**UNITED
      STATES**


**SECURITIES
      AND EXCHANGE COMMISSION**


**WASHINGTON
      D.C. 20549**








**FORM
      10-K**





**(Mark
                One)****x**
            **Annual
                Report Pursuant To Section 13 or 15(d) of the Securities Exchange
                Act of
                1934**For
                the fiscal year ended: September 30, 2007**o**
            **Transition
                Report Under Section 13 or 15(d) of the Securities Exchange Act of
                1934**For
                the transition period from ______
                to_______





Commission
      file number: 001-32898










**China
                BAK Battery, Inc.***(Exact
                name of registrant as specified in its
                charter)*







**Nevada**
            
            **88-0442833***(State
                or other jurisdiction of*
              *incorporation
                or organization)*
            
            *(I.R.S.
                Employer*
              *Identification
                Number)*





**BAK
                Industrial Park****No.
                1 BAK Street****Kuichong
                Town, Longgang District****Shenzhen
                518119****People’s
                Republic of China****(86-755)
                8977-0093***(Address,
                including zip code, and telephone number, including area code, of
                registrant’s principal executive
                offices)*









Securities
      registered under Section 12(b) of the Exchange Act:




**Title
                of each class**
            
            **Name
                of each exchange on which registered**Common
                stock, par value $0.001 per share
            
            The
                NASDAQ Global Market




Securities
      registered under Section 12(g) of the Exchange Act: **** None




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


Yes  o
Nox




Indicate
      by check mark if the registrant is not required to file reports pursuant to
      Section 13 or Section 15(d) of the Act.


Yes  o
Nox




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


Yes  x
Noo




Indicate
      by check mark if disclosure of delinquent filers pursuant to Item 405 of
      Regulation S-K is not contained herein, and will not be contained, to the best
      of registrant’s knowledge, in definitive proxy or information statements
      incorporated by reference in Part III of this Form 10-K or any amendment to
      this
      Form 10-K. o










Indicate
      by check mark whether the registrant is a large accelerated filer, an
      accelerated filer, or a non-accelerated filer.




Large
                Accelerated Filero
            Accelerated
                Filerx
            Non-Accelerated
                Filero





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


Yes  o
Nox




The
      aggregate market value of the 48,893,396 shares of voting and non-voting common
      equity stock held by non-affiliates of the registrant was $158.9 million as
      of
      March 30, 2007, the last business day of the registrant’s most recently
      completed second fiscal quarter, based on the last sale price of the
      registrant’s common stock on such date of $3.25 per share, as reported by The
      NASDAQ Stock Market, Inc.





There
      were a total of 52,954,603 shares
      of the registrant’s common stock outstanding as of December 10,
      2007.





**Documents
      Incorporated by Reference:**





None









**CHINA
      BAK BATTERY, INC.**


**FORM
      10-K**


**For
      the Fiscal Year Ended September 30, 2007**




**Number**
              
              
              
              **Page****PART
                  I**
              
              
              
              6Item
                  1.
              
              Business
              
              6Item
                  1A.
              
              Risk
                  Factors
              
              24Item
                  1B.
              
              Unresolved
                  Staff Comments
              
              44Item
                  2.
              
              Properties
              
              44Item
                  3.
              
              Legal
                  Proceedings
              
              45Item
                  4.
              
              Submission
                  of Matters to a Vote of Security Holders
              
              46**PART
                  II**
              
              
              
              47Item
                  5.
              
              Market
                  for Registrant’s Common Equity, Related Stockholder Matters and Issuer
                  Purchases of Equity Securities
              
              47Item
                  6.
              
              Selected
                  Financial Data
              
              49Item
                  7.
              
              Management’s
                  Discussion and Analysis of Financial Condition and Results of
                  Operation
              
              51Item
                  7A.
              
              Quantitative
                  and Qualitative Disclosures about Market Risk
              
              70Item
                  8.
              
              Financial
                  Statements and Supplementary Data
              
              70Item
                  9.
              
              Changes
                  in and Disagreements with Accountants on Accounting and Financial
                  Disclosure
              
              71Item
                  9A.
              
              Controls
                  and Procedures
              
              72Item
                  9B.
              
              Other
                  Information
              
              75**PART
                  III**
              
              76Item
                  10.
              
              Directors,
                  Executive Officers and Corporate Governance
              
              76Item
                  11.
              
              Executive
                  Compensation
              
              79Item
                  12.
              
              Security
                  Ownership of Certain Beneficial Owners and Management and Related
                  Stockholder Matters
              
              87Item
                  13.
              
              Certain
                  Relationships and Related Transactions
              
              90Item
                  14.
              
              Principal
                  Accountant Fees and Services
              
              91**PART
                  IV**
              
              91Item
                  15.
              
              Exhibits
                  and Financial Statement Schedules
              
              91Index
                to Consolidated Financial Statements
              
              96









**Introductory
      Comment—Terminology**





Throughout
      this Annual Report on Form 10-K, or this Report, the terms “we,” “us” or “our”
refers to China BAK Battery, Inc. and its subsidiaries on a consolidated basis;
      “BAK International” refers to our Hong Kong subsidiary, BAK International, Ltd.;
“BAK Tianjin” refers to our PRC subsidiary, BAK International (Tianjin) Ltd;
“Shenzhen BAK” refers to our PRC subsidiary, Shenzhen BAK Battery Co., Ltd.;
“BAK Electronics” refers to our PRC subsidiary, BAK Electronics (Shenzhen) Co.,
      Ltd.; “BAK Canada” refers to our Canadian subsidiary, BAK Battery Canada Ltd.;
“BAK Europe” refers to our German subsidiary, BAK Europe GmbH; “China” or “PRC”
refers to the People’s Republic of China, excluding for the purposes of this
      Report only, Taiwan, Hong Kong and Macau; “RMB” or “Renminbi” refers to the
      legal currency of China; and “$” or “U.S. dollars” refers to the legal currency
      of the United States of America.





**Introductory
      Comment—Forward-Looking Statements**





Statements
      contained in this Report include “forward-looking statements” within the meaning
      of such term in Section 27A of the Securities Act of 1933 and Section 21E of
      the
      Securities Exchange Act of 1934. Forward-looking statements involve known and
      unknown risks, uncertainties and other factors which could cause actual
      financial or operating results, performances or achievements expressed or
      implied by such forward-looking statements not to occur or be realized.
      Forward-looking statements made in this Report generally are based on our best
      estimates of future results, performances or achievements, predicated upon
      current conditions and the most recent results of the companies involved and
      their respective industries. Forward-looking statements may be identified by
      the
      use of forward-looking terminology such as “may,” “will,” “could,” “should,”
“project,” “expect,” “believe,” “estimate,” “anticipate,” “intend,” “continue,”
“potential,” “opportunity” or similar terms, variations of those terms or the
      negative of those terms or other variations of those terms or comparable words
      or expressions. Potential risks and uncertainties include, among other things,
      such factors as:





—
            our
                anticipated growth strategies and our ability to manage the expansion
                of
                our business operations effectively;—
            our
                future business development, results of operations and financial
                condition;—
            our
                ability to fund our operations and manage our substantial short-term
                indebtedness;—
            our
                ability to maintain or increase our market share in the competitive
                markets in which we do business;—
            our
                limited operating history in developing, manufacturing and selling
                of
                lithium-based rechargeable battery cells;—
            our
                ability to keep up with rapidly changing technologies and evolving
                industry standards, including our ability to achieve technological
                advances;—
            our
                dependence on the growth in demand for the portable electronic devices
                that are powered by our products;—
            our
                ability to diversify our product offering and capture new market
                opportunities;—
            our
                ability to obtain OEM qualifications from brand names;—
            our
                ability to source our needs for skilled labor, machinery and raw
                materials
                economically;—
            our
                ability to secure raw materials in the future and to manage the costs
                of
                raw materials or to secure alternative or substitute raw
                materials;—
            uncertainties
                with respect to the PRC legal and regulatory
                environment;—
            our
                ability to remediate any material weaknesses in our internal control
                over
                financial reporting;—
            our
                ability to maintain cost leadership;
                and









—
            our
                ability to acquire land use rights to our
                facilities.





Additional
      disclosures regarding factors that could cause our results and performance
      to
      differ from results or performance anticipated by this Report are discussed
      in
      Item 1A. “Risk Factors.” Readers are urged to carefully review and consider the
      various disclosures made by us in this Report and our other filings with the
      SEC. These reports attempt to advise interested parties of the risks and factors
      that may affect our business, financial condition and results of operations
      and
      prospects. The forward-looking statements made in this Report speak only as
      of
      the date hereof and we disclaim any obligation to provide updates, revisions
      or
      amendments to any forward-looking statements to reflect changes in our
      expectations or future events.





We
      file
      annual, quarterly and other reports, proxy statements and other information
      with
      the SEC. You may obtain and copy any document we file with the SEC at the SEC’s
      public reference room at 100 F Street, NE, Room 1580, Washington, D.C. 20549.
      You may obtain information on the operation of the SEC’s public reference
      facilities by calling the SEC at 1-800-SEC-0330. You can request copies of
      these
      documents, upon payment of a duplicating fee, by writing to the SEC at its
      principal office at 100 F Street, NE, Room 1580, Washington, D.C. 20549-1004.
      The SEC maintains an Internet website at http://www.sec.gov that contains
      reports, proxy and information statements, and other information regarding
      issuers that file electronically with the SEC. Our SEC filings, including
      exhibits filed therewith, are accessible through the Internet at that
      website.





You
      may
      also request a copy of our SEC filings, at no cost to you, by writing or
      telephoning us at: BAK Industrial Park, No. 1 BAK Street, Kuichong Town,
      Longgang District, Shenzhen, People’s Republic of China, attention Corporate
      Secretary, telephone 011 (86-755) 8977-0093. We will not send exhibits to the
      documents, unless the exhibits are specifically requested and you pay our fee
      for duplication and delivery.









**PART
      I**




**Item
      1. Business.**





**Overview**





We
      are
      one of the largest manufacturers of rechargeable lithium-based battery cells
      in
      the world, as measured by production output. We produce battery cells that
      are
      the principal component of rechargeable batteries commonly used to power the
      following applications:





—
            cellular
                phones—customer segments include original equipment manufacturing, or OEM,
                customers and replacement battery manufacturers;—
            notebook
                computers;—
            portable
                consumer electronics, such as digital cameras, portable media players,
                portable gaming devices
              and
                personal digital assistants, or PDAs; and—
            cordless
                power tools and other applications, such as miner’s lamps, electric
                bicycles and hybrid electric
                vehicles.





Our
      products are packed into batteries by third-party battery pack manufacturers
      in
      accordance with the specifications of manufacturers of portable electronic
      applications. We believe that our proprietary technologies allow us to offer
      battery cells that are flexibly configured, lightweight, powerful and safe.
      We
      conduct all of our operations in China, in close proximity to China’s
      electronics manufacturing base and its rapidly growing market. Our access to
      China’s supply of low-cost skilled labor, raw materials, machinery and
      facilities enables us to price our products competitively in an increasingly
      price-sensitive market. In addition, we have automated key stages of our
      manufacturing process to be able to produce high-quality battery cells that
      consistently meet the stringent requirements of our customers.





Historically,
      we have primarily manufactured prismatic lithium-ion cells for the cellular
      phone replacement battery market and OEM market. Our prismatic cells are
      targeted at the PRC replacement market, where cellular phone batteries produced
      by independent battery manufacturers are purchased for use in second-hand
      cellular phones or as back-up batteries, and are primarily comprised of
      steel-case cells. We also operate in the cellular phone battery OEM market,
      where we sell aluminum-steel cells for incorporation into branded batteries
      that
      are included in new cellular phones or are sold as replacement batteries. We
      have successfully established ourselves as a major competitor in the PRC
      domestic OEM market and leading brand names such as Lenovo, Ningbo Bird, Konka
      and Haier have designated us as a cell provider for their branded batteries.
      At
      the request of customers that order prismatic battery packs, we also engage
      pack
      battery manufacturers to assemble our prismatic cells into batteries for a
      fee
      and then sell battery packs to these customers both for the replacement and
      OEM
      markets. We intend to leverage the strong technological capabilities we have
      developed over the years to continue our growth and expand our reach to the
      global cellular phone OEM market, and have been actively pursuing OEM
      qualifications from international brand names, such as Nokia and Motorola.





To
      meet
      the growing demand for our products and to capture new opportunities, we have
      expanded our product offerings by adding three new product lines:





—
            Lithium
                polymer cells for use in ultra-portable electronic devices, such
                as
                high-end cellular phones, Bluetooth headsets, digital medial players
                and
                digital audio players. We began commercial production of lithium
                polymer
                cells in September 2005.—
            Cylindrical
                lithium-ion cells for use in notebook computers. We began commercial
                production of cylindrical cells for notebook computers in June 2006
                using
                our new semi-automated production lines.In
                March 2007, our cylindrical lithium-ion cells met the safety standards
                for
                use in mining lamps set by the Quality Supervision and Testing Center
                of
                the Chemical and Physical Power Sources of the Ministry of Information
                Industry. In August 2007, we signed a non-binding letter of intent
                with
                Hewlett-Packard Company (“HP”) (NYSE: HPQ), under which both parties have
                undertaken to work together in a set timeframe to reach a definitive
                agreement for us to supply cylindrical lithium-ion battery cells
                to HP or
                HP’s designated battery pack manufacturers for notebook computer batteries
                to be used in notebook computers manufactured by
                HP.




6




—
            High-power,
                lithium-phosphate cells for use in cordless power tools and other
                applications. We began commercial production of lithium-phosphate
                cells in
                October 2005 for use in cordless power tools. Currently, we are actively
                seeking new market opportunities for our lithium-phosphate cells,
                such as
                miner’s lamps, electric bicycles and hybrid electric
                vehicles.





Our
      operations have grown since our inception in August 2001. We generated revenues
      of $101.9 million, $143.8 million and $145.9 million in the years ended
      September 30, 2005, 2006 and 2007, respectively, and net income of $13.5
      million, $20.2 million and $483,000 during the same periods,
      respectively.





**Our
      Industry**





The
      lithium-ion battery was first introduced by Sony Corporation in 1992 and has
      since become the battery of choice for a wide range of portable consumer
      electronic applications because of its high energy density, high voltage,
      compact size, light weight and excellent energy retention characteristics.
      The
      advantages of lithium-based battery over the traditional nickel cadmium and
      nickel metal hydride batteries have resulted in a significant increase of its
      share in the global rechargeable battery market. Demand for lithium-based
      batteries grows in tandem with consumer electronics products powered by
      lithium-based batteries, such as cellular phones, notebook computers and other
      portable electronic devices. In addition, as a result of technological
      advancements in recent years, the lithium-based battery is being used in
      increasingly more powerful and diverse applications. Lithium-based batteries
      are
      now being used in emerging industrial applications such as cordless power tools,
      miner’s lamps, electric bicycles, and hybrid electric vehicles. The
      lithium-based battery market is dominated by manufacturers located in Japan,
      South Korea and China. China’s battery industry continues to grow and capture
      market share in the global battery manufacturing industry as both domestic
      and
      international battery manufacturers increase their manufacturing presence in
      the
      PRC. China has a number of key advantages in battery manufacturing that are
      expected to continue to drive this growth, including low costs, proximity to
      the
      consumer electronics supply chain, proximity to end-users and a developing
      R&D infrastructure. Chinese manufacturers are becoming increasingly
      competitive as they have significantly benefited and will continue to benefit
      from these advantages.





