of statements, FASB Staff Positions, or Emerging IssuesTask Force Abstracts. Instead, it will issue Accounting Standards Updates,which will serve only to: (1) update the Codification; (2) providebackground information about the guidance; and (3) provide the bases for conclusionson the change(s) in the Codification. ASC 105 was effective for financialstatements issued for interim and annual periods ending afterSeptember 15, 2009. The Codification supersedes all existing non-SECaccounting and reporting standards. The adoption of ASC 105 did not have animpact on the Company’s consolidated results of operations or financialposition.

 

InAugust 2009, FASB issued ASU 2009-5 Fair Value Measurements andDisclosures (Topic 820) Measuring Liabilities at Fair Value (“ASU 2009-5”). ASU2009-5 provides amendments to Subtopic 820-10, Fair Value Measurements andDisclosures-Overall, for the fair value measurement of liabilities. ASU 2009-5clarifies that in circumstances in which a quoted price in an active market forthe identical liability is not available, a reporting entity is required tomeasure fair value. ASU 2009-5 was effective for the Company for interim andannual periods ending after September 30, 2009. The adoption of ASU 2009-5did not have a material impact on the Company’s consolidated results ofoperations or financial position.

 

InDecember 2009, FASB issued ASU 2009-17 Consolidations (Topic 810)Improvements to Financial Reporting by Enterprises Involved with VariableInterest Entities (“ASU 2009-17”). ASU 2009-17 amends the FASB ASC for theissuance of FASB Statement No. 167, Amendments to FASB InterpretationNo. 46(R). The amendments in ASU 2009-17 replace the quantitative-basedrisks and rewards calculation for determining which enterprise, if any, has acontrolling financial interest in a variable interest entity with an approachfocused on identifying which enterprise has the power to direct the activitiesof a variable interest entity that most significantly impact the entity’seconomic performance and (1) the obligation to absorb losses of the entityor (2) the right to receive benefits from the entity. ASU 2009-17 alsorequires additional disclosures about an enterprise’s involvement in variableinterest entities. ASU 2009-17 is effective as of the beginning of eachreporting entity’s first annual reporting period that begins afterNovember 15, 2009. The Company does not expect the adoption of ASU 2009-17to have a material impact on its consolidated results of operations orfinancial position.

 

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Table ofContents

 

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**2****                                        ****Summary of important accounting policies - Continued**

 

(p)**                                ****Recent Accounting Pronouncements****- Continued**

 

InJanuary 2010, FASB issued ASU 2010-01, Entity, which is codified asASC505, “Accounting for Distributions to Shareholders with Components of Stockand Cash (A Consensus of the FASB Emerging Issues Task Force)”. The amendmentsin this Update clarify that the stock portion of a distribution to shareholdersthat allow them to elect to receive cash or shares with a potential limitationon the total amount of cash that all shareholders can elect to receive in theaggregate is considered a share issuance thus eliminating the diversity inpractice. The amendments in this Update are effective for interim and annualperiods ending on or after December 15, 2009, and should be applied on aretrospective basis. The application of ASC 505 did not have a material effecton the Company’s consolidated financial statements.

 

InJanuary 2010, FASB issued ASU 2010-02 Accounting and Reporting forDecreases in Ownership of a Subsidiary- a Scope Clarification (“ASU 2010-2”). ASU2010-2 addresses implementation issues related to the changes in ownershipprovisions in the Consolidation—Overall Subtopic (Subtopic 810-10) of the FASBAccounting Standards Codification , originally issued as FASB StatementNo. 160, Noncontrolling Interests in Consolidated Financial Statements.Subtopic 810-10 establishes the accounting and reporting guidance fornoncontrolling interests and changes in ownership interests of a subsidiary. Anentity is required to deconsolidate a subsidiary when the entity ceases to havea controlling financial interest in the subsidiary. Upon deconsolidation of asubsidiary, an entity recognises a gain or loss on the transaction and measuresany retained investment in the subsidiary at fair value. The gain or loss includesany gain or loss associated with the difference between the fair value of theretained investment in the subsidiary and its carrying amount at the date thesubsidiary is deconsolidated. In contrast, an entity is required to account fora decrease in ownership interest of a subsidiary that does not result in achange of control of the subsidiary as an equity transaction. ASU 2010-2 iseffective for the Company starting January 1, 2010. The Company does notexpect the adoption of ASU 2010-2 to have a material impact on the Company’sconsolidated results of operations or financial position.

 

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Table ofContents

 

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**2****                                        ****Summary of important accounting policies - Continued**

 

(p)**                                ****Recent Accounting Pronouncements -Continued**

 

InJanuary 2010, FASB issued ASU 2010-6 Improving Disclosures about FairMeasurements (“ASU 2010-6”). ASU 2010-6 provides amendments to subtopic 820-10that require separate disclosure of significant transfers in and out of Level 1and Level 2 fair value measurements and the presentation of separateinformation regarding purchases, sales, issuances and settlements for Level 3fair value measurements. Additionally, ASU 2010-6 provides amendments tosubtopic 820-10 that clarify existing disclosures about the level ofdisaggregation and inputs and valuation techniques. ASU 2010-6 is effective forfinancial statements issued for interim and annual periods ending afterDecember 15, 2010. The Company does not expect the adoption of ASU 2010-06to have a material impact on its consolidated results of operations orfinancial position.

 

The Group doesnot believe that any other of the recently issued and adopted, but not yeteffective, accounting standards would have a material effect on theaccompanying financial statements.

 

**3****                                        ****Other income, net**

 
| ** **                      | ** ** | ** ** | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|---------------------------------|------------|------------|------------|------------------|------------|------------------|------------|
| ** **                      | ** ** | **Note**   | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **                      | ** ** | ** ** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
|                            |       |       |       |             |       |             |       |
| Exchange gain, net              |       |       |       | 1                |       | —           |       |
| Gain on disposal of land        |       | (i)        |       | 14,892           |       | —           |       |
| Gain on disposal of investments |       |       |       | 883              |       | —           |       |
| Rental income                   |       | (ii)       |       | 73               |       | —           |       |
| Subsidy  from government        |       | (iii)      |       | 100              |       | 310              |       |
|                            |       |       |       |             |       |             |       |
|                            |       |       |       | 15,949           |       | 310              |       |

 

----

(i)                  The amount represents compensation from PRCgovernment in respect of the recall of the Company’s land, of which, cash ofRMB7,000,000 was received from the PRC government during the year. Theremaining balance of approximately RMB7,892,000, as included in other receivable(note 6), is received subsequent to the year end.

 

(ii)               Rental incomeunder operating leases is recognised on a straight-line basis over the term ofthe relevant lease.

 

(iii)            The Grouprecognises subsidy income when granted by local government authority and arenot subject to future return or reimbursement.

 

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** **

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

** **

**4****                                        ****Income taxes**

 

The Groupprovides for PRC Enterprise Income Tax (“EIT”) at a rate of 25% on the basis ofits income for financial reporting purposes, adjusting for income and expenseitems which are not assessable or deductible for PRC EIT purposes. The Companywas recognised as one of the 2008 Hangzhou New and High Technical Enterprise,and is entitled to tax concession to pay a lower tax rate of 15% over 3 years,beginning in 2008.

