UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549


FORM
10-Q


(Mark
One)


x
            QUARTERLY
      REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
      for the quarterly period ended March 31,
  2010





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


For the
transition period from _________ to _________





Commission
file number 000-11991





SORL AUTO PARTS,
INC.


(Exact
name of registrant as specified in its charter)





DELAWARE
              30-0091294(State
      or other jurisdiction of incorporation or
                organization)
              (IRS
      Employer Identification No.)




No. 1169
Yumeng Road


Ruian
Economic Development District


Ruian
City, Zhejiang Province


People’s
Republic Of China


(Address
of principal executive offices)




86-577-6581-7720


(Registrant’s
telephone number)





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


Yes xNo  ̈





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


Large Accelerated Filer ̈Accelerated Filer ̈Non-Accelerated Filer ̈Smaller Reporting Companyx





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


Yes  ̈No x





APPLICABLE
ONLY TO CORPORATE ISSUERS





Indicate
the number of shares outstanding of each of the registrant classes of common
equity, as of the latest practicable date:


As of
March 31, 2010 there were 19,304,921shares of Common Stock
outstanding








SORL AUTO PARTS, INC.


FORM
10-Q


For the
Quarter Ended March 31, 2010





INDEX


PagePART
      I.
                      FINANCIAL INFORMATION (Unaudited)Item
      1.
                      Financial Statements:Condensed Consolidated Balance
      Sheets as of March 31, 2010 (Unaudited) and December 31,
      2009
                      2Condensed Consolidated Statements
      of Income and Comprehensive Income (Unaudited) for the Three Months Ended
      March 31, 2010 and 2009
                      3Condensed
      Consolidated Statements of Cash Flows (Unaudited) for the Three Months
      Ended March 31, 2010 and 2009
                      4Condensed Consolidated Statements
      of Stockholders’ Equity (Unaudited) for the Three monthsended March 31, 2010 and
      2009
                      5Notes to the Condensed
      Consolidated Financial Statements (Unaudited)
                      6Item
      2.
                      Management’s Discussion and
      Analysis or Financial Condition and Results of Operations
                      15Item
      3.
                      Quantitative
      and Qualitative Disclosures About Market Risk
                      20Item
      4.
                      Controls and
      Procedures
                      20PART
      II.
                      OTHER INFORMATION
                      21Item
      6.
                      Exhibits
                      21SIGNATURES
                      21










SORL
Auto Parts, Inc. and Subsidiaries


Consolidated
Balance Sheets


March
31, 2010 and December 31, 2009





March 31,
                        2010
                      
                      
                      December 31,
                        2009(Unaudited)AssetsCurrent
      AssetsCash
      and Cash Equivalents
                      
                      US$
                      18,620,792
                      
                      
                      US$
                      10,255,259Accounts
      Receivable, Net of Provision
                      
                      
                      40,952,748
                      
                      
                      
                      44,546,107Notes
      Receivable
                      
                      
                      16,416,880
                      
                      
                      
                      13,083,691Inventory
                      
                      
                      20,795,064
                      
                      
                      
                      18,760,724Prepayments
                      
                      
                      5,435,814
                      
                      
                      
                      7,558,140Other
      current assets
                      
                      
                      1,170,279
                      
                      
                      
                      444,281Total
      Current Assets
                      
                      
                      103,391,577
                      
                      
                      
                      94,648,202Fixed
      AssetsProperty,
      Plant and Equipment
                      
                      
                      39,945,743
                      
                      
                      
                      35,335,958Less:
      Accumulated Depreciation
                      
                      
                      (12,380,467
                      )
                      
                      
                      (11,608,920
                      )Property,
      Plant and Equipment, Net
                      
                      
                      27,565,276
                      
                      
                      
                      23,727,038Leasehold
      Improvements in Progress
                      
                      
                      477,140
                      
                      
                      
                      477,681Land
      Use Rights, Net
                      
                      
                      14,119,773
                      
                      
                      
                      14,198,392Other
      AssetsIntangible
      Assets
                      
                      
                      161,543
                      
                      
                      
                      161,499Less:
      Accumulated Amortization
                      
                      
                      (58,227
                      )
                      
                      
                      (54,380
                      )Intangible
      Assets, Net
                      
                      
                      103,316
                      
                      
                      
                      107,119Deferred
      tax assets
                      
                      
                      321,060
                      
                      
                      
                      220,577Total
      Other Assets
                      
                      
                      424,376
                      
                      
                      
                      327,696Total
      Assets
                      
                      US$
                      145,978,142
                      
                      
                      US$
                      133,379,009Liabilities and Shareholders'
      EquityCurrent
      LiabilitiesAccounts
      Payable, including $1,467,505 and $1,985,291 due to related parties at
      March 31, 2010 and December 31, 2009, respectively.
                      
                      US$
                      7,883,247
                      
                      
                      US$
                      9,724,715Deposit
      Received from Customers
                      
                      
                      4,776,500
                      
                      
                      
                      3,670,369Income
      tax payable
                      
                      
                      215,933
                      
                      
                      
                      551,900Accrued
      Expenses
                      
                      
                      3,993,492
                      
                      
                      
                      4,206,297Other
      Current Liabilities, including $41,850 and $200,762 from related parties
      at March 31, 2010 and December 31, 2009, respectively.
                      
                      
                      532,013
                      
                      
                      
                      585,176Total
      Current Liabilities
                      
                      
                      17,401,185
                      
                      
                      
                      18,738,457Non-Current
      LiabilitiesDeferred
      tax liabilities
                      
                      
                      128,348
                      
                      
                      
                      115,481Total
      Liabilities
                      
                      
                      17,529,533
                      
                      
                      
                      18,853,938Stockholders'
      EquityPreferred
      Stock - No Par Value; 1,000,000 authorized; none issued and outstanding as
      of March 31, 2010 and December 31, 2009
                      
                      
                      ―
                      
                      
                      
                      ―Common
      Stock - $0.002 Par Value; 50,000,000 authorized,19,304,921
      and 18,304,921 issued and outstanding as ofMarch
      31, 2010 and December 31, 2009
                      
                      
                      38,609
                      
                      
                      
                      36,609Additional
      Paid In Capital
                      
                      
                      46,896,379
                      
                      
                      
                      37,498,401Reserves
                      
                      
                      4,751,711
                      
                      
                      
                      4,425,784Accumulated
      other comprehensive income
                      
                      
                      10,969,432
                      
                      
                      
                      10,939,100Retained
      Earnings
                      
                      
                      53,061,874
                      
                      
                      
                      50,231,052Total
      SORL Auto Parts, Inc. stockholders' equity
                      
                      
                      115,718,005
                      
                      
                      
                      103,130,946Noncontrolling
      Interest In Subsidiaries
                      
                      
                      12,730,604
                      
                      
                      
                      11,394,125Total
      Equity
                      
                      
                      128,448,609
                      
                      
                      
                      114,525,071Total
      Liabilities and Stockholders' Equity
                      
                      US$
                      145,978,142
                      
                      
                      US$
                      133,379,009





The
accompanying notes are an integral part of these financial
statements




2




SORL
Auto Parts, Inc. and Subsidiaries


Consolidated
Statements of Income and Comprehensive Income(Unaudited)


For
The First Quarter Ended on March 31, 2010 and 2009




Three Months Ended March 31,2010
                                        
                                        
                                        2009Sales
                                        
                                        US$
                                        34,105,054
                                        
                                        
                                        
                                        20,243,738Include:
      sales to related parties
                                        
                                        
                                        249,156
                                        
                                        
                                        
                                        137,432Cost
      of Sales
                                        
                                        
                                        24,455,082
                                        
                                        
                                        
                                        14,730,925Gross
      Profit
                                        
                                        
                                        9,649,972
                                        
                                        
                                        
                                        5,512,813Expenses:Selling
      and Distribution Expenses
                                        
                                        
                                        1,984,024
                                        
                                        
                                        
                                        1,317,734General
      and Administrative Expenses
                                        
                                        
                                        2,286,861
                                        
                                        
                                        
                                        2,026,298Research
      and development expenses
                                        
                                        
                                        1,321,053
                                        
                                        
                                        
                                        766,451Financial
      Expenses
                                        
                                        
                                        74,641
                                        
                                        
                                        
                                        28,962Total
      Expenses
                                        
                                        
                                        5,666,579
                                        
                                        
                                        
                                        4,139,445Operating
      Income
                                        
                                        
                                        3,983,393
                                        
                                        
                                        