***Rechargeable
      Batteries—Introduction***





A
      battery
      is a portable electrochemical system that releases stored electrical energy.
      The
      battery industry has experienced significant growth in recent years as a result
      of increased global demand for portable electronic applications. The higher
      power requirements and small size of these devices have also driven steady
      progress in battery technology.





The
      battery industry can be broadly divided into non-rechargeable (or primary)
      and
      rechargeable (or secondary) segments. Rechargeable batteries have increased
      their share of the overall battery market as they have become more cost and
      time
      efficient for use over sustained periods. They also help address environmental
      concerns over disposal of non-rechargeable batteries.





The
      four
      mainstream chemistries currently used in rechargeable batteries for portable
      electronics are nickel cadmium, nickel metal hydride, lithium-ion, and lithium
      polymer. The characteristics of each of these battery types are as follows:




**Nickel Cadmium**
            
            **Nickel Metal**
              **Hydride**
            
            **Lithium-Ion**
            
            **Lithium
                Polymer**Commercial
                introduction
            
            1899
            
            1990
            
            1992
            
            1999Energy
                Density
            
            Low
            
            Medium
            
            High
            
            HighMax
                Voltage Per Cell
            
            1.2
            
            1.2
            
            3.6
            
            3.6Memory
                Effect
            
            Yes
            
            Minimal
            
            No
            
            NoEnvironmental
                Impact
            
            High
            
            Low
            
            Low
            
            LowCore
                Application Usage
            
            Toys
              Lights
              Power
                tools
              Cordless
                phones
            
            Hybrid
                vehicles
              Power
                tools
            
            Cellular
                phones
              Portable
                consumer
              electronics(1)
              Notebook
              Computers
              Power
                tools
            
            Small
                scale portable
              electronics(2)
              Headsets







(1)
                Portable consumer electronics include portable media players and
                portable
                gaming devices.




7




(2)
                Small scale portable consumer electronics include portable audio
                players
                and PDAs.





***Lithium-Based
      Rechargeable Batteries***





Lithium
      in its metal form has long been known to be a highly attractive battery material
      due to its light weight and high electromagnetic potential. However, as a result
      of chemical instability, lithium metal batteries have not been commercially
      developed. Instead, various lithium-based compounds have been introduced. As
      portable electronic devices integrate enhanced multi-media features while
      remaining compact and light-weight, they require improved battery performance
      at
      reduced size and weight. Rechargeable lithium-based battery cells, compared
      to
      rechargeable battery cells based on nickel cadmium or nickel metal hydride
      chemistries, have a higher energy density, meaning a greater energy capacity
      relative to a given battery cell’s weight and size. Furthermore, lithium-based
      battery cells are able to generate approximately three times the voltage of
      nickel-based cells, thereby reducing the number of cells needed in a battery
      pack, leading to a reduction in the weight and size of the pack. These
      characteristics will enable a portable electronic device to integrate more
      features and operate for a longer time while remaining slim and light,
      increasing its portability. Lithium-based battery cells also have other
      favorable characteristics such as no memory effect and a slow loss of charge
      when not in use. Key sub-categories of lithium-based batteries include:





—
            ***Lithium-ion.***Although
                slightly lower in energy density than lithium metal, lithium-ion
                is safe
                and maintains many of the attractive chemical characteristics of
                lithium.
                The lithium-ion battery was first developed by Sony Corporation in
                1992.
                Our latest development efforts have been to look at new lithium compounds.
                Lithium phosphate is a promising example which has recently been
                put into
                commercial usage within the cordless power tool market. A lithium-ion
                battery cell consists of a lithium cobalt positive electrode, a graphite
                negative electrode, an electrolyte, lithium salt and separators.
                Both
                electrodes have a layered structure. When charging, lithium-ions
                come out
                from the positive electrode and move to the negative electrode through
                electrolytes deposited between the layers of the graphite negative
                electrode. When discharging, the reaction process is
                reversed.—
            ***Lithium
                Polymer.***First
                introduced in 1999, Lithium polymer has similar performance to lithium-ion
                but uses a polymer gel as the electrolyte. This enables a more flexible
                and smaller form factor, although at higher unit cost. Lithium polymer
                battery cells share many characteristics of lithium-ion battery cells
                and
                provide similar performance. Since lithium polymer cells can be made
                in a
                thin and pouch-like case, thereby eliminating the need for a metal
                container, they offer further reduction in weight and size, as well
                as,
                more importantly, flexibility for design and physical configuration.
                These
                distinct characteristics have made lithium polymer cells suitable
                for
                ultra-thin portable electronic devices, such as high-end cellular
                phones,
                Bluetooth headsets and PDAs.




8




Due
      to
      their high energy density and capacity, high voltage, compact size, light
      weight, lack of memory effect and excellent energy retention characteristics,
      use of lithium-based batteries has risen significantly in portable electronic
      products. As the cost/power ratio of lithium-based batteries continues to
      improve, it is expected that its usage will also extend into other applications.





***Key
      Rechargeable Battery Applications***





End-product
      applications which are driving the demand for rechargeable lithium-based
      batteries include cellular phones, notebook computers, portable consumer
      electronics and cordless power tools.





*Cellular
      phones*





Cellular
      phone battery cells currently use a mixture of nickel metal hydride, lithium-ion
      and lithium polymer. The trend in newer models is towards lithium-based
      batteries as they allow for a smaller and more flexible form and longer battery
      life.





Demand
      for batteries for cellular phones is driven by two factors. The first is the
      sales of new cellular phones. An OEM of cellular phones includes a battery
      with
      a new cellular phone. There is also a replacement market for cellular phone
      batteries. Demand in the replacement market is in turn driven by a number of
      factors. Often a consumer will purchase a second battery to carry as a spare.
      In
      addition, lithium-ion batteries have a finite life, so over time consumers
      will
      need to purchase a battery to replace the failed battery in their phone. As
      the
      number of active cellular phone subscribers increases, the number of replacement
      batteries sold increases. A market characteristic unique to the Chinese cellular
      phone market is that cell phones are often sold and resold during their useful
      life. Over time these cell phones require a replacement battery. Our customers
      for cellular phone battery cells fall into two segments:





—
            *OEM:*The OEMs manufacture mobile phone handsets. They purchase batteries
                to
                support their production of new cellular phones. They also purchase
                batteries to serve the replacement market which they sell under their
                own
                brand name.—
            *Independent
                Battery Manufacturers:*These third-party manufacturers compete against the OEM for a share
                of the
                replacement market. They typically sell their products under their
                own
                brand name or a private label.





*Notebook
      computers*





Notebook
      computer sales are forecast to grow further in coming years due to increasingly
      mobile workforces and the improved power and functionality of notebook
      computers. Due to their substantial power requirements and larger size relative
      to other portable electronic devices, notebook computers have in the past
      typically utilized nickel metal hydride batteries. However, over the last ten
      years, lithium-based batteries have almost completely replaced nickel metal
      hydride batteries due to the increasing power of lithium-based batteries and
      demand for smaller lighter notebook computers. We believe that we are the
      largest notebook computer battery cell manufacturer in China and that there
      currently are no other significant Chinese manufacturers in the notebook
      computer battery market.





*Power
      tools*





Power
      tools such as drills, saws and grinders are used for both commercial and
      personal use. Due to high power requirements, many power tools have historically
      used small combustion engines, used heavier nickel metal hydride batteries
      or
      relied on external power sources. Manufacturers of power tools, such as
      Milwaukee, Black & Decker, Bosch, Metabo and Rigid have begun to use
      lithium-ion technology. The DeWalt division of Black & Decker began
      marketing a power tool product line that uses nano lithium phosphate technology
      in its batteries. This technology has resulted in increased power of the
      batteries to 36 volts. The market for portable high-powered power tools is
      rapidly growing and has prompted many users, both commercial and personal,
      to
      replace or upgrade their current power tools.





*Portable
      Consumer Electronics*





This
      category includes digital audio players (such as MP3 players), digital still
      cameras, digital video cameras, portable DVD players, PDAs, BlackBerry devices,
      portable gaming systems and Bluetooth devices. There is a rapid trend to use
      lithium-based batteries in portable consumer electronics (both rechargeable
      and
      non-rechargeable) due to a desire for smaller, longer-lasting devices.




9




***Battery
      Manufacturing in China***





China’s
      battery industry has historically focused on lower-end batteries, with Japan
      and
      Korea providing the technical innovation and producing higher-end and
      rechargeable batteries. However, we believe that as the Chinese government
      continues to support battery makers in terms of financial backing and research,
      China’s R&D and manufacturing capabilities will become more developed.





China’s
      market share of the full breadth of battery production is expected to increase.
      China has a number of benefits in battery manufacturing which are expected
      to
      drive this growth:





—
            ***Low
                costs.***Relative
                to Japan and Korea, China has significantly lower cost of labor as
                well as
                easy access to bulk raw materials and land—
            ***Proximity
                to electronics supply chain.***Electronics
                manufacturing in general continues to shift to China, giving China-based
                manufacturers a further cost and cycle time advantage—
            ***Proximity
                to end-markets.***China’s
                domestic market for portable applications such as cellular phones
                and
                portable audio-visual equipment continues to grow rapidly. Proximity
                to
                end-market further consolidates the cost and cycle time advantages
                for
                China manufacturers.—
            ***Developing
                R&D infrastructure.***China
                has focused in recent years on building its research, development
                and
                engineering skill base in all aspects of higher-end manufacturing,
                including batteries. For example, lithium-ion and lithium polymer
                batteries are both part of China’s tenth five-year development plan which
                allocates state resources to provide financial assistance to companies
                engaged in the business of developing and manufacturing batteries,
                to fund
                the research and development of new battery material and to assist
                patent
                applications and the protection of intellectual
                property.





**Our
      Competitive Strengths**





We
      believe that the following competitive strengths enable us to compete
      effectively in, and to capitalize on the growth of, the global lithium-ion
      battery market:





***Strong
      focus on lithium-based batteries and core competency in lithium-ion battery
      technology***





Since
      our
      inception in August 2001, we have focused on the research, development and
      manufacture of lithium-based battery cells. Through this experience, we have
      been exposed to a rapidly growing market and have developed a core competency
      in
      lithium-ion battery technology that we believe enables us to enhance our product
      quality, reduce cost and keep up with evolving industry standards. Our cells
      are
      used in branded cellular phone batteries of companies such as Lenovo and Haier,
      a testament to our competency in core technologies. Although our production
      to
      date has been largely for cellular phone prismatic batteries, we have also
      been
      able to develop other lithium-based battery cells, such as lithium-ion
      cylindrical cells, lithium-phosphate cells and lithium polymer cells, to capture
      new market opportunities, such as those for notebook computers and cordless
      power tools. As of September 30, 2007, we had 195 patents registered in the
      PRC
      relating to battery cell materials, design and manufacturing process, and also
      had 305 pending patent applications filed in PRC and 20 in other
      countries.





***Strong
      R&D capabilities***





We
      place
      a strong emphasis on R&D, particularly on technological innovation and the
      development of new battery cell materials and products. We have established
      a
      dedicated R&D center with what we believe to be the most advanced equipment
      in China. Our R&D team consists of 240 researchers and scientists, led by
      Dr. Huanyu Mao, our chief operating officer and chief technology officer, who
      has pioneered, and is a veteran of, the lithium-ion industry since its
      commercialization in 1992. Dr. Mao was the inventor under seven U.S. patents
      related to lithium-ion technology. In December 2006, we also established a
      wholly-owned subsidiary, BAK Canada, to focus on the research and development
      of
      lithium-ion batteries, which comprises a group of experts led by Mr. Kenneth
      G.
      Broom, our vice president of International OEM Business, who brings 23 years’
li-ion battery industry working experience.




10




As
      an
      example of our R&D efforts in battery cell materials, we have successfully
      developed the technology to use substitute materials to reduce the amount of
      lithium cobalt dioxide used in the manufacture of lithium-based cells. Lithium
      cobalt dioxide is the most expensive ingredient currently required to make
      lithium-based cells because cobalt is not renewable.





***Economies
      of scale***





We
      are
      one of the largest manufacturers of lithium-ion battery cells in the world,
      as
      measured by production output. As of September 30, 2007, our production capacity
      reached approximately 27 million units of battery cells per month. We believe
      our economies of scale have made us a preferred customer for our suppliers,
      enabling us to compete effectively in an increasingly price-sensitive market
      through (i) a higher bargaining power to secure a supply of materials and
      equipment at a lower cost, and (ii) a larger base for spreading out our
      fixed-cost allocation.





***China-based,
      low-cost manufacturing model***





We
      conduct all of our manufacturing activities in Shenzhen, China. Our access
      to
      China’s abundant supply of skilled and low-cost labor, as well as our ability to
      source raw materials, equipment, land and manufacturing facilities locally
      and
      economically, has considerably lowered our operating cost and expenses as a
      percentage of revenues. Because our products are not subject to any customs
      duty
      as compared to those imported from our Japanese and Korean competitors, we
      believe we enjoy a cost advantage in the domestic market for customers in
      China’s electronics manufacturing base.





***Optimal
      use of automation in production process***





We
      selectively use automation in our manufacturing process to ensure high
      uniformity and precision in our products while maintaining our cost-competitive
      advantage. As a fully automated production line is very expensive, we tailor
      our
      semi-automated solution based on stages of the manufacturing process and product
      attributes. We use automated machinery in key stages of the manufacturing
      process while using manual labor for other stages to take advantage of the
      availability of low-cost, skilled labor in China. We believe this considerably
      reduces our capital expenditure requirements. For example, we use automated
      machinery in manufacturing our cylindrical battery cells because cylindrical
      battery cells designed for use in notebook computers require higher uniformity
      and precision that only can be achieved by use of automation.





***Experienced
      management team with proven technology and operational record***





We
      have
      an experienced management team. Mr. Xiangqian Li, our president and chief
      executive officer and the chairman of our board, has extensive experience in
      the
      battery industry. Mr. Li has been instrumental in helping us achieve our current
      market position. Dr. Huanyu Mao, our chief operating officer and chief
      technology officer, is a pioneer in lithium-ion battery technology since the
      introduction of lithium-ion batteries in 1992 and was the inventor under seven
      U.S. patents related to lithium-ion technology. He has led our in-house R&D
      team in making significant progress in technology innovations and improvements,
      product development, and optimizing the use of battery cell
      materials.





**Our
      Strategy**





We
      believe we are well positioned to take advantage of the opportunities presented
      by growing market demand for rechargeable lithium-based batteries. Our goal
      is
      to build on our existing strengths to become a global leader in the development
      and manufacturing of lithium-based battery cells for leading end-application
      manufacturers. We intend to achieve this objective by pursuing the following
      strategies:




***Enhance
      leading-edge technology through continual innovation***





We
      intend
      to continue committing substantial resources to R&D in order to improve our
      technologies, develop new products and optimize the use of new battery cell
      materials. In particular, our R&D efforts will focus on the following:





—
            developing
                more advanced technologies to increase our productivity and efficiency
                in
                the manufacturing process and reduce the per unit cost of
                production;




11




—
            developing
                and commercializing cost-effective and easily available substitute
                materials for existing raw materials that are more expensive and
                in
                unstable supply;—
            enhancing
                our product quality, reliability and features to satisfy stringent
                OEM
                requirements of leading end-application manufacturers and to keep
                abreast
                of rapidly changing industry standards and evolving market trends;
                and—
            cooperating
                closely with our partners to improve our technologies and develop
                new
                application markets.