 

Theprovision for income tax consists of:

 
| ** **      | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|-----------------|------------|------------------|------------|------------------|------------|
| ** **      | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **      | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
|            |       |             |       |             |       |
| Current PRC EIT |       | 1,080            |       | 1,065            |       |
|            |       |             |       |             |       |
| Income  taxes   |       | 1,080            |       | 1,065            |       |

 

The principal reconcilingitems from income tax computed at the statutory rate and at the effectiveincome tax rate are stated as follows:

 
| ** **                                                     | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|----------------------------------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                                                     | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **                                                     | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
|                                                           |       |             |       |             |       |
| Income before income taxes                                     |       | 19,778           |       | 1,126            |       |
|                                                           |       |             |       |             |       |
| Computed tax at respective company’s statutory rate       |       | 3,030            |       | 179              |       |
| Tax effect on revenue not subject to tax                       |       | (2,400           | )          | —           |       |
| Tax effect on expenses not deductible for tax purposes         |       | 447              |       | 89               |       |
| Tax effect on tax loss not recognised                          |       | 18               |       | —           |       |
| Utilisation of temporary differences previously not recognised |       | —           |       | 797              |       |
| Others                                                         |       | (15              | )          | —           |       |
|                                                           |       |             |       |             |       |
| Total provision for income at effective rate                   |       | 1,080            |       | 1,065            |       |

 

Deferred tax assets/(liabilities) as of December 31,2009 are as follows:

 
| ** **                                                  | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|-------------------------------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                                                  | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **                                                  | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| Deferred tax arising from tax losses                        |       | 18               |       | —           |       |
| Deferred tax arising from deductible  temporary differences |       | 1,548            |       | 1,260            |       |
| Less: Valuation allowances                                  |       | (1,566           | )          | (1,260           | )          |
|                                                        |       |             |       |             |       |
|                                                        |       | —           |       | —           |       |

 

The Grouphas recorded a valuation allowance against certain deferred tax assets due touncertainty surrounding the realisation of these assets. The valuationallowance is related to certain tax losses and the deductible temporarydifferences due to the unpredictability of future profit streams. Due to theuncertainty surrounding future capital gains, management believes it is morelikely than not that these assets will not be realised. The tax losses can becarried forward for a period of five years, which will be expiring on January 1,2015. The deductible temporary differences can be carried forward indefinitely.

 

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**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**5****                                        ****Accountsreceivable, net**

 
| ** **                          | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|-------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                          | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **                          | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
|                                |       |             |       |             |       |
| Trade receivables                   |       | 77,421           |       | 72,939           |       |
| Less:  Allowance for doubtful debts |       | (10,341          | )          | (8,590           | )          |
|                                |       |             |       |             |       |
|                                |       | 67,080           |       | 64,349           |       |

 
| ** **                      | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|---------------------------------|------------|------------------|------------|------------------|------------|
| ** **                      | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **                      | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| Allowance for doubtful debts:   |       |             |       |             |       |
| Balance at beginning            |       | 8,590            |       | 5,062            |       |
| Charged  to statement of income |       | 2,458            |       | 3,528            |       |
| Recovered                       |       | (707             | )          | —           |       |
|                            |       |             |       |             |       |
|                            |       | 10,341           |       | 8,590            |       |

 

**6****                                        ****Otherreceivables**

 
| ** **                                                                 | ** ** | ** **       | ** ** | **(Unaudited)**  | ** ** |
|----------------------------------------------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                                                                 | ** ** | **2009**         | ** ** | **2008**         | ** ** |
| ** **                                                                 | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
|                                                                       |       |             |       |             |       |
| Prepayments and other receivables                                          |       | 2,426            |       | 2,124            |       |
| Compensation receivable from PRC government  for disposal of land (note 3) |       | 7,892            |       | —           |       |
| Deposits                                                                   |       | 1,963            |       | 3,014            |       |
|                                                                       |       |             |       |             |       |
|                                                                       |       | 12,281           |       | 5,138            |       |

 

**7****                                        ****Investments**

 
| ** **                      | ** ** | **2009**         | ** ** |
|---------------------------------|------------|------------------|------------|
| ** **                      | ** ** | **Amortised**    | ** ** | **Gross unrealised** | ** ** | **Fair** | ** ** |
| ** **                      | ** ** | **cost**         | ** ** | **Gains** | ** ** | **Losses** | ** ** | **Value** | ** ** |
| ** **                      | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| Short  term listed investments: |       |             |       |   |   |   |   |   |   |
| Equity securities               |       | 8,200            |       | — |   | — |   | 8,200 |   |
|                            |       |             |       |   |   |   |   |   |   |
| Long  term investment:          |       |             |       |   |   |   |   |   |   |
| Unlisted  investment            |       | 69               |       | — |   | — |   | 69 |   |

 
| ** **                      | ** ** | **(Unaudited)**  | ** ** |
|---------------------------------|------------|------------------|------------|
| ** **                      | ** ** | **2008**         | ** ** |
| ** **                      | ** ** | **Amortised**    | ** ** | **Gross unrealised** | ** ** | **Fair** | ** ** |
| ** **                      | ** ** | **cost**         | ** ** | **Gains** | ** ** | **Losses** | ** ** | **Value** | ** ** |
| ** **                      | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| Short  term listed investments: |       |             |       |   |   |   |   |   |   |
| Equity securities               |       | 200              |       | — |   | — |   | 200 |   |
|                            |       |             |       |   |   |   |   |   |   |
| Long  term investment:          |       |             |       |   |   |   |   |   |   |
| Unlisted  investment            |       | 518              |       | — |   | — |   | 518 |   |

 

The balance of investments have their market values close to their bookbalance.

 

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**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**8****                                        ****Inventories**

 
| ** **        | ** ** | **2009**         | ** ** | **(Unaudited)  2008** | ** ** |
|-------------------|------------|------------------|------------|-----------------------|------------|
| ** **        | ** ** | **RMB’000** | ** ** | **RMB’000**      | ** ** |
|              |       |             |       |                  |       |
| Raw materials     |       | 5,374            |       | 3,682                 |       |
| Work  in progress |       | 6,543            |       | 13,032                |       |
| Finished  goods   |       | 5,134            |       | 6,326                 |       |
|              |       |             |       |                  |       |
|              |       | 17,051           |       | 23,040                |       |

 

**9****                                        ****Property,plant and equipment, net**

 
| ** **                          | ** ** | **2009**         | ** ** | **(Unaudited)  2008** | ** ** |
|-------------------------------------|------------|------------------|------------|-----------------------|------------|
| ** **                          | ** ** | **RMB’000** | ** ** | **RMB’000**      | ** ** |
|                                |       |             |       |                  |       |
| Buildings                           |       | 25,065           |       | 24,937                |       |
| Construction in progress            |       | 177              |       | 95                    |       |
| Furniture, fixtures and machineries |       | 8,749            |       | 9,896                 |       |
| Motor  vehicles                     |       | 1,720            |       | 1,720                 |       |
|                                |       | 35,711           |       | 36,648                |       |
| Less:  Accumulated depreciation     |       | (10,282          | )          | (9,502                | )          |
|                                |       |             |       |                  |       |
|                                |       | 25,429           |       | 27,146                |       |
|                                |       |             |       |                  |       |
| Depreciation  charge                |       | 2,099            |       | 2,074                 |       |

 

Construction in progress is in relation to the Group’snew factory which is currently under construction, and will be depreciated oncethe property is complete and available for use. The estimated cost tocompletion which the Group is contractually committed, is approximatelyRMB3,223,000.

 

Buildings with a total cost of approximately RMB18,803,000as of December 31, 2009 were pledged, along with the land use right asdiscussed below, to secure the short-term loans. In 2008, only the buildings,with the same total cost, were pledged to secure the short-term loans.

 

**10****                                 ****Landuse right, net**

 
| ** **                      | ** ** | **2009**         | ** ** | **(Unaudited)  2008** | ** ** |
|---------------------------------|------------|------------------|------------|-----------------------|------------|
| ** **                      | ** ** | **RMB’000** | ** ** | **RMB’000**      | ** ** |
|                            |       |             |       |                  |       |
| Land use right                  |       | 8,018            |       | 8,018                 |       |
| Less:  Accumulated amortisation |       | (588             | )          | (415                  | )          |
|                            |       |             |       |                  |       |
|                            |       | 7,430            |       | 7,603                 |       |
|                            |       |             |       |                  |       |
| Amortisation  charge            |       | 173              |       | 180                   |       |

 

Land use right with a carrying amount ofapproximately RMB5,487,000 as of December 31, 2009 was pledged, along withthe buildings discussed above, to secure the short-term loans. In 2008, theland use right was not pledged as security for any debt.

 

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**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**11****                                 ****Otherpayables and accrued expenses**

 

Other payables and accrued expenses mainly representdeposits received from customers, other taxes payable and accruals foroperating expenses.

 

**12****                                 ****Shortterm loans**

 

The short term loans as of December 31, 2009bear interest at fixed rates ranging from 4.86% to 5.841% per annum withmaturity dates ranging from April 5, 2010 to November 11, 2010 andare secured by the Company’s buildings and land use right. Interest paid duringthe year ended December 31, 2009 and 2008 were approximately RMB1,860,000and RMB2,124,000 respectively.

 

**13****                                 ****Dividendsto shareholders**

 

In the fiscal year ended December 31, 2009 and2008, the Company declared dividends of RMB5,625,000 and RMB1,280,000respectively to the shareholders.