                                        1,373,368Other
      Income
                                        
                                        
                                        84,500
                                        
                                        
                                        
                                        39,217Non-Operating
      Expenses
                                        
                                        
                                        (12,659
                                        )
                                        
                                        
                                        (3,614
                                        )Income
      Before Provision for Income Taxes
                                        
                                        
                                        4,055,234
                                        
                                        
                                        
                                        1,408,971Provision
      for Income Taxes
                                        
                                        
                                        604,578
                                        
                                        
                                        
                                        357,966Net
      Income
                                        
                                        US$
                                        3,450,656
                                        
                                        
                                        
                                        1,051,005Other
      Comprehensive Income - Foreign Currency Translation
    Adjustment
                                        
                                        
                                        34,004
                                        
                                        
                                        
                                        (19,202
                                        )Total
      Comprehensive Income
                                        
                                        
                                        3,484,660
                                        
                                        
                                        
                                        1,031,803Less:Net
      income Attributable to Non-controlling Interest In
      Subsidiaries
                                        
                                        
                                        293,907
                                        
                                        
                                        
                                        106,094Other
      Comprehensive Income Attributable to Non-controlling Interest's
      Share
                                        
                                        
                                        3,672
                                        
                                        
                                        
                                        (1,920
                                        )Total
      Comprehensive Income Attributable to Non-controlling Interest's
      Share
                                        
                                        
                                        297,579
                                        
                                        
                                        
                                        104,174Net
      Income Attributable to Stockholders
                                        
                                        
                                        3,156,749
                                        
                                        
                                        
                                        944,911Other
      Comprehensive Income Attributable to Stockholders
                                        
                                        
                                        30,332
                                        
                                        
                                        
                                        (17,282
                                        )Total
      Comprehensive Income Attributable to Stockholders
                                        
                                        
                                        3,187,081
                                        
                                        
                                        
                                        927,629Weighted
      average common share - Basic
                                        
                                        
                                        18,871,588
                                        
                                        
                                        
                                        18,279,254Weighted
      average common share - Diluted
                                        
                                        
                                        18,871,588
                                        
                                        
                                        
                                        18,279,254EPS
      – Basic
                                        
                                        
                                        0.17
                                        
                                        
                                        
                                        0.05EPS
      – Diluted
                                        
                                        
                                        0.17
                                        
                                        
                                        
                                        0.05





The
accompanying notes are an integral part of these financial
statements




3





SORL
Auto Parts, Inc. and Subsidiaries


Consolidated
Statements of Cash Flows(Unaudited)


For
The First Quarter Ended on March 31, 2010 and 2009





Three Months Ended March 31,2010
                      
                      
                      2009Cash
      Flows from Operating ActivitiesNet
      Income
                      
                      US$
                      3,156,749
                      
                      
                      
                      944,911Adjustments
      to reconcile net income (loss) to net cash from operating
      activities:Noncontrolling Interest In Subsidiaries
                      
                      
                      293,907
                      
                      
                      
                      106,094Bad
      Debt Expense
                      
                      
                      157,199
                      
                      
                      
                      550,156Depreciation
      and Amortization
                      
                      
                      855,272
                      
                      
                      
                      729,433Stock-Based
      Compensation Expense
                      
                      
                      –
                      
                      
                      
                      9,935Changes
      in Assets and Liabilities:Accounts
      Receivable
                      
                      
                      3,416,837
                      
                      
                      
                      1,504,731Notes
      Receivable
                      
                      
                      (3,329,084
                      )
                      
                      
                      176,990Other
      Current Assets
                      
                      
                      (536,002
                      )
                      
                      
                      2,792,782Inventory
                      
                      
                      (2,028,836
                      )
                      
                      
                      3,004,417Prepayments
                      
                      
                      942,716
                      
                      
                      
                      (4,837,993
                      )Deferred
      tax assets
                      
                      
                      (100,421
                      )
                      
                      
                      (173,871
                      )Accounts
      Payable
                      
                      
                      (1,972,587
                      )
                      
                      
                      (1,853,226
                      )Income
      Tax Payable
                      
                      
                      (336,074
                      )
                      
                      
                      141,540Deposits
      Received from Customers
                      
                      
                      1,104,956
                      
                      
                      
                      (121,974
                      )Other
      Current Liabilities and Accrued Expenses
                      
                      
                      (488,406
                      )
                      
                      
                      149,836Deferred
      tax liabilities
                      
                      
                      12,833
                      
                      
                      
                      21,363Net
      Cash Flows from Operating Activities
                      
                      
                      1,149,059
                      
                      
                      
                      3,145,124Cash
      Flows from Investing ActivitiesAcquisition
      of Property and Equipment
                      
                      
                      (3,225,155
                      )
                      
                      
                      (226,183
                      )Sales
      proceeds of disposal of fixed assets
                      
                      
                      -
                      
                      
                      
                      33,795Net
      Cash Flows from Investing Activities
                      
                      
                      (3,225,155
                      )
                      
                      
                      (192,388
                      )Cash
      Flows from Financing ActivitiesProceeds
      from Share Issuance
                      
                      
                      9,399,978
                      
                      
                      
                      –Capital
      contributed by Minority Shareholder
                      
                      
                      1,038,900
                      
                      
                      
                      –Net
      Cash flows from Financing Activities
                      
                      
                      10,438,878
                      
                      
                      
                      –Effects
      on changes in foreign exchange rate
                      
                      
                      2,751
                      
                      
                      
                      (1,760
                      )Net
      Change in Cash and Cash Equivalents
                      
                      
                      8,365,533
                      
                      
                      
                      2,950,976Cash
      and Cash Equivalents- Beginning of the period
                      
                      
                      10,255,259
                      
                      
                      
                      7,795,987Cash
      and cash Equivalents - End of the period
                      
                      US$
                      18,620,792
                      
                      
                      
                      10,746,963Supplemental
      Cash Flow Disclosures:Interest
      Paid
                      
                      
                      –
                      
                      
                      
                      13,736Tax
      Paid
                      
                      
                      1,028,418
                      
                      
                      
                      368,857





The
accompanying notes are an integral part of these financial
statements


4





SORL
Auto Parts, Inc. and Subsidiaries


Consolidated
Statements of Changes in Stockholders' Equity


For
The First Quarter Ended on March 31, 2010 and 2009





Additional
                            
                            
                            
                            
                            
                            Retained
                            
                            
                            Accumu.
      Other
                            
                            
                            Total SORL Auto
      Part, Inc.Number
                            
                            
                            Common
                            
                            
                            Paid-in
                            
                            
                            
                            
                            
                            Earnings
                            
                            
                            Comprehensive
                            
                            
                            Shareholders'
                            
                            
                            Noncontrolling
                            
                            
                            Totalof
      Share
                            
                            
                            Stock
                            
                            
                            Capital
                            
                            
                            Reserves
                            
                            
                            (Deficit)
                            
                            
                            Income
                            
                            
                            Equity
                            
                            
                            Interest
                            
                            
                            EquityBeginning
      Balance - January 1, 2009
                            
                            
                            18,279,254
                            
                            
                            
                            36,558
                            
                            
                            
                            37,498,452
                            
                            
                            
                            3,126,086
                            
                            
                            
                            38,774,684
                            
                            
                            
                            10,848,248
                            
                            
                            
                            90,284,028
                            
                            
                            
                            10,007,166
                            
                            
                            
                            100,291,194Net
      Income
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            944,911
                            
                            
                            
                            –
                            
                            
                            
                            944,911
                            
                            
                            
                            106,094
                            
                            
                            
                            1,051,005Other
      Comprehensive Income(Loss)
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            (17,282
                            )
                            
                            
                            (17,282
                            )
                            
                            
                            (1,920
                            )
                            
                            
                            (19,202
                            )Transfer
      to reserve
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            95,485
                            
                            
                            
                            (95,485
                            )
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –Ending
      Balance - March 31, 2009
                            
                            
                            18,279,254
                            
                            
                            
                            36,558
                            
                            
                            
                            37,498,452
                            
                            
                            
                            3,221,571
                            
                            
                            
                            39,624,110
                            
                            
                            
                            10,830,966
                            
                            
                            
                            91,211,657
                            
                            
                            
                            10,111,340
                            
                            
                            
                            101,322,997Beginning
      Balance - January 1, 2010
                            
                            
                            18,304,921
                            
                            
                            
                            36,609
                            
                            
                            
                            37,498,401
                            
                            
                            
                            4,425,784
                            
                            
                            
                            50,231,052
                            
                            
                            
                            10,939,100
                            
                            
                            