***Continue
      our cost leadership through yield improvements and refining our manufacturing
      process***





We
      believe that cost-effectiveness will be critical to our future success in an
      increasingly price-sensitive market. We intend to achieve greater economies
      of
      scale by expanding our production capacity. We will also focus on enhancing
      our
      yields by reducing our defect ratio through continual worker training and strict
      raw material quality control, and refining our semi-automated manufacturing
      process. We intend to increase our productivity and efficiency in the
      manufacturing process and reduce the per unit cost of production through the
      use
      of advanced technologies. We also will focus on continuing our development
      and
      commercialization of batteries that utilize cost-effective and easily available
      substitute materials for expensive raw materials.





***Expand
      our customer base and develop new application markets***





We
      intend
      to penetrate into new application markets, as well as capture a greater market
      share in our existing markets.





—
            *OEM
                Cellular Phones.*We
                are already the market leader in China’s cellular phone replacement
                battery market. We have also successfully penetrated into the domestic
                cellular phone OEM market by becoming a designated battery cell supplier
                for leading local cellular phone brand owners, such as Lenovo, Bird,
                Konka
                and Haier. We are currently actively pursuing OEM qualifications
                from
                international brand owners such as Nokia and Motorola.—
            *Notebook
                Computers.*In
                April 2006, we began trial production of cylindrical battery cells
                used in
                notebook computers for a few battery pack manufacturers and began
                commercial production of cylindrical cells in June 2006. Our goal
                is to
                become a leading China-based notebook computer battery cell supplier.
                We
                are actively pursuing OEM qualification with leading global brand
                names
                and leading notebook computer battery manufacturers. In August 2007,
                we
                signed a non-binding letter of intent with HP, under which both parties
                have undertaken to work together in a set timeframe to reach a definitive
                agreement for us to supply cylindrical lithium-ion battery cells
                to HP or
                HP’s designated battery pack manufacturers for notebook computer batteries
                to be used in notebook computers manufactured by HP.—
            *Cordless
                Power Tools and Other Lithium-Phosphate Cell Applications*.****We
                began commercial production of lithium-phosphate cells in October
                2005 for
                use in cordless power tools. Currently, we are actively investigating
                demand for, and pursuing opportunities in, other applications for
                lithium-phosphate cells, including miner’s lamps, electric bicycles and
                hybrid electric vehicles.—
            *Ultra-portable
                electronic devices*.
                  In September 2005, we began commercial production of lithium
                polymer cells for use in ultra-portable electronic devices, such
                as
                high-end cellular phones, Bluetooth headsets, digital media players
                and
                digital audio players. We are actively seeking other market opportunities
                for our lithium polymer cells for such
                devices.




12




***Increase
      manufacturing capacity by leveraging our existing infrastructure, access to
      low-cost local resources and proximity to the electronics supply chain and
      electronics manufacturing base***





We
      intend
      to capitalize on robust growing demands for lithium-based batteries by
      leveraging our access to low-cost local resources and our proximity to the
      electronics supply chain and manufacturing base to further expand our
      manufacturing capacity. As of September 30, 2007, we had approximately 111,000
      square meters of manufacturing facilities. To meet strong market demand as
      well
      as to capture new application markets, we plan to significantly increase our
      daily production output of cylindrical cells for notebook computers, high-power
      lithium-phosphate cells for cordless power tools, and lithium polymer cells
      for
      high-end electronic devices such as ultra-thin and light cellular phones and
      Bluetooth headsets. We intend to increase our production output of prismatic
      cells, particularly aluminum-case cells for the cellular phone battery OEM
      market.





**Our
      Corporate Structure and Information**





We
      were
      incorporated in Nevada on October 4, 1999. On January 20, 2005, we completed
      a
      share exchange with the stockholders of BAK International, a Hong Kong company,
      pursuant to which we acquired 100% of BAK International and in exchange, issued
      our common stock to these stockholders representing 97.2% of our then
      post-issuance share capital. BAK International was a holding company that owned
      a 100% PRC operating subsidiary, Shenzhen BAK. On February 14, 2005, we merged
      with our wholly-owned subsidiary, China BAK Battery, Inc., which was
      incorporated on February 1, 2005. We are the surviving entity of this merger.
      On
      that date we also changed our name from “Medina Coffee, Inc.” to our current
      name, “China BAK Battery, Inc.” We accounted for this share exchange as a
      reverse acquisition and succeeded to and are considered to be a continuation
      of
      Shenzhen BAK’s operations and financial statements. We conduct our current
      business through the following three wholly-owned operating subsidiaries in
      China that we own through BAK International:





—
            Shenzhen
                BAK, located in Shenzhen, China, incorporated in August 2001, which
                focuses on the development and manufacture of three types of cells:
                prismatic cells, cylindrical cells and high-power lithium-phosphate
                cells;—
            BAK
                Electronics located in Shenzhen, China, incorporated in August 2005,
                which
                focuses on the development and manufacture of lithium polymer cells;
                and—
            BAK
                Tianjin, located in Tianjin, China, incorporated in December 2006,
                which
                focuses on the manufacture of advanced lithium-ion batteries for
                use in
                light electric vehicles and uninterruptible power supply
                units.





In
      addition, BAK Canada, a wholly-owned subsidiary of BAK International, was
      incorporated in Canada in December 2006 to advance our research and development
      of lithium-ion batteries, and in October 2007, Shenzhen BAK obtained the
      Approval Certificate of Overseas Investments of Chinese Enterprises to invest
      in
      a wholly-owned subsidiary in Germany, BAK Europe GmbH, which will focus on
      the
      sales and after-sales services of lithium-ion battery cells.





Our
      principal executive offices are located at BAK Industrial Park, No. 1 BAK
      Street, Kuichong Town, Longgang District, Shenzhen, 518119, People’s Republic of
      China. Our telephone number there is (86-755) 8977-0093.





All
      inquiries should be directed to us at the address and telephone number of our
      principal executive offices set forth above. Our website address is
      www.bak.com.cn. The information contained on our website does not form part
      of
      this Report.





**Our
      Products**





We
      develop and manufacture various types of lithium-based rechargeable battery
      cells, which are the key component of lithium-based batteries used in a wide
      range of portable electronic applications. Since lithium-based batteries were
      first commercialized in the early 1990s, they have become the battery of choice
      for portable electronic devices because of their unique and favorable
      characteristics. The following table provides a summary of our battery cell
      offerings and their corresponding end applications:





**Battery
                Cell Type**
            
            **End applications*******Prismatic
            
            Cellular
                phone [1](steel-case
                or aluminum-case)
            
            Camcorder
                [2]MP3/MP4
                player [1-2]Digital
                camera [1]Digital
                video camera [2-4]PDA
                [1-2]Blackberry
                [1]


Cylindrical
            
            Notebook computer
                [6-8]Digital
                camera [1]Portable
                DVD player [4]Camcorder
                [2]Portable
                gaming system [1-6]Lithium
                polymer
            
            Cellular
                phone [1]MP3/MP4
                player [1]Digital
                camera [2]Bluetooth
                headset [1]High-power
                lithium-phosphate
            
            Electric
                drill [4-8]Miner’s
                lamp [6-10]Electric
                bicycle [11]Hybrid
                electric vehicle [500]




*
            Bracketed
                numbers denote number of cells per particular
                battery.




13




Historically,
      we have derived most of our revenues from prismatic cells. As we expand our
      production capacity and add new product lines in response to evolving market
      demands, we have derived and will continue to derive an increasingly greater
      portion of our revenues from our new product lines. The following table sets
      forth the breakdown of our net revenues by battery cell type for the periods
      indicated.





**Year
                ended September 30, 2007****2007**
            
            **2006**
            
            **2005****(in
                thousands, except percentages)**Prismatic
                cellsSteel-case
                cells
            
            
            34,869
            
            
            23.9
            %
            
            64,299
            
            
            44.7
            %
            
            56,965
            
            
            55.9
            %Aluminum-case
                cells
            
            
            69,916
            
            
            47.9
            %
            
            49,514
            
            
            34.4
            %
            
            23,721
            
            
            23.3
            %Battery
                packs
            
            
            11,798
            
            
            8.1
            %
            
            9,843
            
            
            6.8
            %
            
            20,169
            
            
            19.8
            %Cylindrical
                cells
            
            
            3,422
            
            
            2.4
            %
            
            608
            
            
            0.4
            %
            
            1,051
            
            
            1.0
            %High-power
                lithium-phosphate cells
            
            
            20,562
            
            
            14.1
            %
            
            18,537
            
            
            12.9
            %
            
            -
            
            
            -Lithium
                polymer cells
            
            
            5,294
            
            
            3.6
            %
            
            1,028
            
            
            0.8
            %
            
            16
            
            
            -
            *Total
            
            
            145,861
            
            
            100
            %
            
            143,829
            
            
            100
            %
            
            101,922
            
            
            100
            %







*
            Less
                than 0.1%





Our
      lithium-ion battery cells can be classified into two types based on their
      structure. Prismatic cells are rectangular in shape and are commonly used in
      cellular phones and digital cameras. Cylindrical cells are tubular in shape
      and
      commonly used in notebook computers, portable DVD players, digital cameras,
      and
      camcorders. The following pictures depict our standard prismatic cells and
      cylindrical cells.




14




pg15x1
            
            pg15x2Prismatic
                cells
            
            Cylindrical
                cells





***Prismatic
      Cells***





Prismatic
      cells contribute to a major portion of our revenue. We initially developed
      and
      sold steel-case cells for cellular phone batteries sold in the replacement
      market. We are currently the largest maker of steel-case cells in China, based
      on production output. Our prismatic cells are contained in metal casing made
      of
      either steel or aluminum but are otherwise substantially the same product.
      Aluminum-case cells generally are more expensive to manufacture and therefore
      have a higher cost, but they are lighter than steel-case cells and are safer,
      so
      they are suited for use in batteries included in the OEM cellular phones. As
      consumers’ demand for lighter cellular phones has resulted in the demand for
      aluminum-case cells in the OEM market, we have gradually increased the
      percentage of aluminum-case cells in the total production of our prismatic
      cells
      and intend to further increase this percentage to two-thirds of all the
      prismatic cells we produce in the near future. At the request of customers
      that
      order prismatic battery packs, we also engage battery pack manufacturers to
      assemble our prismatic cells into batteries for a fee and then sell battery
      packs to these customers both for the replacement and OEM markets.





***Cylindrical
      Cells***





Cylindrical
      cells are generally used for notebook computers, portable DVD players, digital
      cameras, and camcorders. We target our cylindrical cells for the notebook
      computer market. One notebook computer battery typically contains at least
      a
      group of six cylindrical cells working together in a coordinated manner, so
      the
      failure of only one cell will affect the performance of the entire battery.
      Accordingly, cylindrical cells for notebook computers require a higher
      uniformity than prismatic cells. We had previously produced a small number
      of
      cylindrical cells for batteries of portable DVD players. In 2003, we commenced
      R&D of cylindrical cells designed for notebook computers and in April 2006,
      we began trial production of a small volume of cylindrical cells. We began
      commercial production of cylindrical cells in June 2006. We are actively
      pursuing OEM business opportunities. In August 2007, we signed a nonbinding
      letter of intent with HP, under which both parties have undertaken to work
      together in a set timeframe to reach a definitive agreement for us to supply
      cylindrical lithium-ion battery cells to HP or HP’s designated battery pack
      manufacturers for notebook computer batteries to be used in notebook computers
      manufactured by HP.





***High-power
      Lithium-phosphate Cells***





The
      use
      of new materials have enabled the configuration of high-power lithium-phosphate
      cells to contain much higher energy density and higher voltage and have a longer
      life cycle and shorter charge time than other types of lithium-based batteries.
      These special attributes, coupled with intrinsic safety features, are suitable
      for batteries used for cordless power tools and other high-power applications.
      In the first quarter of calendar 2006, we began our first shipment of high-power
      lithium-phosphate battery cells pursuant to a manufacturing agreement entered
      into by and between Shenzhen BAK and A123Systems Inc. (“A123Systems”). Following
      the termination of our agreement with A123Systems on August 30, 2007, we have
      been actively investigating demand for, and pursuing opportunities in, other
      applications for high-power lithium-phosphate cells, including miner’s lamps,
      electric bicycles and hybrid electric vehicles.




***Lithium
      Polymer Cells***





In
      September 2005, we began producing and shipping lithium polymer battery cells.
      Our lithium polymer cells do not have a hard metal casing but rather a flexible,
      pouch-like container, thereby enabling flexible designs and customizations.
      Lithium polymer cells have expanded our reach to high-end cellular phones,
      Bluetooth headsets and PDAs such as iPod and BlackBerry devices, and will also
      allow us to capture the growth opportunities presented by new electronic
      applications.




15




**Quality
      Assurance**





We
      enforce strict quality assurance procedures throughout all stages of the
      manufacturing process. We have four levels of controls to monitor and maintain
      our product quality: design controls, process controls, material inflow controls
      and output controls. Our design controls ensure that there are no defects in
      the
      design and structure of the products we decide to produce. Our process controls
      consist of a 15-point check system from the beginning through the end of our
      production process. Our material inflow controls assure that we obtain our
      raw
      materials at a consistent level of quality. Our output controls test for
      capacity, voltage, visual defects and internal resistance. We believe these
      four
      levels of controls are essential to our quality control. We also provide ongoing
      training to our employees to ensure effective application of our quality
      assurance procedures.





We
      monitor quality and reliability in accordance with the requirements of QSR,
      or
      Quality System Review, and ISO9001 systems. We have received European Union’s CE
      attestation, UL authentication, and ISO 9001:2000 certification, a quality
      management system certification. We have passed stringent quality reviews and
      thus obtained OEM qualifications from various domestic cellular phone brand
      names. With our strong technological capabilities and use of automated equipment
      for core aspects of the manufacturing process, we believe our product quality,
      in certain key aspects, meets or even exceeds international industry standards.





**Manufacturing**





Manufacturing
      of battery cells is a technologically complicated and capital-intensive process,
      requiring coordinated use of machinery and raw materials at various stages
      of
      manufacturing. The primary raw materials used in production of battery cells
      include electrode materials, electrolytes, foils, cases and caps and separators.





The
      electrodes are manufactured using active materials, conductive agents and binder
      which are mixed with liquid. These mixtures are then uniformly coated onto
      the
      thin metal foil, then after drying, the electrodes are cut down to the
      designated sizes.





The
      positive electrode and negative electrode are then wound together with a
      separator and inserted into a can, and electrolyte is filled. The sealing
      completes the battery cell assembly.