 

**14****                                 ****Relatedparty**

 

**Amountsdue from shareholders and amount due to a related company**

 

The amounts due from shareholders and amount due toa related company do not bear any interest, unsecured anddo not have clearly defined terms ofrepayment.

 

**15****                                 ****Otherlong term liabilities**

 

Other long term liabilities represent accrued staffbenefits and subsidies received from the government in relation to an agreementto meet certain profit and turnover targets until the balance can be recognisedas reserves of the Group. As the targets are yet to be met, the balanceremained in other long term liabilities.

 

**16****                                 ****PRC statutoryreserves**

 

Under the relevant PRC laws and regulations, the Groupis required to appropriate certain percentage of their respective net income totwo statutory funds, namely the statutory reserve fund and the statutory staffwelfare fund.

 

(i) Statutory reserve funds

 

Pursuant to applicable PRC laws and regulations, theGroup is required to allocate at least 10% of the companies’ net income to thestatutory reserve funds until such funds reaches 50% of the companies’registered capital. The statutory reserve funds can be utilised upon theapproval by the relevant authorities, to offset accumulated losses or toincrease registered capital of the companies, provided that such funds bemaintained at a minimum of 25% of the companies’ registered capital.

 

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** **

**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

** **

**16****                                 ****PRCreserves - Continued**

 

(ii) Statutory welfare funds

 

Pursuant to applicable PRC laws and regulations, theGroup is required to allocate certain amount of the companies’ net income tothe staff welfare funds determined by the Company. The staff welfare funds canonly be used to provide staff welfare facilities and other collective benefitsto the companies’ employees. This fund is non-distributable other than uponliquidation of the Group.

 

**17****                                 ****Establishmentof subsidiary**

 

In 2009, the Company has established and invested80% of equity interests in Jinhua Jiahuan Puzhau New Energy Technology Co., Ltd.,a company newly incorporated in the PRC in 2009, for a total consideration of RMB1,600,000.  The details of the subsidiary is disclosed innote 1.

 

**18****                                 ****Pension plan**

 

As stipulated by the rules and regulations inthe PRC, the Group contributes to the state-sponsored retirement plans for itsemployees in Mainland China.  The Groupcontributes approximately 26% of the basic salaries of its employees, and hasno further obligations for the actual payment of pension or post-retirementbenefits beyond the annual contributions. The state-sponsored retirement plans are responsible for the entirepension obligations payable to retired employees.

 

During the year ended December 31, 2009 and2008, the aggregate contributions of the Group to the aforementioned pensionplans and retirement benefit schemes were approximately RMB1,243,000 and RMB1,639,000respectively.

 

**19****                                 ****Risk Factor and DerivativeInstruments**

 

Financial risk factors

 

The Group’s activities expose itself mainly tocredit risk.

 

Credit risk

 

The Group has no significant concentration ofcredit risk.  The Group has policies inplace to ensure that sales of products are made to customers with anappropriate credit history.  The Grouphas policies that limit the amount of credit exposure to any customers.Derivative counterparties and cash transactions are limited to high creditquality banks.

 

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**ZHEJIANGJIAHUAN ELECTRONIC CO., LTD.**

 

**NOTESTO THE CONSOLIDATED FINANCIAL STATEMENTS**

 

**20****                                 ****Fair value of financial instruments**

 

The carrying values of financial instruments, whichconsist of cash and cash equivalents, accounts receivable and accounts payable,other receivables and payables, balances with shareholders and a related company,and short and long term investments approximate their fair values due to theshort-term nature of these instruments.

 

**21****                                 ****Subsequent events**

 

The Group evaluated all events or transactions thatoccurred after December 31, 2009 up through June 28, 2010, the datethe Group issued these consolidated financial statements. During this period,the Group did not have any material recognisable subsequent events.

 

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**ZHEJIANGTIANLAN ENVIRONMENTAL PROTECTION TECHNOLOGY COMPANY****LIMITED**

 

**AUDITED CONSOLIDATED BALANCESHEETS**

 

**AS OF DECEMBER 31, 2009 AND 2008********AND**

 

**CONSOLIDATED STATEMENTS OFINCOME,**

 

**CASH FLOWS AND CHANGES INSHAREHOLDERS’ EQUITY**

 

**FOR THE YEARS ENDED DECEMBER 31,2009 AND 2008**

 

**TOGETHER WITH REPORT OFINDEPENDENT REGISTERED**

 

**PUBLIC ACCOUNTING FIRM**

 

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**Report of Independent Registered Public Accounting Firm**

 

To the Board of Directorsand owners of

ZhejiangTianlan Environmental Protection Technology Company Limited

 

We have audited theaccompanying consolidated balance sheets of Zhejiang Tianlan EnvironmentalProtection Technology Company Limited as of December 31, 2009 and 2008 andthe related consolidated statements of income, shareholders’ equity and cashflows for the years ended December 31, 2009 and 2008. These financialstatements are the responsibility of the Company’s management.  Our responsibility is to express an opinionon these financial statements based on our audits.

 

We conducted our audits inaccordance with standards of the Public Company Accounting Oversight Board(United States).  Those standards requirethat we plan and perform the audits to obtain reasonable assurance aboutwhether the financial statements are free of material misstatement.  The Company is not required to have, nor werewe engaged to perform, an audit of its internal control over financialreporting.  Our audits includedconsideration of internal control over financial reporting as a basis fordesigning audit procedures that are appropriate in the circumstances, but notfor the purpose of expressing an opinion on the effectiveness of the Company’sinternal control over financial reporting. Accordingly, we express no suchopinion. An auditalso includes examining, on a test basis, evidence supporting the amounts anddisclosures in the financial statements, assessing the accounting principlesused and significant estimates made by management, as well as evaluating theoverall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

 

In our opinion, theconsolidated financial statements referred to above present fairly, in allmaterial respects, the consolidated financial position of Zhejiang TianlanEnvironmental Protection Technology Company Limited as of December 31,2009 and 2008 and the results of its operations and its cash flows for theyears ended December 31, 2009 and 2008, in conformity with accountingprinciples generally accepted in the United States of America.

 

 

/s/ BDO Limited

BDO Limited

 

Hong Kong, June 28, 2010

 

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**ZHEJIANG TIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**CONSOLIDATED BALANCE SHEETS**

**AS OF DECEMBER 31, 2009 AND 2008**

 
| ** **                                                                                           | ** ** | **Note**   | ** ** | **200****9**         | ** ** | **2008**             | ** ** |
|------------------------------------------------------------------------------------------------------|------------|------------|------------|----------------------|------------|----------------------|------------|
| ** **                                                                                           | ** ** | ** ** | ** ** | **RMB****’000** | ** ** | **RMB****’000** | ** ** |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Assets                                                                                               |       |       |       |                 |       |                 |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Current  assets:                                                                                     |       |       |       |                 |       |                 |       |
| Cash  and cash equivalents                                                                           |       |       |       | 13,031               |       | 9,906                |       |
| Accounts  receivable, net                                                                            |       | 6          |       | 73,412               |       | 77,697               |       |
| Amounts due from owners                                                                              |       | 15         |       | 308                  |       | 303                  |       |
| Prepayments  and other current assets                                                                |       |       |       | 15,787               |       | 19,107               |       |
| Inventories,  net                                                                                    |       | 7          |       | 1,720                |       | 2,058                |       |
| Income  taxes recoverable                                                                            |       |       |       | 969                  |       | 96                   |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Total  current assets                                                                                |       |       |       | 105,227              |       | 109,167              |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Property,  plant and equipment, net                                                                  |       | 8          |       | 45,293               |       | 35,882               |       |
| Deferred  tax assets                                                                                 |       |       |       | 823                  |       | 219                  |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Total  assets                                                                                        |       |       |       | 151,343              |       | 145,268              |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Liabilities  and owners’  equity                                                                |       |       |       |                 |       |                 |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Current  liabilities:                                                                                |       |       |       |                 |       |                 |       |
| Short term borrowings                                                                                |       | 9          |       | 6,300                |       | 7,200                |       |
| Accounts  payable                                                                                    |       |       |       | 26,794               |       | 19,405               |       |
| Amounts due to owner                                                                                 |       | 15         |       | 720                  |       | 8,691                |       |
| Other  payables and accrued expenses                                                                 |       | 10         |       | 19,064               |       | 16,631               |       |
| Other  taxes payable                                                                                 |       | 5          |       | 3,544                |       | 1,169                |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Total  current liabilities                                                                           |       |       |       | 56,422               |       | 53,096               |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Commitments  and contingencies                                                                       |       | 16         |       | —               |       | —               |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Owners’ equity:                                                                                 |       |       |       |                 |       |                 |       |
| Paid-in capital                                                                                      |       |       |       | 50,000               |       | 50,000               |       |
| Capital reserve                                                                                      |       | 12         |       | 11,374               |       | 11,274               |       |
| PRC  statutory reserves                                                                              |       | 11         |       | 7,675                |       | 6,152                |       |
| Retained  earnings                                                                                   |       |       |       | 21,771               |       | 23,435               |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Total  owners’  equity of Zhejiang Tianlan Environmental Protection Technology Company  Limited |       |       |       | 90,820               |       | 90,861               |       |
| Non-controlling  interest                                                                            |       |       |       | 4,101                |       | 1,311                |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Total  equity                                                                                        |       |       |       | 94,921               |       | 92,172               |       |
|                                                                                                 |       |       |       |                 |       |                 |       |
| Total  liabilities and owners’ equity                                                           |       |       |       | 151,343              |       | 145,268              |       |