                            103,130,946
                            
                            
                            
                            11,394,125
                            
                            
                            
                            114,525,071Net
      Income
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            3,156,749
                            
                            
                            
                            –
                            
                            
                            
                            3,156,749
                            
                            
                            
                            293,907
                            
                            
                            
                            3,450,656Other
      Comprehensive Income(Loss)
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            30,332
                            
                            
                            
                            30,332
                            
                            
                            
                            3,672
                            
                            
                            
                            34,004Common
      stock issued in public offering
                            
                            
                            1,000,000
                            
                            
                            
                            2,000
                            
                            
                            
                            9,397,978
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            9,399,978
                            
                            
                            
                            –
                            
                            
                            
                            9,399,978Capital
      contributed by Minority Shareholder
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            1,038,900
                            
                            
                            
                            1,038,900Transfer
      to reserve
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            325,927
                            
                            
                            
                            (325,927
                            )
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –
                            
                            
                            
                            –Ending
      Balance - March 31, 2010
                            
                            
                            19,304,921
                            
                            
                            
                            38,609
                            
                            
                            
                            46,896,379
                            
                            
                            
                            4,751,711
                            
                            
                            
                            53,061,874
                            
                            
                            
                            10,969,432
                            
                            
                            
                            115,718,005
                            
                            
                            
                            12,730,604
                            
                            
                            
                            128,448,609





The
accompanying notes are an integral part of these financial
statements




5





NOTES
TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





NOTE
A - DESCRIPTION OF BUSINESS





SORL Auto
Parts, Inc.( “the Company”) is principally engaged in the manufacture and
distribution of automotive air brake systems, air controlling systems and other
related components for different types of commercial vehicles, such as trucks,
and buses, through its 90% ownership of Ruili Group Ruian Auto Parts Company
Limited (“Ruian”) in the People’s Republic of China (“PRC” or “China”) and 60%
ownership of SORL International Holding, Ltd. ("SIH") in Hong Kong. The Company
distributes products both in China and internationally under SORL trademarks.
The Company’s product range includes 40 categories of brake systems with over
1000 different specifications.





On
November 11, 2009, the Company entered into a joint venture agreement with MGR,
a Hong Kong-based global auto parts distribution specialist firm and a
Taiwanese investor. The new joint venture was named SORL International Holding,
Ltd. ("SIH"). SORL holds a 60% interest in the joint venture, MGR holds a 30%
interest, and the Taiwanese investor holds a 10% interest. SIH is primarily
devoted to expanding SORL's international sales network in Asia-Pacific and
creating a larger footprint in Europe, the Middle East and Africa with a target
to create a truly global distribution network. Based in Hong Kong, SIH is
expanding and establishing channels of distribution in international markets
with SORL's primary products, including spring brake chambers, clutch servos,
air dryers, relay valves and hand brake valves.





On
February 8, 2010, the Company sold 1,000,000 shares of its common stock to
selected institutional investors at a price of $10.00 per share pursuant to a
registered direct offering. This transaction provided net proceeds of
approximately $9.4 million. On March 9, 2010, through Fairford, SORL invested
$9.349 million in its operating subsidiary, the Ruili Group Ruian Auto Parts
Co., Ltd.(the “Joint Venture”) To maintain its 10% shareholding in the Joint
Venture, the Ruili Group increased its capital investment by $1.039 million.
Accordingly, SORL continues to hold a 90% controlling interest in the operating
subsidiary.





NOTE
B - BASIS OF PRESENTATION





The
condensed consolidated financial statements include the accounts of the Company
and its majority owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in the consolidation. Certain information and
footnote disclosures normally included in financial statements prepared in
conjunction with generally accepted accounting principles have been condensed or
omitted as permitted by the rules and regulations of the United States
Securities and Exchange Commission, although the Company believes that the
disclosures contained in this report are adequate to make the information
presented not misleading. These condensed consolidated financial statements
should be read in conjunction with the annual audited consolidated financial
statements and the notes thereto included in the Company’s annual report on Form
10-K and other reports filed with the SEC.





The
accompanying condensed unaudited interim consolidated financial statements
reflect all adjustments of a normal and recurring nature which are, in the
opinion of management, necessary to present fairly the financial position,
results of operations and cash flows of the Company for the interim periods
presented. The results of operations for these periods are not necessarily
comparable to, or indicative of, results of any other interim period or for the
fiscal year taken as a whole.





NOTE
C- RECENTLY ISSUED FINANCIAL STANDARDS





In
December 2007, the FASB issued FASB ASC 810-10-65 (Prior authoritative
literature: FASB Statement No. 160, "Noncontrolling Interests in Consolidated
Financial Statements - an amendment of ARB No.51") of which the objective is to
improve the relevance, comparability, and transparency of the financial
information that a reporting entity provides in its consolidated financial
statements by establishing accounting and reporting standards by requiring all
entities to report noncontrolling (minority) interests in subsidiaries in the
same way - as an entity in the consolidated financial statements. Moreover, FASB
ASC 810-10-65 eliminates the diversity that currently exists in accounting for
transactions between an entity and noncontrolling interests by requiring they be
treated as equity transactions.





6


FASB ASC
810-10-65 is effective for fiscal years beginning after December 15, 2008. The
adoption of these standards has not had any significant impact on the Company’s
consolidated financial statements.





In June
2009, the FASB issued FASB ASC 860-10-05 (Prior authoritative literature: FASB
Statement No. 166, “Accounting for Transfers of Financial Assets—an amendment of
FASB Statement No. 140”).  FASB ASC 860-10-05 improves the relevance,
representational faithfulness, and comparability of the information that a
reporting entity provides in its financial statements about a transfer of
financial assets; the effects of a transfer on its financial position, financial
performance, and cash flows; and a transferor’s continuing involvement, if any,
in transferred financial assets. FASB ASC 860-10-05 is effective as of the
beginning of each reporting entity’s first annual reporting period that begins
after November 15, 2009, for interim periods within that first annual reporting
period and for interim and annual reporting periods thereafter. As such, the
Company is required to adopt this standard in January 2010. The adoption of FASB
ASC 860-10-05 has not had a material effect on the Company’s consolidated
financial statements.





In June
2009, the FASB issued FASB ASC 810-10-05 (Prior authoritative literature: FASB
Statement No. 167, “Amendments to FASB Interpretation No. 46(R)”). FASB ASC
810-10-05 improves financial reporting by enterprises involved with variable
interest entities and to address (1) the effects on certain provisions of prior
authoritative literature FASB Interpretation No. 46 (revised December 2003),
“Consolidation of Variable Interest Entities”, as a result of the elimination of
the qualifying special-purpose entity concept in prior authoritative literature
SFAS 166 and (2) constituent concerns about the application of certain key
provisions of prior authoritative literature Interpretation 46(R), including
those in which the accounting and disclosures under the Interpretation do not
always provide timely and useful information about an enterprise’s involvement
in a variable interest entity. FASB ASC 810-10-05 is effective as of the
beginning of each reporting entity’s first annual reporting period that begins
after November 15, 2009, for interim periods within that first annual reporting
period, and for interim and annual reporting periods thereafter. As such, the
Company is required to adopt this standard in January 2010. The adoption of FASB
ASC 810-10-05 has not had a material effect on the Company’s consolidated
financial statements.




In June
2009, the FASB issued FASB ASC 105-10 (Prior authoritative literature: FASB
Statement No. 168, "The FASB
Accounting Standards Codification and the Hierarchy of Generally Accepted
Accounting Principles”). FASB ASC 105-10 replaces prior authoritative
literature SFAS 162 and establishes the FASB Accounting Standards
Codification as the source of authoritative accounting principles
recognized by the FASB to be applied by nongovernmental entities in the
preparation of financial statements in conformity with GAAP.  FASB ASC
105-10 is effective for financial statements issued for interim and annual
periods ending after September 15, 2009. The adoption of FASB ASC 105-10 has not
had a material effect on the Company’s consolidated financial
statements.





In June
2009, the FASB issued revised authoritative guidance related to variable
interest entities, which requires entities to perform a qualitative analysis to
determine whether a variable interest gives the entity a controlling financial
interest in a variable interest entity.  The guidance also requires an
ongoing reassessment of variable interests and eliminates the quantitative
approach previously required for determining whether an entity is the primary
beneficiary.  This guidance, which was reissued by the FASB in December
2009 as ASU  No. 2009-17, “Improvements to Financial Reporting by
Enterprises Involved with Variable Interest Entities,” amends ASC Topic 810,
“Consolidation”, and will be effective as of the beginning of an entity’s first
annual reporting period that begins after November 15, 2009 (January 1, 2010 for
the Company).  The adoption of this guidance has not had a significant
impact on the Company’s consolidated financial statements.