The
      diagrams below illustrate the structure of prismatic cells and cylindrical
      cells.





pg16x1
            
            pg16x2Prismatic
                Cell
            
            Cylindrical
                Cell





Prior
      to
      shipping battery cells to our customers, the battery cells will undergo an
      aging
      process, and thorough inspections to ensure the cells meet high quality control
      standards.





Since
      August 2004, we have been implementing the TPM, or Total Productive Maintenance,
      program, which involves a newly defined concept for maintaining plants and
      equipment. The goal of the TPM program is to markedly increase production while,
      at the same time, increasing employee morale and job satisfaction. Since
      November 2005, we also began implementing the 5S Philosophy developed in Japan.
      Based on Japanese words that begin with the letter “S,” the 5S Philosophy
      focuses on effective work place organization and standardized work procedures.
      5S is intended to simplify our work environment, reduce waste and non-value
      activity while improving quality efficiency and safety.




16




A
      simplified manufacturing process is illustrated below:











These
      cells are then integrated into packages which are customized into a wide variety
      of configurations to interface with different electronic devices.





We
      have
      adopted a semi-automated manufacturing process. We use fully automated machinery
      to process key aspects of the manufacturing process to ensure high uniformity
      and precision, while leaving the non-key aspects of the manufacturing process
      to
      manual labor. For example, we have an automated production line to manufacture
      our cylindrical cells used for notebook computer batteries to ensure a high
      level of uniformity and precision. We intend to further improve our automated
      production lines. As we have easy access to an ample supply of low-cost skilled
      labor, we believe our unique semi-automated manufacturing process will enable
      us
      to achieve desired cost-competitiveness by substantially lowering our
      manufacturing cost without compromising our product quality and uniformity.





For
      the
      last few years, we have been expanding our manufacturing capacity to meet the
      growing market demand for battery products. As the increasingly intense
      competition in our industry has driven down the per unit profit margins of
      our
      products, we strive to continue investing heavily in our manufacturing
      infrastructure to further increase our manufacturing capacity, enabling us
      to
      lower the per unit cost of our products and thereby maintaining our expected
      level of profitability as a whole.





**Suppliers**





We
      have
      built a comprehensive supply chain of materials and equipment. The primary
      raw
      materials used in manufacturing of lithium-ion batteries include electrode
      materials, cases and caps, foils, electrolyte and separator. Cost of these
      raw
      materials is a key factor in pricing our products. We believe that there is
      an
      ample supply of most of the raw materials we need in China. We are seeking
      to
      identify alternative raw material suppliers to the extent there are viable
      alternatives and to expand our use of alternative raw materials. We have also
      restructured our operations in an effort to streamline corporate resources
      and
      improve internal efficiency, with a particular focus on manufacturing and sales.
      To ensure the quality of our suppliers, we use only those suppliers who have
      demonstrated quality control and reliability.





We
      invite
      our suppliers to attend meetings we convene and organize to promote our
      relationships. We aim to maintain multiple supply sources for each of our key
      raw materials to ensure that supply problems with any one supplier will not
      materially disrupt our operations. In addition, we strive to develop strategic
      relationships with new suppliers to secure a stable supply of materials and
      introduce competition in our supply chain, thereby increasing our ability to
      negotiate a better pricing and reducing our exposure to possible price
      fluctuations.





Our
      economies of scale enable us to purchase materials in large volumes, offering
      us
      leverage to secure better pricing, and to a lesser degree, increasing the extent
      to which our suppliers rely on our purchase orders. We believe this relationship
      of mutual reliance will enable us to reduce our exposure to possible price
      fluctuations. For example, we have entered into a volume purchase agreement
      with
      some of our major suppliers, such as CITIC Guoan, from whom we purchase cathode
      material and lithium cobalt dioxide, one of the key materials for battery cells.




17




As
      of
      September 30, 2007, our key raw material suppliers were as follows:





**Materials**
            
            **Main
                Suppliers**Case
                and caps
            
            Roofer
                Group Company, Yijinli technology company
              Shenzhen
                Tongli Precision Stamping Products Co., Ltd.Cathode
                materials
            
            CITIC
                Guoan, Hunan Reshine New Material Ltd.Anode
                materials
            
            Qingdao
                Taineng, Changsha graphite; BTR Energy Materials Co.,
                Ltd.Aluminum
                foil
            
            Aluminum
                Corporation of America, ShanghaiCopper
                foil
            
            Huizhou
                United Copper FoilElectrolyte
            
            Zhangjiagang
                Guotai-Huarong New Chemical Materials Co., Ltd.Separator
            
            Ube
                Industries, ENTEK, CELGARD





We
      source
      our manufacturing equipment both locally and from overseas, based on
      consideration of their cost and function. As of September 30, 2007, we purchased
      our key equipment from the following suppliers:





**Instruments**
            
            **Main
                Suppliers**Coating
                machine
            
            Beijing
                706 Factory / Hirano Tecseed Co., Ltd.Mixer
            
            Beijing
                706 FactoryPress
                machine
            
            SevenStar
                HuachuangUltrasonic
                spot welding machine
            
            Zhenjiang
                Tianhua Machinery and Electrical Co., Ltd.Laser
                seam welder
            
            Wuhan
                Chutian Laser GroupVacuum
                oven
            
            Jiangsu
                Wujiang SonglingWinding
                machine
            
            Kaido
                Manufacturing Co., Ltd.Slitting
                machine
            
            Nishimura
                Mfg. Co., Ltd.Electrolyte
                filling machine
            
            BAK
                (internally developed) / Canon Machinery Corporation, Haibar Systems
                Ltd.Aging
                equipment
            
            Guangzhou
                Qingtian Industrial Co., Ltd., Hangzhon HangkeTesting
                and sorting equipment
            
            Guangzhou
                Qingtian Industrial Co., Ltd.; Guangzhou Bule-key Electronic Industry
                Co.,
                Ltd., Shenzhen Liuyu Electronics Co.,
                Ltd.





**Customers**





*Prismatic
      Cells.* Our
      customers for prismatic cells used for cellular phones in the replacement market
      are local leading battery pack manufacturers, including





—
            SCUD
                (Fujian) Electronics Co., Ltd.—
            Shenzhen
                Chaolitong Electronics Co., Ltd.—
            Shenzhen
                Anshunhang Trading Co., Ltd—
            Shenzhen
                Weiliwang Electronics Co., Ltd.,—
            Shenzhen
                Hailutong Electronics Co., Ltd




18




Our
      customers in the OEM market consist of cellular phone brand names as well as
      pack manufacturers designated by cellular phone brand owners. We primarily
      sell
      our prismatic cells used for the OEM market in two ways. On most occasions,
      we
      sell our prismatic cells to battery pack manufacturers certified by cellular
      phone brand owners, which will pack our cells into branded batteries and sell
      them to the brand owner. Cellular phone brand owners also may directly place
      orders with us. In such a case, we engage a pack manufacturer to assemble our
      prismatic cells into batteries for a fee, and then arrange to deliver the
      batteries to the OEM brand owners.





*Cylindrical
      Cells* .  We
      are capable of mass producing cylindrical cells used for notebook computers.
      Recently, we began shipping a small number of our cylindrical cells to a few
      small pack manufacturers in Taiwan. We are actively pursuing OEM qualifications
      with leading notebook computer manufacturers.





*High-power
      Lithium-phosphate.* We
      began commercial production of lithium-phosphate cells in October 2005 for
      use
      in cordless power tools. Currently, we are actively seeking other market
      opportunities for our high-power lithium-phosphate cells, including miner’s
      lamps, electric bicycles and hybrid electric vehicles.





*Lithium
      Polymer.* Orders
      we received for lithium polymer cells tend to be small in quantity, but vary
      in
      specifications based on the attributes of a particular electronic application.
      We sell our lithium polymer cells to certain pack manufacturers, which pack
      our
      cells and sell the final products. We also have the ability to pack our lithium
      polymer cells into batteries that carry our own trademark.





We
      sell
      our products domestically and internationally. The following table sets forth
      certain information relating to our total revenues by location of our customers
      for the periods indicated.





**Year
                ended September 30,****2007**
            
            **2006**
            
            **2005****(in
                thousands, except percentages)**RegionPRC
                Mainland
            
            
            105,567
            
            
            72.4
            %
            
            96,670
            
            
            67.2
            %
            
            72,352
            
            
            71.0
            %United
                States of America
            
            
            20,740
            
            
            14.2
            %
            
            18,641
            
            
            13.0
            %
            
            -
            
            
            -Hong
                Kong, China
            
            
            6,418
            
            
            4.4
            %
            
            17,221
            
            
            12.0
            %
            
            17,535
            
            
            17.2
            %Others*
            
            
            13,136
            
            
            9.0
            %
            
            11,297
            
            
            7.8
            %
            
            12,035
            
            
            11.8
            %Total
            
            
            145,861
            
            
            100.0
            %
            
            143,829
            
            
            100
            %
            
            101,922
            
            
            100
            %







*
            Includes
                Taiwan, the Middle East, Italy, Germany, Turkey, and
                India.





For
      our
      international sales, we sell our products directly to distributors, as well
      as
      pack manufacturers in these countries and territories. If we receive orders
      from
      distributors for batteries rather than cells, we engage pack manufacturers
      to
      assemble our cells into batteries for a fee, and then arrange to deliver the
      batteries to fulfill the orders.





A
      small
      number of prismatic cell customers have historically accounted for a substantial
      portion of our revenue. In the year ended September 30, 2007, sales to
      A123Systems accounted for 14% of our revenue. In the same period, our top five
      and top ten customers in aggregate contributed to approximately 37.1% and 48.2%
      of our revenue, respectively. As we expand our product portfolio and target
      new
      market segments, our customer composition as well as the identity and
      concentration of our top customers are expected to change from period to period.
      Our agreement with A123Systems, as amended on August 18, 2005, terminated in
      accordance with its terms on August 30, 2007. Currently, we are actively
      investigating demand for, and pursuing opportunities in, other product lines,
      including miner’s lamps, electric bicycles and hybrid electric
      vehicles.





**Sales
      and Marketing**





We
      have
      built an extensive sales and service network in China, highlighted by our strong
      presence in China’s economically prosperous coastal regions where we generate a
      significant portion of our sales. We have representative offices in Beijing,
      Shanghai, Guangzhou, and Quanzhou, targeting our key customers. Our marketing
      department at headquarters is responsible for our marketing efforts in PRC,
      and
      our sales staff in these representative offices conducts sales and provide
      post-sales services to brand owners and pack manufacturers in each designated
      area. We offer different price incentives to encourage large-volume and
      long-term customers. We have distribution offices in Taiwan, India and Germany
      where our sales representatives market and sell our products and also provide
      after-sale service. We aim to add additional representative offices in the
      Middle East, Canada, Korea and South America. As we expand our business, our
      sales and marketing staff has increased to more than one hundred, most of whom
      are professional salespersons and technicians.




19




Our
      sales
      staff works closely with our customers to understand their needs and provide
      feedback to us so that we can better address their needs and improve the quality
      and features of our products.





We
      engage
      in marketing activities such as attending industry-specific conferences and
      exhibitions to promote our products and brand name. We also advertise in
      industry journals and magazines and through the Internet to market our products.
      For example, in February 2005, we participated in international electronic
      components and materials exhibitions in India, and in March and May 2005, we
      participated in information and communication technology exhibitions in Hanover,
      Germany and Sydney, Australia, respectively. We believe these activities are
      conducive in promoting our products and brand name among key industry
      participants.





**Competition**





We
      face
      intense competition from battery cell makers in China, as well as in Korea
      and
      Japan for each of our product types. The following table sets forth our major
      competitors based on product type:





**Product
                Type**
            
            **Competitors**Prismatic
            
            Japan:
            Sanyo
                Group, Sony Corporation, Matsushita Electric Works, Ltd, NEC Corporation,
                Hitachi, Ltd;Korea:
            LG
                Group, Samsung Electronics Co., Ltd, GS GroupChina:
            BYD
                Company Limited, Tianjin Lishen Battery Joint-Stock Co., Ltd, Harbin
                Coslight Technology International Group Co., LtdCylindrical
            
            Japan:
            Sanyo
                Group, Sony Corporation, Matsushita Electric WorksKorea:
            LG
                Group, Samsung Electronics Co., Ltd.High-power
                lithium-phosphate
            
            Japan:
            Sanyo
                Group, Sony CorporationCanada:
            E-one
                Moli Energy (Canada) LimitedLithium
                polymer
            
            Japan:
            Sanyo
                Group, Sony CorporationChina:
            Amperex
                Technology Limited





We
      believe that we are able to leverage our low-cost advantage to compete favorably
      with our competitors. Compared to Korean and Japanese cell makers, we are able
      to source our needs for skilled labor and raw materials locally and
      economically. Our substantially expanded production capacity has translated
      into
      greater purchasing power, thereby helping us negotiate lower purchase prices
      for
      materials. Furthermore, our strong proprietary technologies and use of a
      combination of manual labor and automation at the key stages of the
      manufacturing process enable us to enhance our production efficiency, resulting
      in further reduction in cost, while ensuring high uniformity and high-quality
      standards.





**Research
      and Development**





We
      have
      established an advanced R&D center. To enhance our product quality, reduce
      cost, and keep up with technological advances and evolving market trends, our
      R&D center focuses on advancement in technologies relating to new materials
      and new cells with prospects for use in new end application markets, such as
      hybrid electric vehicles. For example, we have successfully developed
      technologies to use cost-effective ingredients to reduce the amount of lithium
      cobalt dioxide being used in our cells. Lithium cobalt dioxide is the most
      expensive ingredient currently required to make lithium-based cells because
      cobalt is not renewable.




20






Our
      in-house R&D team consists of 240 researchers and scientists, led by Dr.
      Mao, our chief operating officer and chief technology officer, who pioneered
      core technologies in lithium-ion batteries since their introduction in 1992
      and
      was the inventor under seven U.S. patents related to lithium-ion technology.
      In
      December 2006, we also established a wholly-owned subsidiary, BAK Canada, to
      focus on the research and development of lithium-ion batteries. It comprises
      a
      group of experts led by Mr. Kenneth G. Broom, our vice president of
      International OEM Business, who brings 23 years’ li-ion battery industry working
      experience. Our strong R&D capabilities have enabled us to obtain various
      government-sponsored R&D grants. We have been accredited as a “new and
      high-technology company” in Shenzhen, entitling us to enjoy preferential tax
      treatment and other government incentive grants and subsidies. Furthermore,
      we
      collaborate with a number of reputable research institutes and science and
      technology universities in China, allowing us to capitalize on their R&D
      results economically.





**Employees**





We
      had a
      total of 6,970, 8,468, and 8,616 employees as of September 30, 2005, September
      30, 2006 and September 30, 2007 **,** respectively.
      We have developed a strong company culture that encourages individual thinking
      and creativity, continual self-improvement and strong commitment to provide
      high-quality products to our customers.





**Facilities**





See
      Item
      2. “Properties.”





**Intellectual
      Property**





We
      rely
      on a combination of patents, trade secrets, and employee non-disclosure and
      confidentiality agreements to protect our intellectual property rights. As
      of
      September 30, 2007, we have registered 46 trademarks in the PRC, including
      BAK
      in both English and in Chinese characters as well as our logo. Some of our
      trademarks are also registered in the United States, European Union, Korea,
      Russia, Taiwan and Hong Kong. We have registered the following Internet and
      WAP
      domain name: www.bak.com.cn. As of September 30, 2007, we have registered 195
      patents in the PRC relating to battery cell materials, design and manufacturing
      processes, and we had 305 pending patent applications filed in the PRC and
      20 in
      other countries.