 

The accompanyingnotes are an integral part of these financial statements.

 

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**ZHEJIANG TIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**CONSOLIDATED STATEMENTS OF INCOME**

**FOR THE YEARS ENDED DECEMBER 31,2009****AND****2008**

 
| ** **                                                                                                     | ** ** | **Note**   | ** ** | **200****9**         | ** ** | **200****8**         | ** ** |
|----------------------------------------------------------------------------------------------------------------|------------|------------|------------|----------------------|------------|----------------------|------------|
| ** **                                                                                                     | ** ** | ** ** | ** ** | **RMB****’000** | ** ** | **RMB****’000** | ** ** |
|                                                                                                           |       |       |       |                 |       |                 |       |
| Revenue                                                                                                        |       |       |       | 121,448              |       | 106,885              |       |
|                                                                                                           |       |       |       |                 |       |                 |       |
| Cost  of revenue                                                                                               |       |       |       | (96,891              | )          | (84,056              | )          |
|                                                                                                           |       |       |       |                 |       |                 |       |
| Gross  profit                                                                                                  |       |       |       | 24,557               |       | 22,829               |       |
|                                                                                                           |       |       |       |                 |       |                 |       |
| Selling  and administrative expenses                                                                           |       |       |       | (23,665              | )          | (14,288              | )          |
|                                                                                                           |       |       |       |                 |       |                 |       |
| Operating  income                                                                                              |       |       |       | 892                  |       | 8,541                |       |
| Interest  income                                                                                               |       |       |       | 70                   |       | 100                  |       |
| Interest  expenses                                                                                             |       |       |       | (1,410               | )          | (876                 | )          |
| Other  income, net                                                                                             |       | 3          |       | 4,106                |       | 2,328                |       |
|                                                                                                           |       |       |       |                 |       |                 |       |
| Income  before income taxes                                                                                    |       |       |       | 3,658                |       | 10,093               |       |
|                                                                                                           |       |       |       |                 |       |                 |       |
| Income  taxes                                                                                                  |       | 4          |       | (134                 | )          | (1,113               | )          |
|                                                                                                           |       |       |       |                 |       |                 |       |
| Net income                                                                                                     |       |       |       | 3,524                |       | 8,980                |       |
| Net  income attributable to non-controlling interest                                                           |       |       |       | (1,665               | )          | (962                 | )          |
|                                                                                                           |       |       |       |                 |       |                 |       |
| Net income attributable to Zhejiang Tianlan  Environmental Protection Technology Company Limited’s owners |       |       |       | 1,859                |       | 8,018                |       |

 

The accompanyingnotes are an integral part of these financial statements.

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**CONSOLIDATED STATEMENTS OF CASHFLOWS**

**FOR THE YEARS ENDED DECEMBER 31,2009 AND 2008**

 
| ** **                                                                          | ** ** | **200****9**         | ** ** | **2008**             | ** ** |
|-------------------------------------------------------------------------------------|------------|----------------------|------------|----------------------|------------|
| ** **                                                                          | ** ** | **RMB****’000** | ** ** | **RMB****’000** | ** ** |
| Cash flows from operating activities:                                               |       |                 |       |                 |       |
| Net income                                                                          |       | 3,524                |       | 8,980                |       |
| Adjustments to reconcile net income to net  cash provided by operating activities:  |       |                 |       |                 |       |
| Depreciation of property, plant and  equipment                                      |       | 1,430                |       | 1,152                |       |
| Loss on disposal of property, plant and  equipment                                  |       | 6                    |       | 19                   |       |
| Deferred tax  assets                                                                |       | (604                 | )          | (81                  | )          |
| (Increase)/decrease in current assets:                                              |       |                 |       |                 |       |
| Accounts receivable, net                                                            |       | 4,285                |       | (782                 | )          |
| Amounts due from  owners                                                            |       | (5                   | )          | (303                 | )          |
| Prepayments and other current assets                                                |       | 3,320                |       | 340                  |       |
| Inventories, net                                                                    |       | 338                  |       | (345                 | )          |
| Income taxes recoverable                                                            |       | (873                 | )          | (3,294               | )          |
| Increase/(decrease) in current liabilities:                                         |       |                 |       |                 |       |
| Accounts payable                                                                    |       | 7,389                |       | (1,458               | )          |
| Amounts due to owners                                                               |       | (7,971               | )          | 155                  |       |
| Other payables and accrued expenses                                                 |       | 2,433                |       | 193                  |       |
| Other taxes payable                                                                 |       | 2,375                |       | (41                  | )          |
|                                                                                |       |                 |       |                 |       |
| Net cash provided by operating activities                                           |       | 15,647               |       | 4,535                |       |
|                                                                                |       |                 |       |                 |       |
| Cash flows from investing activities:                                               |       |                 |       |                 |       |
| Purchase of property, plant and equipment                                           |       | (10,847              | )          | (19,000              | )          |
|                                                                                |       |                 |       |                 |       |
| Net cash used in investing activities                                               |       | (10,847              | )          | (19,000              | )          |
|                                                                                |       |                 |       |                 |       |
| Cash flows from financing activities:                                               |       |                 |       |                 |       |
| Repayment of  bank borrowings                                                       |       | (7,200               | )          | —               |       |
| Advance of bank  borrowings                                                         |       | 6,300                |       | 1,900                |       |
| Cash from  issuance of registered capital in subsidiary to non-controlling interest |       | 1,225                |       | —               |       |
| Capital  injection                                                                  |       | —               |       | 4,750                |       |
| Dividend paid to  owners                                                            |       | (2,000               | )          | (2,029               | )          |
|                                                                                |       |                 |       |                 |       |
| Net cash (used in)/provided by financing activities                                 |       | (1,675               | )          | 4,621                |       |
|                                                                                |       |                 |       |                 |       |
| Net increase/(decrease) in cash and cash equivalents                                |       | 3,125                |       | (9,844               | )          |
| Cash and cash equivalents, beginning of  year                                       |       | 9,906                |       | 19,750               |       |
|                                                                                |       |                 |       |                 |       |
| Cash and cash equivalents, end of year                                              |       | 13,031               |       | 9,906                |       |
|                                                                                |       |                 |       |                 |       |
| ** **                                                                          | ** ** | **RMB’000**     | ** ** | **RMB’000**     | ** ** |
| Supplementary information                                                           |       |                 |       |                 |       |
| Interest received                                                                   |       | 70                   |       | 100                  |       |
| Interest paid                                                                       |       | 1,207                |       | 664                  |       |
| Income taxes paid                                                                   |       | 1,614                |       | 4,487                |       |
|                                                                                |       |                 |       |                 |       |
| Non-cash  transactions                                                              |       |                 |       |                 |       |
| Accrued interest on amounts due to owners                                           |       | 203                  |       | 212                  |       |
| Capitalization of amounts due to owners                                             |       | —               |       | 264                  |       |

 

Theaccompanying notes are an integral part of these financial statements.