In
January 2010, the FASB issued Accounting Standards Updated (ASU) No. 2010-06,
“Improving Disclosures about Fair Value Measurements,” which amends ASC 820,
“Fair Value Measures and Disclosures.”  ASU No. 2010-06 amends the ASC to
require disclosure of transfers into and out of Level 1 and Level 2 fair value
measurements, and also require more detailed disclosure about the activity
within Level 3 fair value measurements.  The changes to the ASC as a result
of this update are effective for annual and interim reporting periods beginning
after December 15, 2009 (January 1, 2010 for the Company), except for the
requirements related to Level 3 disclosures, which are effective for annual and
interim reporting periods beginning after December 15, 2010 (January 1, 2011 for
the Company).  This guidance requires new disclosures only, and has had no
impact on the Company’s consolidated financial statements.





7


NOTE
D - RELATED PARTY TRANSACTIONS





The
Company continued to purchase non-valve automotive products, components for
valve parts and packaging materials from the Ruili Group Co., Ltd. The Ruili
Group Co., Ltd., is the minority shareholder of the Joint Venture and is
controlled by the Zhang family, who is also the controlling party of the
Company.





The
following related party transactions are reported for the fiscal quarter ended
March 31, 2010 and 2009:





ThreeMonthsEndedMarch31,2010
                  
                  
                  2009PURCHASES
      FROM :Ruili
      Group Co., Ltd.
                  
                  $
                  4,635,025
                  
                  
                  $
                  2,697,016Total
      Purchases
                  
                  $
                  4,635,025
                  
                  
                  $
                  2,697,016SALES
      TO:Ruili
      Group Co., Ltd.
                  
                  $
                  249,156
                  
                  
                  $
                  137,432Total
      Sales
                  
                  $
                  249,156
                  
                  
                  $
                  137,432





The total
purchases from Ruili Group during the first quarter ended March 31,
2010 consisted of approximately $4.3 million of finished products of
non-valve auto parts and approximately $0.3 million of packaging
materials.





March31,
                        
                        
                        December31,2010
                        
                        
                        2009ACCOUNTS
      PAYABLE TO RELATED PARTIESRuili
      Group Co., Ltd.
                        
                        $
                        1,467,505
                        
                        
                        $
                        1,985,291Total
                        
                        $
                        1,467,505
                        
                        
                        $
                        1,985,291OTHER
      PAYABLES TO RELATED PARTIESRuili
      Group Co., Ltd.
                        
                        $
                        41,850
                        
                        
                        $
                        200,762Total
                        
                        $
                        41,850
                        
                        
                        $
                        200,762





NOTE
E - ACCOUNTS RECEIVABLE




The
changes in the allowance for doubtful accounts at March 31, 2010 and December
31, 2009 were summarized as follows:




March 31,
                  
                  
                  December 31,2010
                  
                  
                  2009Beginning
      balance
                  
                  $
                  57,823
                  
                  
                  $
                  24,997Add:
      Increase to allowance
                  
                  
                  157,237
                  
                  
                  
                  32,826Less:
      Accounts written off
                  
                  
                  —
                  
                  
                  
                  —Ending
      balance
                  
                  $
                  215,060
                  
                  
                  $
                  57,823




8




March
      31,
                  
                  
                  December
      31,2010
                  
                  
                  2009Accounts
      receivable
                  
                  $
                  41,167,808
                  
                  
                  $
                  44,603,930Less:
      allowance for doubtful accounts
                  
                  
                  (215,060
                  )
                  
                  
                  (57,823
                  )Accounts
      receivable balance, net
                  
                  $
                  40,952,748
                  
                  
                  $
                  44,546,107




NOTE
F - INVENTORIES




On March
31, 2010 and December 31, 2009, inventories consisted of the
following:




March 31,
                  
                  
                  December 31,2010
                  
                  
                  2009Raw
      Material
                  
                  $
                  4,952,445
                  
                  
                  $
                  4,417,094Work
      in process
                  
                  
                  2,213,128
                  
                  
                  
                  2,186,337Finished
      Goods
                  
                  
                  13,629,491
                  
                  
                  
                  12,157,293Total
      Inventory
                  
                  $
                  20,795,064
                  
                  
                  $
                  18,760,724




NOTE
G - PROPERTY, PLANT AND EQUIPMENT




Property,
plant and equipment consisted of the following, on March 31, 2010 and
December 31, 2009:




March 31,
                  
                  
                  December 31,2010
                  
                  
                  2009Machinery
                  
                  $
                  28,773,073
                  
                  
                  $
                  24,283,034Molds
                  
                  
                  1,277,112
                  
                  
                  
                  1,276,757Office
      equipment
                  
                  
                  710,808
                  
                  
                  
                  700,609Vehicle
                  
                  
                  1,199,805
                  
                  
                  
                  1,092,835Building
                  
                  
                  7,984,945
                  
                  
                  
                  7,982,723Sub-Total
                  
                  
                  39,945,743
                  
                  
                  
                  35,335,958Less:
      Accumulated depreciation
                  
                  
                  (12,380,467
                  )
                  
                  
                  (11,608,920
                  )Fixed
      Assets, net
                  
                  $
                  27,565,276
                  
                  
                  $
                  23,727,038




Depreciation
expense charged to operations was $768,209 and $643,142 for the first quarter
ended March 31, 2010 and 2009, respectively.




NOTE
H- LAND USE RIGHTS




March 31,
                  
                  
                  December 31,2010
                  
                  
                  2009Cost:
                  
                  $
                  14,945,490
                  
                  
                  $
                  14,941,331Less:
      Accumulated amortization:
                  
                  
                  (825,717
                  )
                  
                  
                  (742,939
                  )Land
      use rights, net
                  
                  $
                  14,119,773
                  
                  
                  $
                  14,198,392





9




According
to the law of China, the government owns all the land in China. Companies and
individuals are authorized to possess and use the land only through land use
rights granted by the Chinese government. The Company purchased the land use
rights from Ruili Group for approximately $13.9 million on September 28, 2007.
The Company has not yet obtained the land use right certificate. However, the
Company has applied to obtain the land use right
certificate. Amortization expenses were $82,560 and $82,464 for the
first quarter ended March 31, 2010 and 2009, respectively.




NOTE
I - INTANGIBLE ASSETS




Intangible
assets owned by the Company included patent technology and management software
licenses. Gross intangible assets were $161,543, less accumulated amortization
of $58,227 for net intangible assets of $103,316 as of March 31, 2010. Gross
intangible assets were $161,499, less accumulated amortization of $54,380 for
net intangible assets of $107,119 as of December 31, 2009. Amortization expenses
were $3,832 and $3,827 for the first quarter ended March 31, 2010 and 2009
respectively. Future estimated amortization expense is as follows:


2010
                        
                        
                        2011
                        
                        
                        2012
                        
                        
                        2013
                        
                        
                        2014
                        
                        
                        Thereafter$
                        12,318
                        
                        
                        $
                        16,150
                        
                        
                        $
                        16,150
                        
                        
                        $
                        16,150
                        
                        
                        $
                        11,766
                        
                        
                        $
                        30,753




NOTE
J - PREPAYMENT




Prepayment,
including related party transactions described above in Note D, consisted of the
following as of March 31, 2010 and December 31, 2009:




March 31,
                  
                  
                  December 31,2010
                  
                  
                  2009Raw
      material suppliers
                  
                  $
                  2,117,451
                  
                  
                  $
                  3,059,449Equipment
      purchase
                  
                  
                  3,318,363
                  
                  
                  
                  4,498,691Total
      prepayment
                  
                  $
                  5,435,814
                  
                  
                  $
                  7,558,140




NOTE
K - DEFERRED TAX ASSETS AND DEFERRED TAX LIABILITIES





Deferred
tax assets consisted of the following as of March 31, 2010


Mar31,2010
                    
                    
                    Dec31,2009Deferred
      tax assets - currentProvision
                    
                    
                    31,502
                    
                    
                    
                    7,917Subsidiary's
      operating loss carryforwards
                    
                    
                    66,528
                    
                    
                    
                    33,008Warranty
                    
                    
                    307,967
                    
                    
                    
                    260,295Deferred
      tax assets
                    
                    
                    405,997
                    
                    
                    
                    301,220Valuation
      allowance
                    
                    
                    ―
                    
                    
                    
                    ―Deferred
      tax assets - current
                    
                    
                    405,997
                    
                    
                    
                    301,220Deferred
      tax liabilities - currentRevenue
      (netoff cost)
                    
                    
                    84,937
                    
                    
                    
                    80,643Deferred
      tax liabilities - current
                    
                    
                    84,937
                    
                    
                    
                    80,643Net
      deferred tax assets - current
                    
                    
                    321,060
                    
                    
                    
                    220,577Deferred
      tax liabilities - non-currentLand
      use right
                    
                    
                    128,348
                    
                    
                    
                    115,481Deferred
      tax liabilities - non-current
                    
                    
                    128,348
                    
                    
                    
                    115,481




10


Deferred
taxation is calculated under the liability method in respect of taxation effect
arising from all timing differences, which are expected with reasonable
probability to realize in the foreseeable future. The Company and its
subsidiaries do not have income tax liabilities in U.S. as the Company had no
United States taxable income for the reporting period. The Company’s subsidiary
registered in the PRC is subject to income taxes within the PRC at the
applicable tax rate.