We
      also
      have unpatented proprietary technologies for our product offerings and key
      stages of the manufacturing process. Our management and key technical personnel
      have entered into agreements requiring them to keep confidential all information
      relating to our customers, methods, business and trade secrets during their
      terms of employment with us and thereafter and to assign to China BAK their
      inventions, technologies and designs they develop during their term of
      employment with us.





We
      have
      institutionalized our efforts to safeguard our intellectual property rights
      by
      establishing an internal department that includes professionals such as
      attorneys, engineers, information managers and archives managers responsible
      for
      handling matters relating to our intellectual property rights. We have published
      internally a series of rules to protect our intellectual property rights.





**Environmental
      Compliance**





As
      we
      conduct our manufacturing activities in China, we are subject to the
      requirements of PRC environmental laws and regulations on air emission, waste
      water discharge, solid waste and noise. We aim to comply with environmental
      laws
      and regulations and have passed ISO14001 certification for environmental
      practices. We have built environmental treatment facilities concurrently with
      construction of our manufacturing facilities, where waste air, waste water
      and
      waste solids we generate can be treated in accordance with the relevant
      requirements. We also outsource disposal of solid waste we generate to a third
      party contractor. Certain key materials used in manufacturing, such as cobalt
      dioxide, electrolyte and separators, have proven innocuous to worker’s health
      and safety as well as the environment. We are not subject to any admonitions,
      penalties, investigations or inquiries imposed by the environmental regulators,
      nor are we subject to any claims or legal proceedings to which we are named
      as
      defendant for violation of any environmental law or regulation. We do not have
      any reasonable basis to believe that there is any threatened claim, action
      or
      legal proceedings against us that would have a material adverse effect on our
      business, financial condition or results of operations.




21





**PRC
      Government Regulations**





***Environmental
      Regulations***





The
      major
      environmental regulations applicable to us include the PRC Environmental
      Protection Law, the PRC Law on the Prevention and Control of Water Pollution
      and
      its Implementation Rules, the PRC Law on the Prevention and Control of Air
      Pollution and its Implementation Rules, the PRC Law on the Prevention and
      Control of Solid Waste Pollution, and the PRC Law on the Prevention and Control
      of Noise Pollution.





***Patent
      Protection in China***





The
      PRC’s
      intellectual property protection regime is consistent with those of other modern
      industrialized countries. The PRC has domestic laws for the protection of rights
      in copyrights, patents, trademarks and trade secrets. The PRC is also a
      signatory to most of the world’s major intellectual property conventions,
      including:





—
            Convention
                establishing the World Intellectual Property Organization (WIPO
                Convention) (June 4, 1980);—
            Paris
                Convention for the Protection of Industrial Property (March 19,
                1985);—
            Patent
                Cooperation Treaty (January 1, 1994); and—
            The
                Agreement on Trade-Related Aspects of Intellectual Property Rights
                (TRIPs)
                (November 11, 2001).





Patents
      in the PRC are governed by the China Patent Law and its Implementing
      Regulations, each of which went into effect in 1985. Amended versions of the
      China Patent Law and its Implementing Regulations came into effect in 2001
      and
      2003, respectively.





The
      PRC
      is signatory to the Paris Convention for the Protection of Industrial Property,
      in accordance with which any person who has duly filed an application for a
      patent in one signatory country shall enjoy, for the purposes of filing in
      the
      other countries, a right of priority during the period fixed in the convention
      (12 months for inventions and utility models, and 6 months for industrial
      designs).





The
      Patent Law covers three kinds of patents: patents for inventions, utility models
      and designs respectively. The Chinese patent system adopts the principle of
      first to file. This means that, where more than one person files a patent
      application for the same invention, a patent can only be granted to the people
      who first filed the application. Consistent with international practice, the
      PRC
      only allows the patenting of inventions or utility models that possess the
      characteristics of novelty, inventiveness and practical applicability. For
      a
      design to be patentable, it should not be identical with or similar to any
      design which, before the date of filing, has been publicly disclosed in
      publications in the country or abroad or has been publicly used in the country,
      and should not be in conflict with any prior right of another.





PRC
      law
      provides that anyone wishing to exploit the patent of another must conclude
      a
      written licensing contract with the patent holder and pay the patent holder
      a
      fee. One rather broad exception to this, however, is that, where a party
      possesses the means to exploit a patent but cannot obtain a license from the
      patent holder on reasonable terms and in a reasonable period of time, the PRC
      State Intellectual Property Office, or SIPO, is authorized to grant a compulsory
      license. A compulsory license also can be granted where a national emergency
      or
      any extraordinary state of affairs occurs or where the public interest so
      requires. The patent holder may appeal such decision within three months from
      receiving notification by filing a suit in a people’s court. SIPO, however, has
      not granted any compulsory license up to now.





PRC
      law
      defines patent infringement as the exploitation of a patent without the
      authorization of the patent holder. A patent holder who believes his patent
      is
      being infringed may file a civil suit or file a complaint with a PRC local
      Intellectual Property Administrative Authority, which may order the infringer
      to
      stop the infringing acts. A preliminary injunction may be issued by the People’s
      Court upon the patentee’s or the interested parties’ request before instituting
      any legal proceedings or during the proceedings. Evidence preservation and
      property preservation measures also are available both before and during the
      litigation. Damages in the case of patent infringement is calculated as either
      the loss suffered by the patent holder arising from the infringement or the
      benefit gained by the infringer from the infringement. If it is difficult to
      ascertain damages in this manner, damages may be reasonably determined in an
      amount ranging from one to more times of the license fee under a contractual
      license. The infringing party may also be fined by the Administration of Patent
      Management in an amount of up to three times the unlawful income earned by
      such
      infringing party. If there is no unlawful income so earned, the infringing
      party
      may be fined in an amount of up to RMB500,000, or approximately $67,664.50.




22





***Tax***





Under
      applicable income tax laws and regulations, an enterprise located in Shenzhen,
      including the district where our operations are located, is subject to a 15%
      enterprise income tax. Further, according to PRC laws and regulations, foreign
      invested manufacturing enterprises are entitled to, starting from their first
      profitable year, a two-year exemption from enterprise income tax followed by
      a
      three-year 50% reduction in its enterprise income tax rate. Our PRC
      subsidiaries, Shenzhen BAK and BAK Electronics, are entitled to a two-year
      exemption from enterprise income tax and a reduced enterprise income tax rate
      of
      7.5% for the following three years. As such, for the first two years ended
      December 31, 2003, Shenzhen BAK was exempted from any enterprise income tax.
      Between January 1, 2004 and December 31, 2006, Shenzhen BAK was subject to
      an
      enterprise income tax rate of 7.5%. BAK Electronic, established in August 2005,
      is eligible for the same preferential tax treatment applicable to Shenzhen
      BAK.
      It is currently in its tax holiday and fully exempt from any enterprise income
      tax. BAK Tianjin is also exempt from any enterprise income tax due to cumulative
      tax losses.





In
      addition, due to the additional capital invested in Shenzhen BAK in both 2005
      and 2006, Shenzhen BAK was granted a preferential income tax rate of 3.309%,
      3.82% and 6.12% in calendar years 2005, 2006 and 2007,
      respectively.





Furthermore,
      to encourage foreign investors to introduce advanced technologies to China,
      the
      PRC government has offered additional tax incentives to enterprises that are
      classified as a foreign invested enterprise with advanced technologies.
      According to an official notice issued by the Shenzhen Municipal Trade and
      Industry Bureau, Shenzhen BAK received such designation in August 2005. As
      a
      result, as long as Shenzhen BAK maintains this designation, it may apply to
      the
      tax authority to extend the preferential status of its enterprise tax rate
      for
      another three years, until December 31, 2009.





On
      March
      16, 2007, the National People’s Congress of the PRC determined to adopt a new
      corporate income tax law in its fifth plenary session. The new corporate income
      tax law unifies the application scope, tax rate, tax deduction and preferential
      policy for both domestic and foreign-invested enterprises. The new corporate
      income tax law will be effective on January 1, 2008. According to the new
      corporate income tax law, the applicable income tax rate for our operating
      subsidiaries is subject to change. As implementation details have not yet been
      announced, we cannot be sure of the potential impact of this new corporate
      income tax law on our financial position and operating results.





Pursuant
      to the Provisional Regulation of China on Value Added Tax and their implementing
      rules, all entities and individuals that are engaged in the sale of goods,
      the
      provision of repairs and replacement services and the importation of goods
      in
      China are generally required to pay VAT at a rate of 17.0% of the gross sales
      proceeds received, less any deductible VAT already paid or borne by the
      taxpayer. Further, when exporting goods, the exporter is entitled to a portion
      of or all the refund of VAT that it has already paid or borne. Our imported
      raw
      materials that are used for manufacturing export products and are deposited
      in
      bonded warehouses are exempt from import VAT.





***Foreign
      Currency Exchange***





Under
      the
      PRC foreign currency exchange regulations applicable to us, the Renminbi is
      convertible for current account items, including the distribution of dividends,
      interest payments, trade and service-related foreign exchange transactions.
      Conversion of Renminbi for capital account items, such as direct investment,
      loan, security investment and repatriation of investment, however, is still
      subject to the approval of the PRC State Administration of Foreign Exchange,
      or
      SAFE. Foreign-invested enterprises may only buy, sell and/or remit foreign
      currencies at those banks authorized to conduct foreign exchange business after
      providing valid commercial documents and, in the case of capital account item
      transactions, obtaining approval from the SAFE. Capital investments by
      foreign-invested enterprises outside of China are also subject to limitations,
      which include approvals by the Ministry of Commerce, the SAFE and the State
      Reform and Development Commission.




23





***Dividend
      Distributions***





Under
      applicable PRC regulations, foreign-invested enterprises in China may pay
      dividends only out of their accumulated profits, if any, determined in
      accordance with PRC accounting standards and regulations. In addition, a
      foreign-invested enterprise in China is required to set aside at least 10.0%
      of
      their after-tax profit based on PRC accounting standards each year to its
      general reserves until the accumulative amount of such reserves reach 50.0%
      of
      its registered capital. These reserves are not distributable as cash dividends.
      The board of directors of a foreign-invested enterprise has the discretion
      to
      allocate a portion of its after-tax profits to staff welfare and bonus funds,
      which may not be distributed to equity owners except in the event of
      liquidation.





**Item
      1A. Risk Factors.********





**Risks
      Related to Our Business**





***Our
      limited operating history may not serve as an adequate basis to evaluate our
      future prospects and results of operations.***





We
      have a
      limited operating history. We are engaged in the business of developing,
      manufacturing and sales of lithium-based rechargeable battery cells used for
      a
      wide range of portable electronic applications. We were established in Shenzhen,
      China in August 2001 and commenced operations in June 2002. Our limited
      operating history may not provide a meaningful basis for an investor to evaluate
      our business, financial performance and prospects. We may not be able to:





—
            maintain
                our leading position in the cellular phone battery replacement
                market;—
            retain
                existing customers or acquire new customers;—
            diversify
                our revenue sources by successfully developing and selling our products
                in
                the global cellular phone OEM market, notebook computer battery market
                and
                other markets;—
            keep
                up with evolving industry standards and market
                developments;—
            respond
                to competitive market conditions;—
            maintain
                adequate control of our expenses;—
            manage
                our relationships with our suppliers;—
            attract,
                train, retain and motivate qualified personnel; or—
            protect
                our proprietary technologies.





If
      we are
      unsuccessful in addressing any of these challenges, our business may be
      materially and adversely affected.





***General
      economic conditions can significantly affect our financial
      results.***





Our
      financial results can be significantly affected by general economic conditions,
      inflationary pressures, high labor or material and commodity costs and
      unforeseen changes in consumer demand or buying patterns. Changes in our ability
      to generate sufficient internal cash flows, as well as access to capital
      markets, interest rate fluctuations and other conditions which impact the
      ability to borrow, may negatively affect our ability to support capital
      expansion plans, general operations, research and development activity, and
      advertising and promotional activities.




24





Instability
      in the world financial markets and the global economy, including (and as a
      result of) the conflicts in the Middle East, may create uncertainty in the
      industries in which the Company operates, and may adversely affect its business.
      In addition, terrorist activities may cause unpredictable or unfavorable
      economic conditions and could have a material adverse impact on the Company’s
      operating results and financial condition.





***We
      are primarily dependent on sales of lithium-ion battery cells for the cellular
      phone battery replacement market. A reduction in the volume or average price
      of
      lithium-ion battery cells that we sell for this market would cause our overall
      revenue to decline.***





We
      have
      derived a major portion of revenues to date from sales of our lithium-ion
      battery cells for the cellular phone battery replacement market. While we intend
      to diversify our revenue sources by expanding to the global cellular phone
      OEM
      market, notebook computers and high-power electrical tool markets, we expect
      that sales of battery cells used for the cellular phone battery replacement
      market will continue to comprise a significant portion of our revenues in the
      near future. Accordingly, any decrease in the demand for our battery cells
      in
      the replacement market resulting from success of competing products, slower
      than
      expected growth of sales in the replacement market or other adverse developments
      relating to the replacement market may materially and adversely affect our
      business and cause our overall revenue to decline. In addition, our expansion
      to
      the global cellular phone battery OEM market and other markets may not increase
      our revenue to a level that would enable us to materially reduce our dependence
      on sales of battery cells for the cellular phone replacement
      market.





***Our
      business depends on the growth in demand for portable electronic devices.***





As
      the
      market demand for portable electronic devices is directly related to the demand
      for our products, a fast growing portable electronic device market will be
      critical to the success of our business. In anticipation of an expected increase
      in demand for portable electronic devices such as cellular phones and notebook
      computers in the next few years, we have expanded our manufacturing capacity.
      However, the markets we have targeted, including those of the PRC, may not
      achieve the level of growth we expect. If this market fails to achieve our
      expected level of growth, we will have excess production capacity and may not
      be
      able to generate enough revenue to maintain our profitability.





***Our
      future success depends on the success of manufacturers of the end applications
      that use our products.***





As
      we
      expand to the battery markets for global OEM cellular phones, notebook computers
      and other portable electronic devices, our future success depends on whether
      end
      application manufacturers are willing to use batteries that incorporate our
      products. To secure acceptance of our products, we must constantly develop
      and
      introduce more reliable and cost-effective battery cells with enhanced
      functionality to meet evolving industry standards. Our failure to gain
      acceptance of our products from these manufacturers could materially and
      adversely affect our future success.





Even
      if a
      manufacturer decides to use batteries that incorporate our products, the
      manufacturer may not be able to market and sell its products successfully.
      The
      manufacturer’s inability to market and sell its products successfully, whether
      from lack of market acceptance or otherwise, could materially and adversely
      affect our business and prospects because this manufacturer may not order new
      products from us. If we cannot achieve the expected level of sales, we will
      not
      be able to make sufficient profits to offset the expenditures we have incurred
      to expand our production capacity, nor will we be able to grow our business.
      Accordingly, our business, financial condition, results of operations and future
      success would be materially and adversely affected.