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**CONSOLIDATED STATEMENTS OFCHANGES IN SHAREHOLDERS’ EQUITY**

**FOR THE YEARS ENDED DECEMBER 31,2009 AND 2008**

 
| ** **                                                                             | ** ** | **Paid-in  capital** | ** ** | **Capital  reserve** | ** ** | **PRC  statutory  reserves** | ** ** | **Retained******** earnings** | ** ** | **Non-  controlling********interest** | ** ** | **Total**            | ** ** |
|----------------------------------------------------------------------------------------|------------|----------------------|------------|----------------------|------------|------------------------------|------------|------------------------------------|------------|---------------------------------------|------------|----------------------|------------|
| ** **                                                                             | ** ** | **RMB****’000** | ** ** | **RMB****’000** | ** ** | **RMB****’000**         | ** ** | **RMB****’000**               | ** ** | **RMB****’000**                  | ** ** | **RMB****’000** | ** ** |
|                                                                                   |       |                 |       |                 |       |                         |       |                               |       |                                  |       |                 |       |
| Balance as of  January 1, 2008                                                    |       | 25,926               |       | 30,334               |       | 4,099                        |       | 27,470                             |       | 349                                   |       | 88,178               |       |
| Net income                                                                             |       | —               |       | —               |       | —                       |       | 8,018                              |       | 962                                   |       | 8,980                |       |
|                                                                                   |       |                 |       |                 |       |                         |       |                               |       |                                  |       |                 |       |
| Total comprehensive  income                                                            |       |                 |       |                 |       |                         |       |                               |       |                                  |       | 8,980                |       |
|                                                                                   |       |                 |       |                 |       |                         |       |                               |       |                                  |       |                 |       |
| Capital injection                                                                      |       | 5,014                |       | —               |       | —                       |       | —                             |       | —                                |       | 5,014                |       |
| Dividend declared                                                                      |       | —               |       | —               |       | —                       |       | (10,000                            | )          | —                                |       | (10,000              | )          |
| Capitalisation of reserve as paid-in  capital                                          |       | 19,060               |       | (19,060              | )          | —                       |       | —                             |       | —                                |       | —               |       |
| Transfer to reserve                                                                    |       | —               |       | —               |       | 2,053                        |       | (2,053                             | )          | —                                |       | —               |       |
|                                                                                   |       |                 |       |                 |       |                         |       |                               |       |                                  |       |                 |       |
| Balance as of  December 31, 2008                                                  |       | 50,000               |       | 11,274               |       | 6,152                        |       | 23,435                             |       | 1,311                                 |       | 92,172               |       |
| Net income                                                                             |       | —               |       | —               |       | —                       |       | 1,859                              |       | 1,665                                 |       | 3,524                |       |
|                                                                                   |       |                 |       |                 |       |                         |       |                               |       |                                  |       |                 |       |
| Total  comprehensive income                                                            |       |                 |       |                 |       |                         |       |                               |       |                                  |       | 3,524                |       |
|                                                                                   |       |                 |       |                 |       |                         |       |                               |       |                                  |       |                 |       |
| Acquisition of subsidiary at nil  consideration from an owner of the Company (note 15) |       | —               |       | 100                  |       | —                       |       | —                             |       | (100                                  | )          | —               |       |
| Contribution from non-controlling interest  of a subsidiary                            |       | —               |       | —               |       | —                       |       | —                             |       | 1,225                                 |       | 1,225                |       |
| Dividend declared                                                                      |       | —               |       | —               |       | —                       |       | (2,000                             | )          | —                                |       | (2,000               | )          |
| Transfer to reserve                                                                    |       | —               |       | —               |       | 1,523                        |       | (1,523                             | )          | —                                |       | —               |       |
|                                                                                   |       |                 |       |                 |       |                         |       |                               |       |                                  |       |                 |       |
| Balance as of  December 31, 2009                                                  |       | 50,000               |       | 11,374               |       | 7,675                        |       | 21,771                             |       | 4,101                                 |       | 94,921               |       |

 

Theaccompanying notes are an integral part of these financial statements.

 

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Table ofContents

 

**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**1****             ****Organization and principalactivities**

 

Zhejiang TianlanEnvironmental Protection Technology Company Limited (the“Company”), formerly known asZhejiang Tianlan Desulfurization & Dust-removal Company Limited, was incorporated inHangzhou City, Zhejiang Province, the People’sRepublic of China (“PRC”) on May 18, 2000 as a wholly domestic ownedenterprise with an operating period up to May 17, 2030.

 

The principal activities ofthe Company are engaged in flue gas desulphurization, dust removal, flue gasdenitration and purification of diversified industrial waster gas.

 

Details of the Company’s subsidiaries aresummarized as follows:

 
| ** **                                                                                                                                                      | ** ** | **Percentage of   equity   ownership** | ** ** | **Place of** | ** ** | ** **        |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------|------------|--------------|------------|-------------------|
| **Name**                                                                                                                                                        | ** ** | **2009**                               | ** ** | **2008**     | ** ** | **incorporation** | ** ** | **Principal activities** |
| Hangzhou  Tianlan Environmental Engineering and Design Company Limited(Formerly known as Hangzhou Tianlan  Equipments Installation Engineering Company Limited) |       | 100%*                                  |       | 90%          |       | PRC               |   | Provision  of maintenance services of environmental protection equipment |
|                                                                                                                                                            |       |                                   |       |         |       |              |   |   |
| Hangzhou  Huan Qing Information Technology Company Limited                                                                                                      |       | 88%**                                  |       | 88%          |       | PRC               |   | Provision  of consulting and training services for environmental industry |
|                                                                                                                                                            |       |                                   |       |         |       |              |   |   |
| Hangzhou  Tianlan Environmental Protection Equipments Company Limited                                                                                           |       | 51%                                    |       | 51%          |       | PRC               |   | Manufacturing  and installation services of environmental protection equipment |

 

* In the year 2009,the Company acquired the remaining 10% equity interest of this company.

 

** As at 31 December 2009,this company was in the process of deregistration.

 

**2****             ****Summary of significant accountingpolicies**

 

**(a)****          ****Basis of Consolidation**

 

The consolidatedfinancial statements include the accounts of ZhejiangTianlan Environmental Protection Technology Company Limited and its subsidiaries (the “Group”).  In preparing the consolidated financialstatements presented herewith, all significant intercompany balances andtransactions have been eliminated on consolidation.

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****             ****Summary of significant accountingpolicies - Continued**

 

**(b)****          ****Subsidiaries**

 

A subsidiary is acompany in which the Company holds, directly or indirectly, more than 50% ofits outstanding voting share capital and over which it is able to exercisecontrol.

 

**(c)****          ****Revenue Recognition**

 

The Group’s mainsource of revenue is the construction and installation services ofenvironmental protection equipment for flue gas desulphurization, dust removaland flue gas denitration. Revenues are recorded under the percentage ofcompletion methodinaccordance with FASB ASC Subtopic 605-35, Revenue Recognition —Construction-Type and Production-Type Contracts, (previously Statement of Position (“SOP”) 81-1,“Accounting for Performance of Construction-Type and Certain Production-TypeContracts”).Thisapproach is based on estimates of total efforts expended at completion, whichare compared to actual efforts incurred to date to arrive at an estimate ofrevenue and profit earned to date. Recognized revenue and profit are subject torevisions as the contract progresses to completion.  Revisions to profit estimates are reflectedin income in the period in which the facts that give rise to the revisionbecome known. For any contract where it is identified that aloss will be incurred, the full loss will be recognized immediately.

 

**(d)****          ****Research and Development Costs**

 

Researchand development costs (“R&D” costs) are expensed as incurred.  The R&D costs amounted to approximatelyRMB8,238,000 and RMB3,704,000 for the years ended December 31,2009 and 2008 respectively and were included in “Selling and Administrative”expenses****in the Group’s consolidated statementsof income.

 

**(e)****          ****Advertising and promotionalexpenses**

 

Advertisingand promotional expenses (“A&P” expenses) are expensed as incurred.  The A&P expenses amounted toapproximately RMB39,000 andRMB104,000 for theyears December 31, 2009 and 2008 respectively and were included in “Sellingand Administrative” expenses****in the Group’sconsolidated statement of income.