NOTE
L - ACCRUED EXPENSES




Accrued
expenses consisted of the following as of March 31, 2010 and December 31,
2009:




March 31,
                  
                  
                  December 31,2010
                  
                  
                  2009Accrued
      payroll
                  
                  $
                  1,131,353
                  
                  
                  $
                  1,536,980Other
      accrued expenses
                  
                  
                  2,862,139
                  
                  
                  
                  2,669,317Total
      accrued expenses
                  
                  $
                  3,993,492
                  
                  
                  $
                  4,206,297




NOTE
M – RESERVE




The
reserve funds are comprised of the following:




March 31,
                  
                  
                  December 31,2010
                  
                  
                  2009Statutory
      surplus reserve fund
                  
                  $
                  4,751,711
                  
                  
                  $
                  4,425,784Total
                  
                  $
                  4,751,711
                  
                  
                  $
                  4,425,784





Pursuant
to the relevant laws and regulations of Sino-foreign joint venture enterprises,
the profits of the Company's subsidiary, which are based on their PRC statutory
financial statements, are available for distribution in the form of cash
dividends after they have satisfied all the PRC tax liabilities, provided for
losses in previous years, and made appropriations to reserve funds, as
determined at the discretion of the board of directors in accordance with PRC
accounting standards and regulations.





As
stipulated by the relevant laws and regulations for enterprises operating in the
PRC, the Company's Sino-foreign joint venture is required to make annual
appropriations to the statutory surplus funds. In accordance with the relevant
PRC regulations and the articles of association of the respective companies, the
Joint Venture is required to allocate a certain percentage of its profits
after taxation, as determined in accordance with PRC accounting standards
applicable to the Company, to the statutory surplus reserve until such reserve
reaches 50% of the registered capital of the Company.





Net
income as reported in the US GAAP financial statements differs from that as
reported in the PRC statutory financial statements. In accordance with the
relevant laws and regulations in the PRC, the profits available for distribution
are based on the statutory financial statements. If the Joint Venture has
foreign currency available after meeting its operational needs, the Joint
Venture may make its profit distributions in foreign currency to the extent
foreign currency is available. Otherwise, it is necessary to obtain approval and
convert such distributions at an authorized bank. The reserve fund consists of
retained earnings which has been allocated to the statutory reserve
fund.





11




NOTE
N - INCOME TAXES




The Joint
Venture is registered in the PRC, and is therefore subject to state and local
income taxes within the PRC at the applicable tax rate on the taxable income as
reported in the PRC statutory financial statements in accordance with relevant
income tax laws. According to applicable tax laws regarding Sino-Foreign Joint
Venture, the Joint Venture is exempted from income taxes in the PRC for the
fiscal years ended December 31, 2005 and 2004. Thereafter, the Joint Venture is
entitled to a 50% income tax deduction for the following three years ended
December 31, 2006, 2007, and 2008. As a result of the Joint Venture
obtaining its Sino-foreign joint venture status in 2004, in accordance with
applicable PRC tax regulations, the Joint Venture was exempted from PRC income
tax in both fiscal 2004 and 2005. Thereafter, the Joint Venture is entitled to a
tax concession of 50% of the applicable income tax rate of 26.4% for the two
years ended December 31, 2006 and 2007. With the new PRC Enterprise Income Tax
Law, effective on 1st January 2008, the China’s enterprises are generally
subject to a PRC income tax rate of 25% and the Joint Venture is entitled to a
tax concession of 50% of the applicable income tax rate of 25% for the year
ended December 31, 2008.





Additionally,
the Company increased its investment in the Joint Venture as a result of its
financing in December, 2006. In accordance with the Income Tax Law of the
People's Republic of China on Foreign-invested Enterprises and Foreign
Enterprises, the Joint Venture is eligible for additional preferential tax
treatment. For the years 2007 and 2008, the Joint Venture entitled to an income
tax exemption on all pre-tax income generated by the company above its pre-tax
income generated in the fiscal year 2006. Thereafter, the Joint Venture will
enjoy a 50% exemption from the effective income tax rate on any pre-tax income
above its 2006 pre-tax income, to be recognized in the years 2009, 2010 and
2011. The above taxation exemption was superseded, because the Joint
Venture has been awarded the Chinese government's "High-Tech Enterprise"
designation. The High-Tech Enterprise certificate is valid for three years and
provides for a reduced tax rate of 15% for years 2009 through 2011. So, the
Company’s effective income tax rate will be 15% for years 2009 through
2011.





The
reconciliation of the effective income tax rate of the Joint Venture to the
statutory income tax rate in the PRC for the first quarter of 2010 and 2009 is
as follows:




Mar-31-2010
                    
                    
                    Mar-31-2009Statutory
      tax rate
                    
                    
                    25.0
                    %
                    
                    
                    25.0
                    %Tax
      holidays and concessions
                    
                    
                    -10
                    %
                    
                    
                    -10
                    %Effective
      tax rate
                    
                    
                    15
                    %
                    
                    
                    15
                    %





Mar-31-2010
                      
                      
                      Mar-31-2009Computed
      income tax provision at the statutory rate
                      
                      $
                      608,285
                      
                      
                      $
                      211,346Deferred
      tax provision
                      
                      
                      (87,766
                      )
                      
                      
                      (152,508
                      )Current
      year permanent differences and other reconciling items
                      
                      
                      84,059
                      
                      
                      
                      299,128Total
      income taxes
                      
                      $
                      604,578
                      
                      
                      $
                      357,966





Income
taxes are calculated on a separate entity basis. Deferred income taxes reflect
the net tax effects of temporary differences between the carrying amounts of
assets and liabilities for financial reporting purposes and the amounts used for
income tax purposes Significant components of the Company’s net deferred tax
assets and liabilities are approximately as follows at December 31,2009. No
valuation allowance is deemed necessary. There currently is no tax benefit
or burden recorded for the United States. The tax authority may examine the
tax returns of the Company three years after the year ended. The open years
are 2006 to 2008. There were no penalties and interest, which generally are
recorded in the general and administrative expenses or in the tax
expenses. The provisions for income taxes for the first quarter of 2010 and
2009, respectively, are summarized as follows:




12




Mar-31-2010
                  
                  
                  Mar-31-2009Current
                  
                  $
                  692,344
                  
                  
                  $
                  510,475Deferred
                  
                  
                  (87,766
                  )
                  
                  
                  (152,508
                  )Total
                  
                  $
                  604,578
                  
                  
                  $
                  357,967





The
Company adopted the provisions of FASB ASC 740-10 (Prior authoritative
literature: FIN No. 48, Accounting for Uncertainty in Income Taxes), on January
1, 2007. As the result of the implementation of the FASB ASC 740-10, Accounting
for Uncertainty in Income Taxes – In Interpretation of FASB ASC 740-10 (Prior
authoritative literature: FASB Statement No. 109), the Company recognized no
material adjustments to unrecognized tax benefits. At the adoption date of
January 1, 2007 and as of March 31, 2010 and 2009, the Company has no
unrecognized tax benefits.





NOTE
O-Non-controlling interest in
subsidiaries





Non-controlling
interest in subsidiaries represents a 10% non-controlling interest, owned by the
Company’s Joint Venture Partner, in the Chinese located Joint Venture, and a 40%
non-controlling interest, owned by the Company’s Joint Venture Partners, in the
Hong Kong located Joint Venture. Net income attributable to non-controlling
interests in subsidiaries amounted to $293,907 and $106,094 for the first
quarter of 2010 and 2009, respectively.