***We
      experience fluctuations in quarterly operating results.***





Our
      quarterly operating results have fluctuated in the past and likely will
      fluctuate in the future. The demand for our products is driven largely by demand
      for the end-product applications that are powered by our products. Accordingly,
      the rechargeable battery industry is affected by market conditions that are
      often outside our control. Our results of operations may fluctuate significantly
      from period to period due to a number of factors, including seasonal variations
      in consumer demand for batteries and their end applications, capacity ramp
      up by
      competitors, industry-wide technological changes, the loss of a key customer
      and
      the postponement, rescheduling or cancellation of large orders by a key
      customer. As a result of these factors and other risks discussed in this
      section, period-to-period comparisons should not be relied upon to predict
      our
      future performance.




25





***Our
      failure to keep up with rapid technological changes and evolving industry
      standards may cause our products to become obsolete and less marketable,
      resulting in loss of market share to our competitors.***





The
      lithium-based battery market is characterized by changing technologies and
      evolving industry standards, which are difficult to predict. This, coupled
      with
      frequent introduction of new products and models, has shortened product life
      cycles and may render our products obsolete or unmarketable. Our ability to
      adapt to evolving industry standards and anticipate future standards will be
      a
      significant factor in maintaining and improving our competitive position and
      our
      prospects for growth. To achieve this goal, we have invested and plan to
      continue investing significant financial resources in our R&D
      infrastructure. R&D activities, however, are inherently uncertain, and we
      might encounter practical difficulties in commercializing our research results.
      Accordingly, our significant investment in our R&D infrastructure may not
      bear fruit. On the other hand, our competitors may improve their technologies
      or
      even achieve technological breakthroughs that would render our products obsolete
      or less marketable. Therefore, our failure to effectively keep up with rapid
      technological changes and evolving industry standards by introducing new and
      enhanced products may cause us to lose our market share and to suffer a decrease
      in our revenue.





***A
      change in our product mix may cause our results of operations to differ
      substantially from the anticipated results in any particular
      period.***





Our
      overall profitability may not meet expectations if our products, customers
      or
      geographic mix are substantially different than anticipated. Our profit margins
      vary among products, customers and geographic markets. Consequently, if our
      mix
      of any of these is substantially different from what is anticipated in any
      particular period, our profitability could be lower than
      anticipated.





***Failure
      to successfully obtain OEM certification from international cellular phone
      brand
      owners may materially and adversely affect our future growth.***





We
      intend
      to leverage our position in the cellular phone battery replacement market and
      to
      expand to the global cellular phone OEM market. To achieve this goal, we must
      first be qualified by international brand owners. We have started the process
      with Motorola, Nokia and other international brand owners. Since international
      brand owners have very stringent requirements, the qualification process can
      be
      lengthy and costly for new component suppliers such as China BAK. Our failure
      to
      obtain qualifications from international brand owners would have a material
      adverse effect on our ability to execute our business plan and achieve the
      level
      of growth we have planned.





***We
      may not be able to manage our expansion of operations effectively.***





We
      were
      established in August 2001 and have grown rapidly since. We are in the process
      of significantly expanding our business in order to meet the increasing demand
      for our products, as well as capture new market opportunities. As we continue
      to
      grow, we must continue to improve our operational and financial systems,
      procedures and controls, increase manufacturing capacity and output, and expand,
      train and manage our growing employee base. In order to fund our on-going
      operations and our future growth, we need to have sufficient internal sources
      of
      liquidity or access to additional financing from external sources. Furthermore,
      our management will be required to maintain and strengthen our relationships
      with our customers, suppliers and other third parties. As a result, our
      continued expansion has placed, and will continue to place, significant strains
      on our management personnel, systems and resources. We also will need to further
      strengthen our internal control and compliance functions to ensure that we
      will
      be able to comply with our legal and contractual obligations and minimize our
      operational and compliance risks. Our current and planned operations, personnel,
      systems, internal procedures and controls may not be adequate to support our
      future growth. If we are unable to manage our growth effectively, we may not
      be
      able to take advantage of market opportunities, execute our business strategies
      or respond to competitive pressures.





***We
      may not be able to substantially increase our manufacturing output in order
      to
      maintain our cost competitiveness.***





We
      believe that our ability to provide cost-effective products is one of the most
      significant factors that contributed to our current success and will be
      essential for our future growth. We believe this is one of our competitive
      advantages over our Japanese and Korean competitors. In order to continue doing
      so, we will need to increase our manufacturing output to a level that will
      enable us to substantially reduce the cost of our products on a per unit basis
      through economies of scale. However, our ability to substantially increase
      our
      manufacturing output is subject to significant constraints and uncertainties,
      including:





—
            the
                need to raise significant additional funds to purchase and prepay
                raw
                materials or to build additional manufacturing facilities, which
                we may be
                unable to obtain on reasonable terms or at
                all;




26




—
            delays
                and cost overruns as a result of a number of factors, many of which
                may be
                beyond our control, such as increases in raw material prices and
                problems
                with equipment vendors;—
            delays
                or denial of required approvals by relevant government
                authorities;—
            diversion
                of significant management attention and other resources;
                and—
            failure
                to execute our expansion plan
                effectively.





If
      we are
      unable to increase our manufacturing output because of any of the risks
      described above, we may be unable to maintain our competitive position or
      achieve the growth we expect. Moreover, even if we expand our manufacturing
      output, we may not be able to generate sufficient customer demand for our
      products to support our increased production output.





***Maintaining
      our manufacturing operations requires significant capital expenditures, and
      our
      inability or failure to maintain our operations would have a material adverse
      impact on our market share and ability to generate
      revenue.***





We
      had
      capital expenditures of approximately $65.8 million and $41.4 million in fiscal
      years 2007 and 2006, respectively. We may incur significant additional capital
      expenditures as a result of unanticipated expenses, regulatory changes and
      other
      events that impact our business. If we are unable or fail to adequately maintain
      our manufacturing capacity or quality control processes, we could lose customers
      and there could be a material adverse impact on our market share and our ability
      to generate revenue.





***We
      are and will continue to be subject to rapidly declining average selling prices,
      which may harm our revenue and gross profits.***





Portable
      consumer electronics such as cellular phones and notebook computers are subject
      to rapid declines in average selling prices due to rapidly evolving
      technologies, industry standards and consumer preferences. As a result,
      manufacturers of these electronic devices expect us as suppliers to cut our
      costs and lower the price of our products in order to mitigate the negative
      impact on their own margins. We have reduced the price of our products in the
      past in order to meet market demand and expect to continue to face market-driven
      downward pricing pressures in the future. Our revenue and profitability will
      suffer if we are unable to offset any declines in our average selling prices
      by
      developing new or enhanced products with higher selling prices or gross profit
      margins, increasing our sales volumes or reducing our costs on a timely basis.





***We
      did not have effective internal control over financial reporting as of September
      30, 2007 due to material weaknesses, which relate primarily to the disclosure
      and presentation of financial information under generally accepted accounting
      principles in the United States, or U.S. GAAP. We have restated our consolidated
      financial statements three times. We can make no assurances that additional
      material weaknesses will not be identified in the future. Our failure to
      implement and maintain effective internal control over financial reporting
      could
      result in material misstatements in our financial statements which could require
      us to restate financial statements, cause investors to lose confidence in our
      reported financial information and have a negative effect on our stock price.***





In
      the
      course of the Securities and Exchange Commission (“SEC”), review of registration
      statements on Form SB-2 (File Nos. 333-122209 and 333-130247), we restated
      our
      consolidated balance sheet as of September 30, 2004, our consolidated statements
      of income and comprehensive income, our consolidated statements of cash flows
      and our consolidated statements of changes in shareholders’ equity for the
      fiscal year ended September 30, 2004, and also extended or modified certain
      notes to these consolidated financial statements.  This restatement arose
      out of accounting errors relating to (1) misclassification of cash transactions,
      (2) incorrect charging to our statements of income and comprehensive income
      for
      fiscal 2003 and 2004 for deficit attributable to 1,152,456 shares outstanding
      prior to our reverse acquisition on January 20, 2005, and (3) incorrect
      presentation of depreciation expenses in the statement of income and
      comprehensive income. The restatement resulted in an increase in net cash from
      financing activities, a decrease in the number of shares of common stock
      outstanding and a corresponding increase in paid-in capital, and a decrease
      in
      gross profit for the fiscal year ended September 30, 2004 by $1,635,971, or
      approximately 11%.




27





In
      the
      course of the SEC review of the registration statements referred to above,
      we
      determined that beginning with fiscal quarter ended December 31, 2005, we would
      no longer be considered a “small business issuer.” We restated our consolidated
      balance sheet as of December 31, 2005, our consolidated statement of income
      and
      comprehensive income and our consolidated statement of cash flows for the three
      months ended December 31, 2005 to reflect the prospective adoption of Statement
      of Financial Accounting Standards, or SFAS, No. 123 (Revised 2004), “Share-Based
      Payment,” or SFAS 123R, relating to the accounting for stock-based compensation
      commencing in the first quarter of our fiscal year ending September 30, 2006.
      Pursuant to the restatement, we incurred an incremental share-based compensation
      expense of $711,512 in the quarter ended December 31, 2005. This restatement
      resulted in, among other things, a decrease in gross profit and net income
      per
      share for the first quarter of our fiscal year 2006.





As
      reported in the current report on Form 8-K filed with the SEC on August 4,
      2006,
      we changed our independent registered public accounting firm from Schwartz
      Levitsky Feldman LLP to KPMG. We engaged KPMG on May 15, 2006 to audit our
      financial statements for the fiscal years ended September 30, 2003, 2004 and
      2005. During the course of the audit, KPMG notified our accounting staff of
      misstatements in our previously reported financial statements for the fiscal
      years ended September 30, 2003, 2004 and 2005 that required correction relating
      to: (1) the overstatement of interest expense because of an error in the
      application of accounting principles relating to interest capitalization, and
      the related understatement of property, plant and equipment, construction in
      progress and depreciation expenses; (2) the incorrect charging to shareholders’
equity for fiscal year 2005 of the provision for staff and workers’ bonus and
      welfare fund instead of charging it to the statements of income and
      comprehensive income; (3) the overstatement of the provision for contributions
      to a social insurance plan because of a misinterpretation of the applicable
      PRC
      laws; (4) the understatement of our accumulated foreign-currency translation
      adjustment for fiscal 2005 included in comprehensive income and overstatement
      of
      our additional paid-in capital due to a calculation error during consolidation;
      (5) other misstatements identified, which were individually not material,
      including amounts related to amortization of lease prepayments, prepayments
      and
      other receivables, accrued expenses and other payables, cost of revenues,
      general and administrative expenses, finance costs, other expenses, and certain
      cash flow items, and (6) the consequential understatements or overstatements
      of
      income tax expenses. The net restatement adjustments resulted in an increase
      in
      our net income and earnings per share in the relevant periods. For more detailed
      descriptions, see Item 9A. “Controls and Procedures” of our Annual Report on
      Form 10-K for the fiscal year ended September 30, 2006 (the “2006 Form 10-K”).




Our
      management concluded that our disclosure controls and procedures were not
      effective as of September 30, 2006, because of the material weaknesses that
      had
      been identified and described in Item 9A. “Controls and Procedures” of the 2006
      Form 10-K. Management believes that some appropriate measures have been
      implemented to remediate these weaknesses during the fiscal year 2007. Investors
      are directed to Item 9A of the 2006 Form 10-K for the description of these
      weaknesses.




As
      disclosed in our current report on Form 8-K filed
      with the SEC on April 3, 2007, as amended on April 11, 2007 and April 17, 2007,
      on March 28, 2007 we dismissed KPMG as our independent registered public
      accounting firm and appointed PKF as our independent registered public
      accounting firm, in each case effective April 1, 2007.




Our
      management has carried out an evaluation, with the participation and under
      the
      supervision of our chief executive officer and chief financial officer, of
      the
      effectiveness of the design and operation of our disclosure controls and
      procedures as of September 30, 2007 covered by Management’s Report on Internal
      Control over Financial Reporting. We have identified the following material
      weaknesses as of September 30, 2007:





1.
            Entity
                Level Material Weakness - Control
                Environment





We
      did
      not maintain effective controls over the financial reporting processes due
      to an
      insufficient complement of personnel with a level of accounting knowledge,
      experience and training in the application of U.S. GAAP commensurate with our
      financial requirements. Additionally, our senior management lacked an adequate
      level of accounting knowledge, experience and training in the application of
      U.S. GAAP, and did not implement adequate and proper supervisory review to
      ensure the consolidated financial statements were prepared in conformity with
      U.S. GAAP and with SEC requirements.




28





2.
            Process
                Level Material Weakness - Procedures and
                transactions





We
      did
      not maintain adequate procedures to properly account for deferred taxes under
      U.S. GAAP. Specifically, we did not have effective controls and procedures
      over
      the identification and measurement of differences between the respective tax
      and
      financial reporting bases of certain assets and liabilities and the
      determination of the applicable income tax rate to ensure that deferred taxes
      were accurately presented in our consolidated financial statements. This
      material weakness resulted in a material adjustment to our preliminary
      consolidated financial statements as of September 30, 2007. The need for this
      adjustment was initially identified by our external auditor and subsequently
      implemented by our management.





See
      Item
      9A. “Controls and Procedures” for a more detailed discussion of these material
      weaknesses.





We
      can
      make no assurances that additional material weaknesses in our internal control
      over financial reporting will not be identified in the future. Any failure
      to
      maintain or implement required new or improved controls, or any difficulties
      we
      encounter in their implementation, could result in additional significant
      deficiencies or material weaknesses, cause us to fail to meet our periodic
      reporting obligations or result in material misstatements in our financial
      statements. Any such failure could adversely affect the results of periodic
      management evaluations and annual auditor attestation reports regarding the
      effectiveness of our internal control over financial reporting that are required
      under Section 404 of the Sarbanes-Oxley Act of 2002. The existence of a material
      weakness could result in errors in our financial statements that could result
      in
      another restatement of financial statements, cause us to fail to meet our
      reporting obligations and cause investors to lose confidence in our reported
      financial information, leading to a decline in our stock price.





***Failure
      to achieve and maintain effective internal controls could have a material
      adverse effect on our business, results of operations and the trading price
      of
      our common stock.***





We
      are
      subject to the reporting obligations under the U.S. securities laws. The SEC,
      under Section 404 of the Sarbanes-Oxley Act of 2002, has adopted rules requiring
      public companies to include a report of management on such companies’ internal
      control over financial reporting in their annual reports that contain an
      assessment by management of the effectiveness of their internal control over
      financial reporting at a reasonable assurance level. In addition, pursuant
      to
      Auditing Standard No. 2, which is in effect for the fiscal year ended September
      30, 2007, our independent registered public accounting firm must attest to
      and
      report on management’s assessment of the effectiveness of the company’s internal
      control over financial reporting as well as the operating effectiveness of
      the
      company’s internal controls. These requirements first applied to us in
      connection with the Report for the fiscal year ended September 30, 2006.
      Management’s report on internal control over financial reporting is set out in
      Item 9A “Controls and Procedures.” of the 2006 Form 10-K.