 

**(f)****           ****Taxation**

 

TheGroup accounts for income and deferred tax under the provision of FASB ASCSubtopic 740-10, Income Taxes, (previously Statementof Financial Accounting Standards (“SFAS”) No. 109: “Accounting for IncomeTaxes”), under which deferred taxes are recognized for all temporarydifferences between the applicable tax balance sheets and the consolidatedbalance sheet.  Deferred tax assets andliabilities are recognized for the estimated future tax consequencesattributable to differences between the financial statement carrying amounts ofexisting assets and liabilities and their respective tax bases.  ASC 740-10 also requires the recognition ofthe future tax benefits of net operating loss carry forwards.  A valuation allowance is established when thedeferred tax assets are not expected to be realized within a reasonable periodof time.

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****             ****Summary of significant accountingpolicies - Continued**

 

**(f)****           ****Taxation - Continued**

 

Inaccordance with ASC-740-10, the Company recognizes tax benefits that satisfy agreater than 50% probability threshold and provides for the estimated impact ofinterest and penalties for such tax benefits. The Company did not have such uncertain tax positions in 2008 and 2009.

 

Deferredtax assets and liabilities are measured using the enacted tax rates expected tobe applicable for taxable income in the years in which temporary differencesare expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in taxrates is recognized in income for the period that includes the enactment date.

 

Note4 shows the applicable tax rates for the Company and its subsidiaries, as wellas the major temporary differences so recorded.

 

**(g)****          ****Cash and Cash Equivalents**

 

Cashand cash equivalents include cash on hand and demanddeposits with banks.

 

**(h)****          ****Receivables and Other Assets**

 

Receivablesand other assets are recorded at their nominal values.  Doubtful debt allowances are provided foridentified individual risks for these line items.  If the loss of a certain part of thereceivables is probable, doubtful debt allowances are provided to cover theexpected loss. Receivablesare writtenoff against the allowance after all means of collection have been exhausted andthe potential for recovery is considered remote.

 

**(i)****           ****Inventories**

 

Inventoriesare stated at the lower of cost, on the first-in, first-out method, or market value. Costs include purchase and related costs incurred in bringing eachproduct to its present location and condition. Marketvalue is calculated based on the estimated normal selling price, less furthercosts expected to be incurred for disposal. Provision is made for obsolete, slow moving or defective items, whereappropriate.

 

**(j)****           ****Property, Plant and Equipment**

 

Property,plant and equipment are stated at cost less accumulated depreciation. Gains orlosses on disposal are reflected in current operations.  Major expenditures for betterments andrenewals are capitalized.  All ordinaryrepair and maintenance costs are expensed as incurred.  Depreciation of property, plant and equipmentis computed using the straight-line method over the assets’ estimated usefullives as follows:

 
| Office  premises                          | 47-50  years                                                       |
|-------------------------------------------|--------------------------------------------------------------------|
| Leasehold  improvements                   | over terms  of the leases or the useful lives whichever is shorter |
| Plant and machineries                     | 5 to 10 years                                                      |
| Furniture,  fixtures and office equipment | 5 years                                                            |
| Motor  vehicles                           | 5 years                                                            |

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****             ****Summary of significant accountingpolicies - Continued**

 

**(k)****          ****Impairment**

 

TheGroup has adopted FASB ASC Subtopic 360-10, Property, Plant, and Equipment, (previously SFAS No. 144: “Accounting for Impairmentor Disposal of Long-Lived Assets”) which requires impairment losses to berecorded for property, plant and equipment to be held and used in operationswhen indicators of impairment are present. Reviews are regularly performed to determine whether the carrying valueof assets is impaired.  The Groupdetermines the existence of such impairment by measuring the expected futurecash flows (undiscounted and without interest charges) and comparing suchamount to the carrying amount of the assets. An impairment loss, if one exists, is then measured as the amount bywhich the carrying amount of the asset exceeds the discounted estimated futurecash flows. Assets to be disposed of are reported at the lower of the carryingamount or fair value of such assets less costs to sell.  Asset impairment charges are recorded toreduce the carrying amount of the long-lived asset that will be sold ordisposed of to their estimated fair values. Charges for the asset impairmentreduce the carrying amount of the long-lived assets to their estimated salvagevalue in connection with the decision to dispose of such assets. There were no impairmentlosses recorded during each of the two years ended December 31, 2009 and2008.

 

**(l)****           ****Operating Leases**

 

Leases wheresubstantially all the risks and rewards of ownership of the leased assetsremain with the lessors are accounted for as operating leases.  Rental payments under operating leases arecharged to expense on the straight-line basis over the period of the relevantleases.

 

**(m)****         ****Foreign Currency Translation**

 

The Group maintainsits books and records in Chinese Renminbi (“functional currency”). Foreign currency transactions during the year are translated into thefunctional currency at the applicable rates of exchange at the dates of thetransactions.  Monetary assets andliabilities denominated in foreign currency are translated into the functionalcurrency using the exchange rates prevailing at the balance sheet dates.  Gains or losses from foreign currencytransactions are recognized in the consolidated statements of income during theyear in which they occur.

 

**(n)****          ****Comprehensive Income**

 

TheGroup has adopted FASB ASC Subtopic 220-10, Comprehensive Income, (previously SFAS No. 130:  “Reporting Comprehensive Income,”) whichrequires the Group to report all changes in equity during a period, except forthose resulting from investment by owners and distribution to owners, in thefinancial statements for the period in which they are recognized.  The Group has presented comprehensive income,which encompasses net income, in the consolidated statement of changes inshareholders’ equity.

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****             ****Summary of significant accountingpolicies - Continued**

 

**(o)****          ****Paidin capital**

 

Paid in capitalrefers to the registered capital paid-up by the owners of the Company. Thepaid-in capital at both years ended December 31, 2009 and 2008 isRMB50,000,000.

 

**(p)****          ****Use of Estimates**

 

The preparation ofconsolidated financial statements in conformity with accounting principlesgenerally accepted in the United States of America (“GAAP”) requires managementto make estimates and assumptions that affect the amounts that are reported inthe consolidated financial statements and accompanying disclosures.  Although these estimates are based onmanagement’s best knowledge of current events and actions that the Group mayundertake in the future, actual results may be different from the estimates.

 

**(q)**           **Related Parties**

 

Entities areconsidered to be related to the Group if the parties, directly or indirectly,through one or more intermediaries, control, are controlled by, or are undercommon control with the Group.  Relatedparties also include principal owners of the Group, its management, members ofthe immediate families of principal owners of the Group and its management andother parties with which the Group may deal if one party controls or cansignificantly influence the management or operating policies of the other to anextent that one of the transacting parties might be prevented from fullypursuing its own separate interests.  Aparty which can significantly influence the management or operating policies ofthe transacting parties or if it has an ownership interest in one of thetransacting parties and can significantly influence the other to an extent thatone or more of the transacting parties might be prevented from fully pursuingits own separate interests is also a related party.

 

**(r)**           **Recent Accounting Pronouncements**

 

In May 2009, theFASB issued SFAS No. 165, Subsequent Events (now codified within ASC855-10, Subsequent Events (“ASC 855-10”)). ASC 855-10 provides general standards of accounting for and disclosureof events that occur after the balance sheet date but before financialstatements are issued or are available to be issued. ASC 855-10 is applicablefor interim or annual periods after June 15, 2009.  In January 2010, the FASB issuedAccounting Standards Update (“ASU”) No. 2010-09, “Subsequent Events”,which is codified as ASC 855, “Amendments to Certain Recognition and DisclosureRequirements”. This update amends the ASC855-10, to replace the term “publicentity” with the term “an SEC filer”, in order to avoid potential conflict withsome of the Securities and Exchange Commission’s (SEC) guidance. All of theamendments in this update are effective immediately. The application of ASC 855did not have a material effect on the Company’s consolidated financial statements.

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATED FINANCIALSTATEMENTS**

 

**2****             ****Summary of significant accountingpolicies - Continued**

 

**(r)**           **Recent Accounting Pronouncements- Continued**

 

In June 2009,the FASB issued SFAS No. 168, “The FASB Accounting Standards Codificationand the Hierarchy of Generally Accepted Accounting Principles”, (now codifiedwithin ASC 105, Generally Accepted Accounting Principles). ASC 105 establishesthe Codification as the single source of authoritative GAAP recognized by theFASB to be applied by nongovernmental entities. All guidance contained in theCodification carries an equal level of authority. Following this statement,FASB will not issue new standards in the form of statements, FASB StaffPositions, or Emerging Issues Task Force Abstracts. Instead, it will issueAccounting Standards Updates, which will serve only to: (1) update theCodification; (2) provide background information about the guidance; and(3) provide the bases for conclusions on the change(s) in theCodification. ASC 105 was effective for financial statements issued for interimand annual periods ending after September 15, 2009. The Codificationsupersedes all existing non-SEC accounting and reporting standards. Theadoption of ASC 105 did not have an impact on the Company’s consolidatedresults of operations or financial position.