Mar-31-2010
                  
                  
                  Mar-31-200910%
      non-controlling interest in Ruian
                  
                  $
                  362,141
                  
                  
                  $
                  106,09440%
      non-controlling interest in SIH
                  
                  $
                  (68,234
                  )
                  
                  
                  ―Total
                  
                  $
                  293,907
                  
                  
                  
                  106,094





NOTE
P-LEASES





In
December 2006, the Joint Venture entered into a lease agreement with Ruili Group
Co., Ltd. for the lease of two apartment buildings. These two apartment
buildings are respectively for its management personnel and staff. The lease
term is from January 2007 to December 2011 for one of the apartment buildings
and from January 2007 to December 2012 for the other.





Future
minimum rental payments for the years ended December 31, are as follows:




2010
                                
                                
                                2011
                                
                                
                                2012
                                
                                
                                2013
                                
                                
                                2014
                                
                                
                                ThereafterLease
      Commitments
                                
                                $
                                568,638
                                
                                
                                $
                                628,179
                                
                                
                                $
                                397,693
                                
                                
                                $
                                329,410
                                
                                
                                $
                                329,410
                                
                                
                                $
                                988,231Total
                                
                                $
                                568,638
                                
                                
                                $
                                628,179
                                
                                
                                $
                                397,693
                                
                                
                                $
                                329,410
                                
                                
                                $
                                329,410
                                
                                
                                $
                                988,231




NOTE
Q - ADVERTISING COSTS





The
Company incurred no advertising costs for the first quarter ended March 31, 2010
and 2009.





13


NOTE
R - RESEARCH AND DEVELOPMENT EXPENSE





Research
and development costs are expensed as incurred and were $1,321,053and $766,451
for the first quarter ended March 31, 2010 and 2009, respectively.





NOTE
S - WARRANTY CLAIMS





Warranty
claims accrued were $416,836 and $266,288 for the first quarter ended
March 31, 2010 and 2009, respectively. The change in accrued warranty
expenses or the first quarter ended March 31, 2010 was as follows:





Beginning
      balance at Jan 01, 2010
                        
                        $
                        1,735,301Aggregate
      reduction for payments made:
                        
                        $
                        (99,023
                        )Aggregate
      increase for new warranties issued during current period:
                        
                        $
                        416,836Aggregate
      changes in the liability related to pre-existing warranties (changes in
      estimate):
                        
                        $
                        ―Ending
      balance at March 31, 2010
                        
                        $
                        2,053,114




NOTE
T - SEGMENT INFORMATION




The
Company produces air brake systems, air controlling systems and other related
components for different types of commercial vehicles. Although it
manufactures about 40 varieties of products of air brake systems and
related components, they are basically one general line - air brake
systems. Management does not analyze operational income based on different
features of air brake systems but on one general line of air brake systems only.
Hence, no separate segment analysis by products is presented as the Company’s
only products are air brake systems and related components.





Net sales
from our Chinese market were $25.6 million and $15.7 million for the three
months ended March 31, 2010 and 2009, respectively. Net sales from international
market were $8.5 million and $4.6 million for the three months ended March 31,
2010 and 2009, respectively.





All of
the Company’s long-lived assets are located in the PRC and Hong Kong. The
Company and its subsidiaries do not have long-lived assets in the United States
for the reporting periods.





For the
three months ended March 31, 2010, the Company’s three biggest customers were
FAW Qingdao Automobile Works, Beiqi Foton Motor Co., Ltd. Beijing Auman
Heavy-Duty Vehicle Works and FAW Jiefang Automotive Co., Ltd. which accounted
for approximately 11.4%, 6.3% and 6.0% of total sales revenue, respectively. For
the three months ended March 31, 2009, FAW Jiefang Automotive Co., Ltd., Beiqi
Foton Motor Co., Ltd. Zhucheng Automobile Works and Guangzhou Ruili Autoparts
Co., Ltd. accounted for approximately 4.7%, 3.7% and 3.2% of our total sales
revenue, respectively.





NOTE
U – PURCHASE DISCOUNT




Purchase
discounts represent discounts received from vendors for purchasing raw
materials. The Company did not receive any purchase discounts for the
first quarter of 2010 and 2009.





NOTE
V – SHIPPING AND HANDLING COSTS




Shipping
and handling costs incurred by the Company are included in selling expenses in
the accompanying consolidated statements of income. Shipping and handling
costs were $633,642 and $227,613for the first quarter of
2010 and 2009, respectively.





NOTE
W – STOCK COMPENSATION PLAN





The amortization of deferred
stock-based compensation was $0 and $9,935 for the first quarter
of 2010 and 2009 .There were no employee stock options or warrants outstanding
as of March 31, 2010.





14


NOTE
X- COMMITMENTS AND CONTINGENCIES





(1)  According
to the law of China, the government owns all the land in China. Companies and
individuals are authorized to possess and use the land only through land use
rights granted by the Chinese government. The Company purchased the land use
rights from Ruili Group for approximately $13.9 million on September 28, 2007.
The Company has not yet obtained the land use right certificate. However, the
Company has applied to obtain the land use right certificate.





(2)  Information
regarding lease commitments is provided in Note P.





NOTE
Y - OFF-BALANCE SHEET ARRANGEMENTS





At March
31, 2010, we do not have any material commitments for capital expenditures or
have any transactions, obligations or relationships that could be considered
off-balance sheet arrangements.





NOTEZ–RECLASSIFICATION OF PRIOR
YEAR STATEMENT OF INCOME AND STATEMENT OF CASH FLOW





For the
first quarter of 2010, the Company has reclassified Research and Development
Expenses and Deferred Tax Assets/Liabilities to facilitate a year over year
comparison with the first quarter of 2009.





ITEM
2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS





The
following is management’s discussion and analysis of certain significant factors
that have affected our financial position and operating results during the
periods included in the accompanying condensed consolidated financial
statements, as well as information relating to the plans of our current
management. This quarterly report on Form 10-Q includes forward-looking
statements. Any statements contained in this report that are not statements of
historical fact may be deemed to be forward-looking statements. Generally, the
words “believes,” “anticipates,” “may,” “will,” “should,” “expect,” “intend,”
“estimate,” “continue,” and similar expressions, or the negative thereof,
or comparable terminology, are intended to identify forward-looking statements.
Such statements are subject to certain risks and uncertainties, including the
matters set forth in this report or other reports or documents we file with the
Securities and Exchange Commission from time to time, which could cause actual
results or outcomes to differ materially from those anticipated. Undue reliance
should not be placed on these forward-looking statements that speak only as of
the date hereof. We undertake no obligation to update these forward-looking
statements.





The
following discussion and analysis should be read in conjunction with our
condensed consolidated financial statements and the related notes thereto and
other financial information contained elsewhere in this Form 10-Q.





OVERVIEW





The Company manufactures and distributes automotive air brake
systems, air controlling systems and other related components to automotive
original equipment manufacturers, or OEMs, and the related aftermarket both in
China and internationally for use primarily in different types of commercial
vehicles, such as trucks and buses. There are forty categories of air brake
systems with over one thousand different specifications. Management believes
that it is the largest manufacturer of automotive brake systems in China for
commercial vehicles such as tucks and buses.





CRITICAL
ACCOUNTING POLICIES AND ESTIMATES





For a
summary of our accounting policies and estimates, see Item 7, “Management’s
Discussion and Analysis of Financial Condition and Results of
Operations—Critical Accounting Policies and Estimates” in our Annual Report on
Form 10-K for the Fiscal Year ended December 31, 2009.





See Note
N to the attached Unaudited Consolidated Financial Statements for the
information regarding changes in taxation by the government of
China.




15




Results
of Operations




Results
of operations for the three months ended March 31, 2010 as compared to the
three months ended March 31, 2009.




SALES




Three Months ended
                  
                  
                  Three Months ended31-MAR-10
                  
                  
                  31-MAR-09Air
      brake systems & related components
                  
                  $
                  29.5
                  
                  
                  
                  M
                  
                  
                  
                  86.5
                  %
                  
                  $
                  17.3
                  
                  
                  
                  M
                  
                  
                  
                  85.6
                  %Non-valve
      products
                  
                  $
                  4.6
                  
                  
                  
                  M
                  
                  
                  
                  13.5
                  %
                  
                  $
                  2.9
                  
                  
                  
                  M
                  
                  
                  
                  14.4
                  %Total
                  
                  $
                  34.1
                  
                  
                  
                  M
                  
                  
                  
                  100
                  %
                  
                  $
                  20.2
                  
                  
                  
                  M
                  
                  
                  
                  100
                  %





Sales
consist of air brake systems and related components manufactured by SORL and
sold to domestic original equipment manufacturers (OEM), aftermarket customers
and export market as well as distribution of non-valve auto parts sourced from
related parties.