Management
      has determined that, as of the fiscal year ended September 30, 2007, the two
      material weaknesses as described in Item 9A. “Controls and Procedures,” resulted
      from material weaknesses in our internal control over financial reporting.
      To
      remediate these material weaknesses, we have taken and will continue to take
      a
      number of remediation measures, as described in Item 9A. “Controls and
      Procedures.” However, we can make no assurances that we can fully remediate all
      our material weaknesses or address additional material weaknesses or significant
      deficiencies that may subsequently arise by the year end date of fiscal year
      2008, so that our management will be able to conclude that we will have
      effective internal control over financial reporting as of September 30, 2008.
      If
      we cannot implement the requirements of Section 404 of the Sarbanes-Oxley Act
      of
      2002 in a timely manner or with adequate compliance, our registered independent
      public accounting firm may not be able to provide a written attestation as
      to
      the effectiveness of our internal controls over financial reporting, in which
      event, our registered independent public accounting firm may issue a disclaimer
      of their audit opinion. Our failure to achieve and maintain effective internal
      control over financial reporting may result in sanctions or investigations
      by
      regulatory authorities, such as the SEC, and loss of investor confidence in
      the
      reliability of our financial statements, which in turn could harm our business
      and negatively impact the trading price of our common stock. Furthermore, we
      anticipate that we will continue to incur considerable costs and use significant
      management and other resources in an effort to comply with Section 404 and
      other
      requirements of the Sarbanes-Oxley Act of 2002.





29





***We
      became a public company through our acquisition by a non-operating public shell
      company, where we were the accounting acquirer and assumed all liabilities
      of
      our predecessor entity.***





Our
      January 2005 share exchange with Medina Coffee, Inc. was accounted for as a
      reverse acquisition in which Shenzhen BAK was deemed to be the accounting
      acquirer and Medina Coffee, which was originally incorporated in 1999, was
      deemed to be the legal acquirer. Accordingly, we have assumed all the
      liabilities of Medina Coffee. Medina Coffee was incorporated for the purposes
      of
      engaging in the retail coffee business and at the time of the share exchange,
      Medina Coffee had no substantial operations, assets or liabilities. We cannot
      guarantee that we will not become subject to any liabilities related to the
      conduct by Medina Coffee of its business prior to its acquisition by us that
      may
      subsequently arise.





***We
      are dependent on a limited number of customers for a significant portion of
      our
      revenues and this dependence is likely to continue.***





We
      have
      been dependent on a limited number of customers for a significant portion of
      our
      revenue. Our top five customers accounted for approximately 39.9%, 42.3% and
      37.1% of our revenues in the years ended September 30, 2005, 2006, and 2007,
      respectively. Dependence on a few customers could make it difficult to negotiate
      attractive prices for our products and could expose us to the risk of
      substantial losses if a single dominant customer stops purchasing our products.
      We expect that a limited number of customers will continue to contribute to
      a
      significant portion of our sales in the near future. Our ability to maintain
      close relationships with these top customers is essential to the growth and
      profitability of our business. If we fail to sell our products to one or more
      of
      these top customers in any particular period, or if a large customer purchases
      fewer of our products, defers orders or fails to place additional orders with
      us, or if we fail to develop additional major customers, our revenue could
      decline, and our results of operations could be adversely affected. A small
      number of prismatic cell customers and A123Systems have historically accounted
      for a substantial portion of our revenues. In the year ended September 30,
      2007,
      sales to A123Systems accounted for 14% of our revenues. In the same period,
      our
      top five customers in aggregate contributed to approximately 37.1% of our
      revenues. As we expand our product portfolio and target new market segments,
      our
      customer composition as well as the identity and concentration of our top
      customers are expected to change from period to period. Our agreement with
      A123Systems, as amended on August 18, 2005, terminated in accordance with its
      terms on August 30, 2007. If we fail to find alternative sources of demand
      for
      our lithium-phosphate cells, our revenue may be substantially
      impacted.





In
      addition, according to the terms set out in one of our credit facility
      agreements, if our monthly revenue for any given month is 10% lower than the
      monthly revenue for the corresponding month of the preceding year, the
      outstanding loans under this credit facility, including interests and penalties
      thereunder, will accelerate and become immediately due and payable.





***We
      do not have long-term purchase commitments from our customers, which may result
      in significant uncertainties and volatility with respect to our revenue from
      period to period.***





We
      do not
      have long-term purchase commitments from our customers and the term of our
      sales
      contracts with our customers is typically one year. Furthermore, these contracts
      leave certain major terms such as price and quantity of products open to be
      determined in each purchase order. These contracts also allow parties to
      re-adjust the contract price for substantial changes in market conditions.
      As a
      result, if our customers hold stronger bargaining power than us or the market
      conditions are in their favor, we may not be able to enjoy the price downside
      protection or upside gain. Furthermore, our customers may decide not to continue
      placing purchase orders with us in the future at the same level as in prior
      periods. As a result, our results of operations may vary from period to period
      and may fluctuate significantly in the future.





***We
      may not be able to accurately plan our production based on our sales contracts,
      which may result in excess product inventory or product shortages.***





Our
      sales
      contracts typically provide for a non-binding, three-month forecast on the
      quantity of products that our customers may purchase from us. We typically
      have
      only a 15-day lead time to manufacture products to meet our customers’
requirements once our customers place orders with us. To meet the short delivery
      deadline, we generally make significant decisions on our production level and
      timing, procurement, facility requirements, personnel needs and other resources
      requirements based on our estimate in light of this forecast, our past dealings
      with such customers, market conditions and other relevant factors. Our
      customers’ final purchase orders may not be consistent with our estimates. If
      the final purchase orders substantially differ from our estimates, we may have
      excess product inventory or product shortages. Excess product inventory could
      result in unprofitable sales or write-offs as our products are susceptible
      to
      obsolescence and price declines. Producing additional products to make up for
      any product shortages within a short time frame may be difficult, making us
      unable to fill out the purchase orders. In either case, our results of operation
      would fluctuate from period to period.




30





***We
      may face impairment charges if economic environments in which our businesses
      operate and key economic and business assumptions substantially
      change.***





Assessment
      of the potential impairment of property, plant and equipment, goodwill and
      other
      identifiable intangible assets is an integral part of our normal ongoing review
      of operations. Testing for potential impairment of long-lived assets is
      dependent on numerous assumptions and reflects our best estimates at a
      particular point in time, which may vary from testing date to testing date.
      The
      economic environments in which our businesses operate and key economic and
      business assumptions with respect to projected product selling prices and
      materials costs, market growth and inflation rates, can significantly affect
      the
      outcome of impairment tests. Estimates based on these assumptions may differ
      significantly from actual results. Changes in factors and assumptions used
      in
      assessing potential impairments can have a significant impact on both the
      existence and magnitude of impairments, as well as the time at which such
      impairments are recognized. Future changes in the economic environment and
      the
      economic outlook for the assets being evaluated could also result in impairment
      charges. Any significant asset impairments would adversely impact our financial
      results.





***We
      depend on third parties to supply key raw materials to us. Failure to obtain
      sufficient supply of these raw materials in a timely fashion and at reasonable
      costs could significantly delay our production and shipments, which would cause
      us to breach our sales contracts with our customers.***





We
      purchase from Chinese domestic suppliers certain key raw materials such as
      electrolytes, electrode materials and import separators, a key component of
      battery cells from foreign countries. We purchase raw materials on the basis
      of
      purchase orders. In the absence of firm and long-term contracts, we may not
      be
      able to obtain sufficient supply of these raw materials from our existing
      suppliers or alternates in a timely fashion or at a reasonable cost. Our failure
      to secure sufficient supply of key raw materials in a timely fashion would
      result in a significant delay in our production and shipments, which may cause
      us to breach our sales contracts with our customers. Furthermore, failure to
      obtain sufficient supply of these raw materials at a reasonable cost could
      also
      harm our revenue and gross profit margins.





***Fluctuations
      in prices and availability of raw materials, particularly lithium cobalt
      dioxide, could increase our costs or cause delays in shipments, which would
      adversely impact our business and results of
      operations.***





Our
      operating results could be adversely affected by increases in the cost of raw
      materials, particularly lithium cobalt dioxide, the primary cost component
      of
      our battery products, or other product parts or components. Lithium cobalt
      dioxide mainly consists of cobalt. Cobalt market prices averaged $17.9 per
      pound
      in fiscal year 2005, $16.3 per pound in fiscal year 2006 and $27.2 per pound
      in
      fiscal year 2007. Cobalt traded as high as $32.0 per pound on March 30, 2007.
      The increase in cobalt’s market price has negatively impacted our financial
      results in recent years. We historically have not been able to fully offset
      the
      effects of higher costs of raw materials through price increases to customers
      or
      by way of productivity improvements.





A
      significant increase in the price of one or more raw materials, parts or
      components or the inability to successfully implement price increases /
      surcharges to mitigate such cost increases could have a material adverse effect
      on our results of operations.





***We
      face intense competition from other battery cell manufacturers, many of which
      have significantly greater resources.***





The
      market for battery cells used for portable electronic devices such as cellular
      phones is intensely competitive and is characterized by frequent technological
      changes and evolving industry standards. We expect competition to become more
      intense. Increased competition may result in decline in average selling prices,
      causing a decrease in gross profit margins. We have faced and will continue
      to
      face competition from manufacturers of traditional rechargeable battery cells,
      such as nickel-cadmium batteries, from manufacturers of rechargeable battery
      cells of more recent technologies, such as nickel-metal hydride and liquid
      electrolyte, other manufacturers of lithium-ion battery cells, as well as from
      companies engaged in the development of batteries incorporating new
      technologies. Other manufacturers of lithium-ion battery cells currently include
      Sanyo Electric Co., Sony Corporation, Matsushita Electric Industrial Co., Ltd.
      (Panasonic), GS Group, NEC Corporation, Hitachi Ltd., LG Chemical Ltd., Samsung
      Electronics Co., Ltd., BYD Co. Ltd., Tianjin Lishen Battery Joint Stock Co.,
      Ltd., Henan Huanyu Group and Harbin Coslight Technology International Group
      Co.,
      Ltd.




31





Many
      of
      these existing competitors have greater financial, personnel, technical,
      manufacturing, marketing, sales and other resources than we do. As a result,
      these competitors may be in a stronger position to respond quickly to market
      opportunities, new or emerging technologies and evolving industry standards.
      Many of our competitors are developing a variety of battery technologies, such
      as lithium polymer and fuel cell batteries, which are expected to compete with
      our existing product line. Other companies undertaking R&D activities of
      solid-polymer lithium-ion batteries have developed prototypes and are
      constructing commercial scale production facilities. It is possible that our
      competitors will be able to introduce new products with more desirable features
      than ours and their new products will gain market acceptance. If our competitors
      successfully do so, we may not be able to maintain our competitive position
      and
      our future success would be materially and adversely affected.





***We
      depend on third-party battery pack manufacturers to incorporate our products
      into battery packs to make batteries ready for use in various portable consumer
      electronics. If these factories fail to properly assemble our products and
      battery packs, resulting in defective battery cells, our reputation could be
      severely damaged and our sales could be materially and adversely affected.
      Moreover, our battery technology may only be commercially viable as a component
      of other companies' products, and these companies may choose not to include
      our
      systems in their products.***





We
      manufacture only battery cells, the key component of a battery. Battery cells
      need to be incorporated into battery packs to constitute batteries ready for
      use
      in various portable consumer electronics. Some of our end application customers
      may ask us to designate certain third-party battery pack manufacturers to
      assemble our products into batteries. While assembly is a fairly straightforward
      process as it does not involve complex technologies, the batteries could
      malfunction unless assembled properly. If the battery pack manufacturers with
      whom we cooperate fail to assemble batteries properly and cause a large number
      of batteries to be defective due to reasons unrelated to the quality of our
      products, our reputation could be severely damaged. In addition, if these
      battery pack manufacturers are unable to assemble a sufficient number of
      batteries to meet the requirements of our end application customers and we
      cannot timely find qualified alternative battery pack manufacturers, our sales
      could be materially and adversely affected.





To
      be
      commercially viable, our batteries must be integrated in most cases into
      products manufactured by other companies. These other companies may not be
      able
      to manufacture appropriate products or, if they do manufacture such products,
      may choose not to use our technology. Any integration, design, manufacturing
      or
      marketing problems encountered by companies using our products could adversely
      affect the market for our products and our financial results. Any perceived
      problem while conducting demonstrations of our batteries could hurt our
      reputation and the reputation of our products, which could impede the
      development of our business.





We
      have
      demonstrated our battery technology in the past and we plan to conduct
      additional demonstrations in public and in private in the future. We also expect
      our customers to conduct field testing and pilot programs to evaluate products
      which utilize our technology. Although to date we have not experienced
      significant problems in demonstration or testing, future demonstrations and
      testing could encounter problems for a number of reasons, including the failure
      of our technology, the failure of the technology of others, the failure to
      combine these technologies properly and the failure to maintain and service
      the
      test systems properly. Many of these potential problems and delays are beyond
      our control. In addition, field test programs, by their nature, involve delays
      and modifications. Any problem or perceived problem with our field tests could
      hurt our reputation and the reputation of our products, which could impede
      the
      development of our business.





***Our
      business depends substantially on the continuing efforts of our senior
      executives and other key personnel, and our business may be severely disrupted
      if we lost their services.***





Our
      future success heavily depends on the continued service of our senior executives
      and other key employees. In particular, we rely on the expertise and experience
      of our chief executive officer and president, Mr. Xiangqian Li, and our chief
      operating officer and chief technical officer, Dr. Huanyu Mao. If one or more
      of
      our senior executives are unable or unwilling to continue to work for us in
      their present positions, we may have to spend a considerable amount of time
      and
      resources searching, recruiting and integrating the replacements into our
      operations, which would substantially divert management’s attention from our
      business and severely disrupt our business. This may also adversely affect
      our
      ability to execute our business strategy. Moreover, if any of our senior
      executives joins a competitor or forms a competing company, we may lose
      customers, suppliers, know-how and key personnel. Each of our executive officers
      has entered into an employment agreement with us, which contains non-competition
      and confidentiality clauses. However, if any dispute arises between our
      executive officers and the Company, it is hard to predict the extent to which
      any of these agreements could be enforced in China, where these executive
      officers reside, in light of the uncertainties with China’s legal
      system.




32





***The
      success of our business depends on our ability to attract, train and retain
      highly skilled employees and key personnel.***





Because
      of the highly specialized, technical nature of our business, we must attract,
      train and retain a sizable workforce comprising highly skilled employees and
      other key personnel. Since our industry is characterized by high demand and
      intense competition for talent, we may have to pay higher salaries and wages
      and
      provide greater benefits in order to attract and retain highly skilled employees
      or other key personnel that we will need to achieve our strategic objectives.
      As
      we are still a relatively young company and our business has grown rapidly,
      our
      ability to train and integrate new employees into our operations may not meet
      the requirements of our growing business. Our failure to attract, train or
      retain highly skilled employees and other key personnel in numbers that are
      sufficient to satisfy our needs would materially and adversely affect our
      business.