 

In August 2009,FASB issued ASU 2009-5 Fair Value Measurements and Disclosures (Topic 820)Measuring Liabilities at Fair Value (“ASU 2009-5”). ASU 2009-5 providesamendments to Subtopic 820-10, Fair Value Measurements and Disclosures-Overall,for the fair value measurement of liabilities. ASU 2009-5 clarifies that incircumstances in which a quoted price in an active market for the identicalliability is not available, a reporting entity is required to measure fairvalue. ASU 2009-5 was effective for the Company for interim and annual periodsending after September 30, 2009. The adoption of ASU 2009-5 did not have amaterial impact on the Company’s consolidated results of operations orfinancial position.

 

InDecember 2009, FASB issued ASU 2009-17 Consolidations (Topic 810)Improvements to Financial Reporting by Enterprises Involved with VariableInterest Entities (“ASU 2009-17”). ASU 2009-17 amends the FASB ASC for theissuance of FASB Statement No. 167, Amendments to FASB InterpretationNo. 46(R) . The amendments in ASU 2009-17 replace thequantitative-based risks and rewards calculation for determining whichenterprise, if any, has a controlling financial interest in a variable interestentity with an approach focused on identifying which enterprise has the powerto direct the activities of a variable interest entity that most significantlyimpact the entity’s economic performance and (1) the obligation to absorblosses of the entity or (2) the right to receive benefits from the entity.ASU 2009-17 also requires additional disclosures about an enterprise’sinvolvement in variable interest entities. ASU 2009-17 is effective as of thebeginning of each reporting entity’s first annual reporting period that beginsafter November 15, 2009. The Company does not expect the adoption of ASU2009-17 to have a material impact on its consolidated results of operations orfinancial position.

 

In January 2010,FASB issued ASU 2010-01, Entity, which is codified as ASC505, “Accounting forDistributions to Shareholders with Components of Stock and Cash (A Consensus ofthe FASB Emerging Issues Task Force)”. The amendments in this Update clarifythat the stock portion of a distribution to shareholders that allow them toelect to receive cash or shares with a potential limitation on the total amountof cash that all shareholders can elect to receive in the aggregate isconsidered a share issuance thus eliminating the diversity in practice. Theamendments in this Update are effective for interim and annual periods endingon or after December 15, 2009, and should be applied on a retrospectivebasis. The application of ASC 505 did not have a material effect on the Company’sconsolidated financial statements.

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**2****             ****Summary of significant accountingpolicies - Continued**

 

**(r)**           **Recent Accounting Pronouncements- Continued**

 

In January 2010,FASB issued ASU 2010-02 Accounting and Reporting for Decreases in Ownership ofa Subsidiary- a Scope Clarification (“ASU 2010-2”). ASU 2010-2 addressesimplementation issues related to the changes in ownership provisions in theConsolidation—Overall Subtopic (Subtopic 810-10) of the FASB AccountingStandards Codification , originally issued as FASB Statement No. 160,Noncontrolling Interests in Consolidated Financial Statements. Subtopic 810-10establishes the accounting and reporting guidance for noncontrolling interestsand changes in ownership interests of a subsidiary. An entity is required todeconsolidate a subsidiary when the entity ceases to have a controllingfinancial interest in the subsidiary. Upon deconsolidation of a subsidiary, anentity recognizes a gain or loss on the transaction and measures any retainedinvestment in the subsidiary at fair value. The gain or loss includes any gainor loss associated with the difference between the fair value of the retainedinvestment in the subsidiary and its carrying amount at the date the subsidiaryis deconsolidated. In contrast, an entity is required to account for a decreasein ownership interest of a subsidiary that does not result in a change ofcontrol of the subsidiary as an equity transaction. ASU 2010-2 is effective forthe Company starting January 1, 2010. The Company does not expect theadoption of ASU 2010-2 to have a material impact on the Company’s consolidatedresults of operations or financial position.

 

In January 2010,FASB issued ASU 2010-6 Improving Disclosures about Fair Measurements (“ASU2010-6”). ASU 2010-6 provides amendments to subtopic 820-10 that requireseparate disclosure of significant transfers in and out of Level 1 and Level 2fair value measurements and the presentation of separate information regardingpurchases, sales, issuances and settlements for Level 3 fair valuemeasurements. Additionally, ASU 2010-6 provides amendments to subtopic 820-10that clarify existing disclosures about the level of disaggregation and inputsand valuation techniques. ASU 2010-6 is effective for financial statementsissued for interim and annual periods ending after December 15, 2010. TheCompany does not expect the adoption of ASU 2010-06 to have a material impacton its consolidated results of operations or financial position.

 

**3****             ****Other income, net**

 
| ** **                   | ** ** | **200****9**         | ** ** | **200****8**     | ** ** |
|------------------------------|------------|----------------------|------------|------------------|------------|
|                         |       | **RMB****’000** | ** ** | **RMB’000** |       |
|                         |       |                 |       |             |       |
| Subsidy income (note i)      |       | 3,087                |       | 1,753            |       |
| Sales of scrapped  materials |       | 352                  |       | 530              |       |
| Others                       |       | 667                  |       | 45               |       |
|                         |       | 4,106                |       | 2,328            |       |

 

(i)    The Group recognises subsidy income forR&D projects when granted by institutions and are not probably to bereturned or reimbursed.

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**4****             ****Income taxes**

 

According to relevantPRC tax laws and regulations, entities incorporated in the PRC are subject toEnterprise Income Tax  (“EIT”) at astatutory rate of 25% or reduced national EIT rates for certain High and NewTechnology Enterprises (“HNTE”) on PRC taxable income. Zhejiang Tianlan Environmental Protection TechnologyCompany Limitedand Hangzhou Tianlan Environmental Protection Equipments Company Limited arequalified for a reduced statutory rate of 10% on national EIT as a HNTE andaccordingly, the applicable tax rate was 15%. Hangzhou Tianlan EnvironmentalEngineering and Design Company Limited and Huangzhou Huan Qing InformationTechnology Company Limited areentitled to Enterprise Income Tax rate of 25%.

 

The provision for income taxes consists of:

 
| ** **               | ** ** | **200****9**         | ** ** | **200****8**         | ** ** |
|--------------------------|------------|----------------------|------------|----------------------|------------|
|                     |       | **RMB****’000** | ** ** | **RMB****’000** |       |
| Current PRC EIT          |       | 739                  |       | 1,194                |       |
| Income Taxes             |       | 739                  |       | 1,194                |       |
|                     |       |                 |       |                 |       |
| Deferred tax benefit     |       | (605                 | )          | (81                  | )          |
| Total deferred provision |       | (605                 | )          | (81                  | )          |

 

The principalreconciling items from income tax computed at the statutory rates and at theeffective income tax rates are as follows:

 
| ** **                                                    | ** ** | **200****9**     | ** ** | **200****8**         | ** ** |
|---------------------------------------------------------------|------------|------------------|------------|----------------------|------------|
| ** **                                                    | ** ** | **RMB’000** | ** ** | **RMB****’000** | ** ** |
|                                                          |       |             |       |                 |       |
| Income before income taxes                                    |       | 3,658            |       | 10,093               |       |
|                                                          |       |             |       |                 |       |
| Computed tax at respective company’s statutory tax  rate |       | 541              |       | 1,410                |       |
| Change in valuation allowances                                |       | 19               |       | 96                   |       |
| (Over)/under-provision for income tax in prior years          |       | (162             | )          | 16                   |       |
| Tax effect on revenue not subject to tax                      |       | (676             | )          | (415                 | )          |
| Tax effect on expenses not deductible for tax  purposes       |       | 412              |       | 6                    |       |
| Total provision for income tax at effective tax rate          |       | 134              |       | 1,113                |       |

 