Net sales
were $34,105,054 for the three months ended March 31, 2010, compared with
$20,243,738 for the same period 2009. Net sales for the three months
ended March 31, 2010 increased by $13.9 million or 68.5% to $34.1
million.




The
following table sets forth the breakdown of net sales revenue by
markets for the first quarter of the 2010 and 2009 fiscal
years:




Three
                  Months
                
                
                Percent
                
                
                Three
                  Months
                
                
                Percentended
                
                
                of
                
                
                ended
                
                
                of
                
                
                Percentage31-Mar-10
                
                
                TotalSales
                
                
                31-Mar-09
                
                
                TotalSales
                
                
                Change(U.S. dollars in million)China
      OEM market
                
                $
                19.2
                
                
                
                56
                %
                
                $
                9.2
                
                
                
                45
                %
                
                
                108.7
                %China
      Aftermarket
                
                $
                6.4
                
                
                
                19
                %
                
                $
                6.5
                
                
                
                32
                %
                
                
                -1.5
                %International
      market
                
                $
                8.5
                
                
                
                25
                %
                
                $
                4.6
                
                
                
                23
                %
                
                
                84.8
                %Total
                
                $
                34.1
                
                
                
                100
                %
                
                $
                20.2
                
                
                
                100
                %
                
                
                68.8
                %





Global
financial conditions, involving a worldwide macroeconomic decline and weak
global auto market, caused the demand for our products to decline
during the first quarter of 2009. However, the Chinese’s government’s 4
trillion RMB stimulus package, which positively affected the development of
China’s automobile industry, materially benefited our results in first
quarter of 2010. Further, we promoted our integrated system and modular
supplies of air brake systems to our OEM customers and we increasingly
focused on the light duty, bus and agricultural vehicle market in 2010. As a
result of these positive factors, our sales to the Chinese OEM
market increased by $10 million to $19.2 million for the first quarter
of 2010, compared to $9.2 million for the same period of 2009.




We
achieved total revenue of $6.4 million in Chinese aftermarket sales for the
three months ended March 31, 2010, a decrease of $0.1million, or 1.5% from
thesame
period of last year.




The global
financial crisis has negatively affected our international customers and caused
many world currencies to depreciate against the US dollar, while
the lack of confidence in the growth of the world macro-economy
caused our customers to decrease their inventories in order to lower their
risk in the first quarter of 2009. With the recovery of global economy and
customers' confidence in the growth of economy in 2010, our export sales
increased by $3.9 million or 84.8%, to $8.5 million for the first quarter of
2010, as compared to $4.6 million for the same period of 2009.




16


COST
OF SALES AND GROSS PROFIT




For the
quarter ended March 31, 2010, cost of sales was $24,455,082, an increase of
$9,724,157, or 66.0% from $14,730,925 for the same period last
year.





From
$5,512,813 for the first quarter of 2009 to $9,649,972 for the first
quarter of 2010, gross profit increased by 75%, exceeding our cost of sales
increase rate. Our gross margin increased 1.1 percentage points for the
three months ended March 31, 2010, to 28.3% from 27.2 % for the same period
of 2009.





We
believe that the improvements in gross profits and gross margin reflect our
focus on increasing production efficiency, improving the technologies of
products, and improving our product portfolio. We believe that our continued
expansion to higher-profit new products will also help us to maintain or
increase our gross profit margins.




SELLINGAND DISTRIBUTIONEXPENSES




Selling
and distribution expenses were $1,984,024 for the three months ended March
31, 2010, as compared to $1,317,734 for the same period of 2009,
an increase of $666,290 or 50.6 %. The increase was mainly due to
the increased transportation expense, packaging expense and
accrued warranty expenses as a result of increased sales. As a percentage
of sales revenue, selling expenses decreased to 5.8% for the three months
ended March 31, 2010, as compared to 6.5% for the same period in
2009.




GENERAL
AND ADMINISTRATIVE EXPENSES




General
and administrative expenses were $2,286,861 for the three months ended
March 31, 2010, as compared to $2,026,298 for the same period of 2009,
an increase of $260,563 or 12.9%. The increase was mainly due to
increased staff salary, welfare costs and travel expenses for business
expansion. As a percentage of sales revenue, general and
administrative expenses decreased to 6.7% for the three months ended March
31, 2010, as compared to 10.0% for the same period in 2009.




RESEARCH
AND DEVELOPMENT EXPENSE




For the
three months ended March 31, 2010, research and development expense was
$1,321,053, as compared to $766,451 for the same period of 2009, an increase of
$554,602. The Company will continue to invest in new product development,
particularly in upgrading traditional valve products and in developing
electronically controlled products.




DEPRECIATION
AND AMORTIZATION




Depreciation
and amortization expense increased to $855,272 for the three months ended
March 31, 2010, compared with that of $729,433 for the same period of 2009,
an increase of $125,839. The increase in depreciation and amortization
expense was primarily due to the purchase of production equipment.




FINANCIAL
EXPENSE




Our financial
expense for the three months ended March 31, 2010 increased by $45,679 to
$74,641 from $28,962 for the same period of 2009, which was
mainly attributed to more interest resulted from
discounting notes receivables during the three months ended March 31,
2010.




17


OTHER
INCOME




Other
income was $84,500 for the three months ended March 31, 2010, as compared to
$39,217 for the three months ended March 31, 2009, an increase of
$45,283. Other income was mainly due to the sales of raw material
scraps.




INCOME
TAX




The Joint
Venture is registered in the PRC, and is therefore subject to state and local
income taxes within the PRC at the applicable tax rate on taxable income
as reported in the PRC statutory financial statements in accordance with
relevant income tax laws. According to applicable tax laws regarding
Sino-Foreign Joint Ventures, the Joint Venture was exempt from income taxes
in the PRC for each of the fiscal years ended December 31, 2005 and 2004.
Thereafter, the Joint Venture was entitled to a 50% income tax deduction
for each of the three years ended December 31, 2008. Thus, the Joint Venture was
exempted from PRC income tax in both fiscal 2004 and 2005, and entitled to
a tax concession of 50% of the applicable income tax rate of 26.4% for the two
years ended December 31, 2006 and 2007. With the new PRC Enterprise Income
Tax Law, effective on 1st January 2008, China’s enterprises are generally
subject to a PRC income tax rate of 25% and the Joint Venture was
entitled to a tax concession of 50% of the applicable income tax rate of
25% for the year ended December 31, 2008.





The
Company increased its investment in the Joint Venture as a result of its
financing in December, 2006. In accordance with the Income Tax Law of
the People's Republic of China on Foreign-invested Enterprises and Foreign
Enterprises, the Joint Venture was eligible for additional preferential tax
treatment for the years 2007 and 2008. In those years, the Joint Venture
was entitled to an income tax exemption on all pre-tax income generated by the
Company above its pre-tax income generated in the fiscal year 2006. In
2009, 2010 and 2011, the Joint Venture will enjoy a 50% exemption from the
applicable income tax rate of 25% on any pre-tax income above its 2006
pre-tax income. The above taxation exemption was superseded, because the Joint
Venture has been awarded the Chinese government's "High-Tech Enterprise"
designation. The High-Tech Enterprise certificate is valid for three years and
provides for a reduced tax rate of 15% for years 2009 through 2011. So,
the effective income tax rate will be 15% for years 2009 through
2011.





Income
tax expense of $604,578 and $357,966 was recorded for the
quarters ended March 31, 2010 and 2009, respectively.




STOCK-BASED
COMPENSATION




On March 1, 2006, the Board of
Directors approved a total of 60,000 options to be issued to the four
independent members of the Board of Directors. The contractual term of the
options was three years. Total deferred stock-based compensation expenses
related to stock options amounted to $178,904. This amount was amortized
over the three year vesting period in a manner consistent with FASB ASC 505-50.
The amortization of deferred stock-based compensation for these equity
arrangements were $0 and $9,935 for the quarters ended March 31, 2010
and 2009, respectively. As of December 31, 2009, the 60,000 options had expired
unexercised.





On June
20, 2007, the Company granted to its previous senior manager of investor
relations, David Ming He, options to purchase 4,128 shares of its common stock
with an exercise price of $7.25 per share. In accordance with the agreement, the
option became vested and exercisable immediately on the date thereof. Total
deferred stock-based compensation expenses related to the 4,128 stock options
granted amounted to $23,201. This amount was charged to General and
administrative expenses during the fiscal year ended December 31, 2007. On
November 13, 2009, David Ming He exercised the options on a cashless basis and
received 460 shares of common stock, based on a formula provided for in the
initial grant.





On
January 5, 2006, the Company issued 100,000 warrants for financial services to
be provided by Maxim Group LLC and Chardan Capital Markets, LLC, with an
exercise price of $6.25 per share. In accordance with the common stock purchase
warrant agreement, the warrants became vested and exercisable immediately on the
date thereof. As set forth in the agreement, the Company had retained Maxim
Group LLC and Chardan Capital Markets, LLC as its exclusive financial advisors
and investment bankers for a period of twelve months from the date of January 5,
2006. The agreement has now expired. Total expense associated with the 100,000
warrants amounted to $299,052, which, consistent with FASB ASC 505-50, was
recognized during the fiscal year ended December 31, 2006.





18


On
November 9, 2009, Maxim Group LLC transferred 35,000 warrants to OTA LLC and
35,000 warrants to Maxim Partners, LLC respectively. OTA LLC exercised the
warrants on a cashless basis on November 12, 2009 and received 6,609 shares of
common stock, based on a formula provided for in the initial grant. Maxim
Partners, LLC and Chardan Capital Markets, LLC transferred an additional 35,000
warrants and 30,000 warrants to OTA LLC on December 15, 2009 and December 11,
2009, respectively. OTA LLC exercised the warrants on a cashless basis on
December 18, 2009 and received 18,598 shares of common stock, based on a formula
provided for in the initial grant.





There
were no options or warrants outstanding as of March 31, 2010.





Although
the Company anticipates future issuances of stock awards could have a material
impact on reported net income in future financial statements, we do not expect
them to have a material impact on future cash flow.




NON-CONTROLLING
INTEREST IN SUBSIDIARIES




Non-controlling
interest in subsidiaries represents a 10% non-controlling interest in the
Chinese located Joint Venture and 40% non-controlling interest in the Hong Kong
located Joint Venture, in each case held by our Joint Venture Partners.
Non-controlling interest in subsidiaries amounted to $293,907 and $106,094 for
the first quarter ended March 31, 2010 and 2009, respectively.




NET
INCOME




The net
income for the first quarter ended March 31, 2010 increased by $2,211,838,
to $3,156,749 from net income of $944,911 for the first quarter ended March
31, 2009 due to the factors discussed above. Earnings per share (“EPS”), both
basic and diluted, for the first quarter ended March 31, 2010 and 2009, were
$0.17 and $0.05 per share, respectively.





FINANCIAL
CONDITION





Liquidity
and Capital Resources





OPERATING
- Net cash provided from operating activities was $1,149,059 for the
first quarter ended March 31, 2010 compared with $3,145,124 of net cash provided
in operating activities in the same period in 2009, a decrease of $1,996,065,
primarily due to increases in notes receivable and inventories compared with
March 31, 2009. During the three months ended March 31, 2010, with the recovery
of global economy and good performance on our each sale segments, higher
inventories level was required for more sales order from different sale
segments. The increased inventories resulted approximately $2.0 million cash
outflow for the three months ended March 31, 2010, but the cash outflow was
offset by the cash inflow contributed from accounts receivable and advances from
customers. Most accounts receivable of our OEM customers were converted
into notes receivable during the three months ended March 31, 2010. Those notes
mature within one to six months and may be transferred to our material suppliers
as a payment at anytime. We therefore do not believe that the notes
receivable decrease our current liquidity.





At March
31, 2010, the Company had cash and cash equivalents of $18,620,792 as compared
to cash and cash equivalents of $10,255,259 at December 31, 2009. The Company
had working capital of $85,990,392 at March 31, 2010, as compared to working
capital of $75,909,745 at December 31, 2009, reflecting current ratios of 5.94:1
and 5.05:1, respectively.





INVESTING
- During the three months ended March 31, 2009, the Company expended net cash of
$192,388 in investing activities. For the three months ended March 31, 2010, the
Company utilized $3,225,155 mainly for acquisition of new equipment to
support the growth of the business.





19


FINANCING
- The Company had no borrowings under its credit facilities during the
quarter ended March 31, 2009 and 2010. During the three months ended March 31,
2010, net cash provided by financing activities was primarily attributable to
the net proceeds of our public offering of approximately $9,399,978.
Additionally, another capital increase of $1,038,900 was contributed by Ruili
Group to the Joint Venture.





Management
of the Company has taken a number of steps to restructure its customer base and
phase out accounts which had failed to make prompt payments. The Company also
placed more emphasis on collection of accounts receivable from our customers.
During the first quarter of 2010, the Company continued developing higher profit
margin new products, and adopting steps for further cost saving such as
improving material utilization rate. Meanwhile, the Company maintains good
relationships with local banks. We believe that our current cash and cash
equivalents and anticipated cash flow generated from operations and our bank
lines of credit will be sufficient to finance our working capital requirements
for the foreseeable future.





CURRENCY
RISK AND FINANCIAL INSTRUMENTS - Although our reporting currency is the U.S.
dollar, the functional currency of Joint Venture is RMB. As a result, we are
exposed to foreign exchange risk as our revenues and results of operations may
be affected by fluctuations in the exchange rate between U.S. dollars and RMB.
If the RMB depreciates against the U.S. dollar, the value of our Renminbi
revenues, earnings and assets as expressed in our U.S. dollar financial
statements will decline. In recent years, the RMB has been appreciating against
the U.S. dollar.





Assets
and liabilities of our operating subsidiaries are translated into U.S. dollars
at the exchange rate at the balance sheet date, their equity accounts are
translated at historical exchange rate and their income and expenses items are
translated using the average rate for the period. Any resulting exchange
differences are recorded in accumulated other comprehensive income or loss. The
Company is adopting such steps as the diversification of currencies used in
export sales, and the negotiation of export contracts with fixed exchange
rates.





As the
Company is currently free of indebtedness for borrowed money, we do not have any
risk from an increase in market interest rates. However, to the extent that the
Company arranges new borrowings in the future, an increase in market interest
rate would cause a commensurate increase in the interest expense related to such
borrowings.





OFF-BALANCE
SHEET AGREEMENTS





At March
31, 2010, we did not have any material commitments for capital expenditures or
have any transactions, obligations or relationships that could be considered
off-balance sheet arrangements.





ITEM
3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK





See the
discussion in Item 2 above, “Liquidity and Capital Resources”.





ITEM
4. CONTROLS AND PROCEDURES




Evaluation
of Disclosure Controls and Procedures:




As of the
end of the period covered by this report, management, including our chief
executive officer and chief financial officer, evaluated the effectiveness of
the design and operation of our disclosure controls and procedures (as defined
in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934
(“Exchange Act”)). Based upon that evaluation, our chief executive officer and
chief financial officer concluded that the disclosure controls and procedures
were effective to ensure that information required to be disclosed in reports we
file or submit under the Exchange Act is (1) recorded, processed,
summarized and reported within the time periods specified in Securities and
Exchange Commission rules and forms, and (2) accumulated and communicated
to our management to allow their timely decisions regarding required
disclosure.




20


Changes
in Internal Control over Financial Reporting:




There
were no changes in the Company’s internal control over financial reporting
during the quarter ended March 31, 2010 that have materially affected, or are
reasonably likely to materially affect, the Company’s internal control over
financial reporting.




PART
II OTHER INFORMATION





ITEM 6. EXHIBITS


(a)
              Exhibits:31.1
              Certification
      of Principal Executive Officer pursuant to Rule 13a-14 and Rule 15d-14(a),
      promulgated under the Securities and Exchange Act of 1934, as
      amended.31.2
              Certification
      of Principal Accounting Officer pursuant to Rule 13a-14 and Rule 15d-14(a)
      promulgated under the Securities and Exchange Act of 1934, as
      amended.32.1
              Certification
      pursuant to Section 906 of the Sarbanes-Oxley Act of
  2002.





SIGNATURES


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





Dated :
      May 14, 2010
                SORL
      AUTO PARTS, INC.By:
      /s/ Xiao Ping ZhangName:
      Xiao Ping ZhangTitle:
      Chief Executive Officer





By:
      /s/ Zong Yun ZhouName:
      Zong Yun ZhouTitle:
      Chief Financial Officer
                  (Principal
      Financial Officer)




21