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**ZHEJIANGTIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**4****             ****Income taxes - Continued**

 

Thecomponents of deferred tax assets are as follows:

 
| ** **                                                                           | ** ** | **200****9**     | ** ** | **200****8**         | ** ** |
|--------------------------------------------------------------------------------------|------------|------------------|------------|----------------------|------------|
| ** **                                                                           | ** ** | **RMB’000** | ** ** | **RMB****’000** | ** ** |
|                                                                                 |       |             |       |                 |       |
| Deferred  tax assets arising from tax losses                                         |       | 115              |       | 96                   |       |
| Deferred  tax assets arising from temporary differences allowance for doubtful debts |       | 823              |       | 219                  |       |
| Less:  Valuation allowances                                                          |       | (115             | )          | (96                  | )          |
| Net  deferred tax assets                                                             |       | 823              |       | 219                  |       |

 

**5****             ****Other taxes payable**

 

Other taxes payable comprises mainly Valued-AddedTax (“VAT”) and Business Tax (“BT”). The Group is subject to output VAT leviedat the rate of 17% of the revenue from sales of equipment.  The input VAT paid on purchases of materialsand other direct inputs can be used to offset the output VAT levied onoperating revenue to determine the net VAT payable or recoverable.  BT is charged at a rate of 5% on the revenuefrom installation services.

 

**6****             ****Accounts receivable**

** **
| ** **                         | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                         | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
|                               |       |             |       |             |       |
| Trade receivables                  |       | 78,902           |       | 78,716           |       |
| Less: Allowance for doubtful debts |       | (5,490           | )          | (1,019           | )          |
|                               |       | 73,412           |       | 77,697           |       |

 
| ** **                     | ** ** | **2009**         | ** ** | **200****8**     | ** ** |
|--------------------------------|------------|------------------|------------|------------------|------------|
| ** **                     | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| Allowance for doubtful  debts  |       |             |       |             |       |
| Balance at beginning           |       | 1,019            |       | —           |       |
| Charged to statement of income |       | 4,471            |       | 1,019            |       |
| Balance at year end            |       | 5,490            |       | 1,019            |       |

 

As of December 31, 2009, accounts receivable in the form ofretention receivables and bills receivable under letter of credit through banksamounted to approximately RMB10,453,000 (2008: RMB6,213,000) and RMB7,395,000 (2008: RMB6,195,000) respectively.

 

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** **

**ZHEJIANG TIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**7****             ****Inventories, net**

** **
| ** **   | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|--------------|------------|------------------|------------|------------------|------------|
| ** **   | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
|         |       |             |       |             |       |
| Raw material |       | 1,720            |       | 2,058            |       |

 

**8****             ****Property, plant and equipment**

 
| ** **                                  | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|---------------------------------------------|------------|------------------|------------|------------------|------------|
| ** **                                  | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
|                                        |       |             |       |             |       |
| Office  premises and leasehold improvements |       | 43,260           |       | 10,791           |       |
| Construction  in progress                   |       | —           |       | 22,713           |       |
| Furniture,  fixtures and office equipment   |       | 2,868            |       | 1,786            |       |
| Motor  vehicles                             |       | 2,417            |       | 2,417            |       |
| Plant and machineries                       |       | 899              |       | 899              |       |
|                                        |       | 49,444           |       | 38,606           |       |
|                                        |       |             |       |             |       |
| Less:  Accumulated depreciation             |       | (4,151           | )          | (2,724           | )          |
|                                        |       | 45,293           |       | 35,882           |       |

 
| ** **           | ** ** | **2009**         | ** ** | **2008**         | ** ** |
|----------------------|------------|------------------|------------|------------------|------------|
| ** **           | ** ** | **RMB’000** | ** ** | **RMB’000** | ** ** |
| Depreciation  charge |       | 1,430            |       | 1,152            |       |

 

**9****             ****Shortterm borrowings**

 

The short term loans as of December 31, 2009 bear interest at fixedrates 5.31% (2008: 7.56%) per annum with maturity date on or before September 22,2010 (2008: September 24, 2009) and are secured by the Company’s office premises and leasehold improvements. Interest paid during the year ended December 31, 2009 was RMB367,000(2008: RMB314,000)

 

**10****          ****Other payables and accruedexpenses**

 

Other payables andaccrued expenses mainly represent deposits received from customers and accrualsfor operating expenses.

 

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**ZHEJIANG TIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLIDATEDFINANCIAL STATEMENTS**

 

**11****          ****PRC statutory reserves**

 

Under the relevantPRC laws and regulations, the Group are required to appropriate certainpercentage of their respective net incometo two statutoryfunds, namely, the statutory reserve fund and the statutory staff welfare fund. The Group also appropriatedcertain amount of their net income to the expansion funds.

 

(i) Statutoryreserve funds

 

Pursuant toapplicable PRC laws and regulations, the Group are required to allocate atleast 10% of the companies’ net incometo the statutory reserve funds until such funds reaches 50% of the companies’registered capital. The statutory reserve funds can be utilized upon theapproval by the relevant authorities, to offset accumulated losses or toincrease registered capital of the companies, provided that such funds bemaintained at a minimum of 25% of the companies’ registered capital.

 

(ii) Statutorywelfare funds

 

Pursuant toapplicable PRC laws and regulations, the Group are required to allocate certain amount of the companies’ net income to the staff welfare funds determined by theCompany. The staffwelfare funds can only be used to provide staff welfare facilities and othercollective benefits to the companies’ employees. This fund is non-distributableother than upon liquidation of the Group.

 

**12           Capital reserve**

** **

Theamount represents the capital contributions from owners.

 

**13****          ****Pension plan**

 

Asstipulated by the rules and regulations in the PRC, the Group contributesto state-sponsored retirement plans for its employees in Mainland China.  The Group contributes approximately ranging from10% to 22% of the basic salaries of its employees, andhas no further obligations for the actual payment of pension or post-retirementbenefits beyond the annual contributions. The state-sponsored retirement plans are responsible for the entirepension obligations payable to retired employees.

 

Duringthe years ended December 31, 2009 and 2008, the aggregate contributions ofthe Group to the aforementioned pension plans and retirement benefit schemeswere approximately RMB1,177,000and RMB910,000 respectively.

 

**14****          ****Risk factor****s**

 

TheGroup’s activities expose itself mainly to credit risk.

 

TheGroup has no significant concentration of credit risk.  The Group has policies in place to ensurethat sales of products are made to customers with an appropriate credithistory.  The Group has policies thatlimit the amount of credit exposure to any customers. 

 

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Table ofContents

 

**ZHEJIANG TIANLAN****ENVIRONMENTALPROTECTION TECHNOLOGY****COMPANYLIMITED**

 

**NOTES TO THE CONSOLDIATEDFINANCIAL STATEMENTS**

 

**15****          ****Related party**

 

Amountsdue from/(to) owners

 

The owners, from timeto time, receive income and pays expenses on behalf of the Group. The amountsdue to owners are unsecured, bear interest at 10% per annum and do not haveclearly defined terms of repayment.  There wereno other transactionswith related parties in the years 2009 and 2008 other than disclosed inelsewhere in the financial statements.

 

Acquisitionof subsidiary at nil consideration from an owner of the Company

 

Duringthe year, the Company received 10% equity interest in Hangzhou TianlanEnvironmental Engineering and Design Company Limited from an owner of theCompany at nil consideration. 

 

**16****          ****Commitments and contingencies**

 

Operating leases

 

Rental expenses forthe years ended December 31, 2009 and 2008 were approximately RMB410,000 andRMB573,000 respectively.  As of December 31,2009, the Group has no future minimum lease payments under non-cancellableoperating leases are payable in the year 2010.  As of December 31, 2008, the future minimum leasepayments under non-cancellable operating leases amounted to RMB71,000 arepayable in the year 2009.

 

**17****          ****Fair value of financial instruments**

 

The carrying valuesof financial instruments, which consist of cash and cash equivalents, accountsreceivable and accounts payable, bills receivable, bills payable, otherpayables and balances with related companies approximate their fair values dueto the short-term nature of these instruments.

 

**18           Subsequent events**

 

The Group evaluated allevents or transactions that occurred after December 31, 2009 up through June28, 2010, the date the Group issued these consolidated financial statements.During this period, the Group did not have any material recognisable subsequentevents.

 

 

 

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