***Manufacturing
      or use of our products may cause accidents, which could result in significant
      production interruption, delay or claims for substantial damages.***





Due
      to
      the high energy density inherent in lithium-based batteries, our batteries
      can
      pose certain safety risks, including the risk of fire. Although we incorporate
      safety procedures in the research, development, manufacture and transportation
      of batteries that are designed to minimize safety risks, the manufacture or
      use
      of our products may still cause accidents. Any accident, whether occurring
      at
      the manufacturing facilities or from the use of our products, may result in
      significant production interruption, delays or claims for substantial damages
      caused by personal injuries or property damages.





***We
      extend relatively long payment terms to our customers.***





As
      is
      customary in the industry in the PRC, we extend relatively long payment terms
      and provide generous return policies to our customers. As a result of the size
      of many of our orders, these extended terms may adversely affect our cash flow
      and our ability to fund our operations out of our operating cash flow. In
      addition, although we attempt to establish appropriate reserves for our
      receivables, those reserves may not prove to be adequate in view of actual
      levels of bad debts. The failure of our customers to pay us timely would
      negatively affect our working capital, which could in turn adversely affect
      our
      cash flow.





Our
      customers often place large orders for products, requiring fast delivery, which
      impacts our working capital. If our customers do not incorporate our products
      into their products and sell them in a timely fashion, for example, due to
      excess inventories, sales slowdowns or other issues, they may not pay us in
      a
      timely fashion, even on our extended terms. Our customers’ failure to pay may
      force us to defer or delay further product orders, which may adversely affect
      our cash flows, sales or income in subsequent periods.





***We
      manufacture and market lithium-based battery cells only. If a viable substitute
      product or chemistry emerges and gains market acceptance, our business,
      financial condition and results of operations will be materially and adversely
      affected.***





We
      manufacture and market lithium-based battery cells only. As we believe that
      the
      market for lithium-based batteries has good growth potential, we have focused
      our R&D activities on exploring new chemistry and formula to enhance our
      product quality and features while reducing cost. Some of our competitors are
      conducting R&D on alternative battery technologies, such as fuel cells. If
      any viable substitute product emerges and gains market acceptance because it
      has
      more enhanced features, more power, more attractive pricing, or better
      reliability, the market demand for our products may be reduced, and accordingly
      our business, financial condition and results of operations would be materially
      and adversely affected.




33





***We
      face risks associated with the marketing, distribution and sale of our products
      internationally, and if we are unable to effectively manage these risks, they
      could impair our ability to expand our business abroad.***





In
      the
      years ended September 30, 2006 and 2007, we derived 32.8% and 27.6% respectively
      of our sales from outside the PRC. The marketing, international distribution
      and
      sale of our products expose us to a number of risks, including:





—
            fluctuations
                in currency exchange rates;—
            difficulty
                in engaging and retaining distributors that are knowledgeable about,
                and
                can function effectively in, overseas markets;—
            increased
                costs associated with maintaining marketing efforts in various
                countries;—
            difficulty
                and cost relating to compliance with the different commercial and
                legal
                requirements of the overseas markets in which we offer our
                products;—
            inability
                to obtain, maintain or enforce intellectual property rights;
                and—
            trade
                barriers such as export requirements, tariffs, taxes and other
                restrictions and expenses, which could increase the prices of our
                products
                and make us less competitive in some
                countries.





***We
      rely on third parties whose operations are outside our
      control.***





We
      rely
      on arrangements with third-party shippers and carriers such as independent
      shipping companies for timely delivery of our products to our customers. As
      a
      result, we may be subject to carrier disruptions and increased costs due to
      factors that are beyond our control, including labor strikes, inclement weather,
      natural disasters and rapidly increasing fuel costs. If the services of any
      of
      these third parties become unsatisfactory, we may experience delays in meeting
      our customers' product demands and we may not be able to find a suitable
      replacement on a timely basis or on commercially reasonable terms. Any failure
      to deliver products to our customers in a timely and accurate manner may damage
      our reputation and could cause us to lose customers.





We
      also
      utilize third party distributors and manufacturer's representatives to sell,
      install and service certain of our products. While we are selective in whom
      we
      choose to represent us, it is difficult for us to ensure that our distributors
      and manufacturer's representatives consistently act in accordance with the
      standards we set for them. To the extent any of our end-customers have negative
      experiences with any of our distributors or manufacturer's representatives;
      it
      could reflect poorly on us and damage our reputation, thereby negatively
      impacting our financial results.





***Defects
      in our products could result in a loss of customers and decrease in revenue,
      unexpected expenses and a loss of market share.***





We
      have
      purchased certain product liability insurance from some PRC-based insurance
      companies to provide against any claims against us based on our product quality.
      If any of our products is found to have reliability, quality or compatibility
      problems, we will be required to accept returns, provide replacement, provide
      refund, or pay damages. As our insurance policy imposes a ceiling for maximum
      coverage and high deductibles, we may not be able to obtain from our insurance
      policy an amount enough to compensate our customers for damages they suffered
      attributable to the quality of our products. Moreover, as our insurance policy
      also excludes certain types of claims from its coverage and if any of our
      customers’ claims against us falls into those exclusions, we would not receive
      any amount from our insurance policy at all. In either case, we may still be
      required to incur substantial amounts to indemnify our customers in respect
      of
      their product quality claims against us, which would materially and adversely
      affect the results of our operations and severely damage our reputation.




34





***We
      are subject to a patent infringement lawsuit in the United States involving
      our
      production of battery cells for A123Systems for use in cordless power tools.
      If
      the court holds against us, we may be required to pay monetary damages,
      terminate our production of the cells, or pay royalties to continue the
      production. This would in turn materially adversely affect our ability to
      execute our growth strategy, revenues and business prospects.***





On
      September 12, 2006, Hydro-Quebec, a Canadian company, and the Board of Regents
      of the University of Texas System brought a federal patent infringement suit
      in
      the United States District Court for the Northern District of Texas against
      us.
      The plaintiffs alleged that by manufacturing rechargeable lithium cells for
      A123Systems for use in DeWalt 36-volt cordless power tools manufactured by
      Black
& Decker, we have infringed two U.S. patents owned by and exclusively
      licensed to the plaintiffs. The plaintiffs seek injunctive relief and damages
      in
      an unspecified amount. A123Systems, Black & Decker Corporation and Black
& Decker (U.S.) Inc. have also been named as co-defendants in this lawsuit.
      The court has not ruled on this lawsuit. We understand that this lawsuit is
      a
      countersuit against A123Systems, which filed a claim against Hydro-Quebec in
      the
      United States District Court of Massachusetts in April 2006. In that suit,
      A123Systems sought declaratory relief that the two said U.S. patents are invalid
      and that A123Systems is not infringing either of these two patents.





If
      the
      court holds against us, we may be required to pay plaintiffs substantial
      monetary damages, and be prohibited from further production of cells for
      A123Systems to be used in Black & Decker power tools or be required to pay
      royalties to engage in such production. Accordingly, our revenues and business
      prospects could be materially and adversely affected. In addition, regardless
      of
      the final outcome of the lawsuit, we may incur substantial costs and our
      management resource and attention to our business would be diverted.





***We
      may be exposed to infringement or misappropriation claims by third parties,
      which, if determined adversely to us, could cause our loss of significant rights
      and inability to continue providing our existing product
      offerings.***





Our
      success also depends largely on our ability to use and develop our technology
      and know-how without infringing the intellectual property rights of third
      parties. The validity and scope of claims relating to lithium-ion battery
      technology patents involve complex scientific, legal and factual questions
      and
      analysis and, therefore, may be highly expensive and time-consuming. If there
      is
      a successful claim of infringement against us, we may be required to pay
      substantial damages to the party claiming infringement, develop non-infringing
      technologies or enter into royalty or license agreements that may not be
      available at acceptable terms, if at all. Our failure to develop non-infringing
      technologies or license the proprietary rights on a timely basis would harm
      our
      business. Protracted litigation could result in our customers, or potential
      customers, deferring or limiting their purchase or use of our products until
      resolution of such litigation. Parties making the infringement claim may also
      obtain an injunction that can prevent us from selling our products or using
      technology that contains the allegedly infringing contents. Any intellectual
      property litigation could have a material adverse effect on our business,
      results of operation and financial condition.





***Other
      future litigation could impact our financial results and
      condition.***





Our
      business, results of operations and financial condition could be affected by
      other significant future litigation or claims adverse to us. Types of potential
      litigation cases include: product liability, contract, employment-related,
      labor
      relations, personal injury or property damage, intellectual property,
      stockholder claims and claims arising from any injury or damage to persons,
      property or the environment from hazardous substances used, generated or
      disposed of in the conduct of our business (or that of a predecessor to the
      extent we are not indemnified for those liabilities).





***We
      may not be able to prevent others from unauthorized use of our intellectual
      property,*** ***or others may challenge our intellectual property
      rights*** ***,
      which could harm our business and competitive position.***





We
      rely
      on a combination of patent, trademark and trade secret laws, as well as
      confidentiality agreements to protect our intellectual property rights. As
      of
      September 30, 2007, we owned 195 registered patents in China and had 305 pending
      patent applications in China. We had 46 registered trademarks in China that
      cover various categories of goods and services. Some of our trademarks, such
      as
      BAK, are also registered trademarks in the United States, European Union, Korea,
      Russia, Taiwan and Hong Kong. We can make no assurances that all the pending
      patent applications will result in issue of patents or, if issued, that it
      will
      sufficiently protect our intellectual property rights. Nor can we make any
      assurances that any patent, trademark or other intellectual property rights
      that
      we have obtained may not be challenged by third parties. Implementation of
      PRC
      intellectual property-related laws has historically been lax, primarily because
      of ambiguities in the PRC laws and difficulties in enforcement. Accordingly,
      intellectual property rights and confidentiality protections in China may not
      be
      as effective as in the United States or other countries. Policing unauthorized
      use of proprietary technology is difficult and expensive. The steps we have
      taken may not be adequate to prevent unauthorized use of our intellectual
      property rights. Reverse engineering, unauthorized copying or other
      misappropriation of our proprietary technologies could enable third parties
      to
      benefit from our technologies without paying us any royalties. Though we are
      not
      currently involved in any litigation with respect to intellectual property,
      we
      may need to enforce our intellectual property rights through
      litigation.




35





***We
      do not hold the land use right for our BAK Industrial Park where our facilities
      are located, nor did we obtain the required construction and zoning permits
      for
      our manufacturing facilities and other related facilities situated on the land.***





We
      currently do not hold the land use right to the tract of property on which
      we
      have constructed our new manufacturing facilities and other related facilities.
      Under relevant PRC laws and regulations, because we did not have the land use
      right for the underlying land, we were not eligible to apply for the required
      construction or zoning permits for the facilities we later built on the land,
      including our manufacturing facilities, and therefore we are not deemed to
      be
      the rightful owner for all these facilities. While we have been actively
      negotiating with the Shenzhen municipal government with a view to resolving
      this
      issue, we may not be able to purchase the land use right to the underlying
      land
      from the Shenzhen municipal government on commercially reasonable terms, if
      at
      all. Even if we manage to acquire the land use right, we can make no assurances
      that we will not be subject to any fine or other penalty for our past
      non-compliance with construction and zoning requirements. If we are unsuccessful
      in acquiring the land use right, we could be forced to halt our production,
      vacate our current premises, and lose all of our facilities situated on the
      land
      without any compensation, which would adversely and materially affect our
      business, results of operations and our financial condition.





***Compliance
      with environmental regulations can be expensive, and our failure to comply
      with
      these regulations may result in adverse publicity and a material adverse effect
      on our business.***





As
      a
      manufacturer, we are subject to various PRC environmental laws and regulations
      on air emission, waste water discharge, solid waste and noise. Although we
      believe that our operations are in substantial compliance with current
      environmental laws and regulations, we may not be able to comply with these
      regulations at all times as the PRC environmental legal regime is evolving
      and
      becoming more stringent. Therefore, if the PRC government imposes more stringent
      regulations in the future, we will have to incur additional substantial costs
      and expenses in order to comply with new regulations, which may negatively
      affect our results of operations. If we fail to comply with any of the present
      or future environmental regulations in material aspects, we may suffer from
      negative publicity and may be required to pay substantial fines, suspend or
      even
      cease operations. Failure to comply with PRC environmental laws and regulations
      may materially and adversely affect our business, financial condition and
      results of operations.





To
      the
      extent we ship our products outside of the PRC, or to the extent our products
      are used in products sold outside of the PRC, they may be affected by the
      following: The transportation of non-rechargeable and rechargeable lithium
      batteries is regulated by the International Civil Aviation Organization (ICAO),
      and corresponding International Air Transport Association (IATA), Dangerous
      Goods Regulations and the International Maritime Dangerous Goods Code (IMDG),
      and in the PRC by General Administration of Civil Aviation of China and Maritime
      Safety Administration of People’s Republic of China. These regulations are based
      on the United Nations (UN) Recommendations on the Transport of Dangerous Goods
      Model Regulations and the UN Manual of Tests and Criteria. We currently ship
      our
      products pursuant to ICAO, IATA and PHMSA hazardous goods regulations. New
      regulations that pertain to all lithium battery manufacturers went into effect
      in 2003 and 2004, and additional regulations will go into effect in 2009. The
      regulations require companies to meet certain testing, packaging, labeling
      and
      shipping specifications for safety reasons. We comply with all current PRC
      and
      international regulations for the shipment of our products, and will comply
      with
      any new regulations that are imposed. We have established our own testing
      facilities to ensure that we comply with these regulations. If we were unable
      to
      comply with the new regulations, however, or if regulations are introduced
      that
      limit our ability to transport our products to customers in a cost-effective
      manner, this could have a material adverse effect on our business, financial
      condition and results of operations.





***We
      have significant short-term debt obligations, which mature in less than one
      year. Failure to extend those maturities of, or to refinance, that debt could
      result in defaults, and in certain instances, foreclosures on our assets.
      Moreover, we may be unable to obtain financing to fund ongoing operations and
      future growth.***





At
      September 30, 2007, we had $89.9 million of short-term loans and $23.8 million
      of bills payable maturing in less than one year, a substantial portion of which
      is secured by certain of our assets that amounted to $42.9 million. Our
      inventory, machinery and equipment worth $38.3 million secured the short-term
      bank loans, and our deposits worth $4.6 million secured the bills payable.
      Failure to obtain extensions of the maturity dates of, or to refinance, these
      obligations or to obtain additional equity financing to meet these debt
      obligations would result in an event of default with respect to such obligations
      and could result in the foreclosure on the collateral. The sale of such
      collateral at foreclosure would significantly disrupt our ability to produce
      products for our customers in the quantities required by customer orders or
      deliver products in a timely fashion, which could significantly lower our
      revenues and profitability. We may be able to refinance or obtain extensions
      of
      the maturities of all or some of such debt only on terms that significantly
      restrict our ability to operate, including terms that place additional
      limitations on our ability to incur other indebtedness, to pay dividends, to
      use
      our assets as collateral for other financing, to sell assets or to make
      acquisitions or enter into other transactions. Such restrictions may adversely
      affect our ability to finance our future operations or to engage in other
      business activities. If we finance the repayment of our outstanding indebtedness
      by issuing additional equity or convertible debt securities, such issuances
      could result in substantial dilution to our stockholders.




36





While
      we
      believe that our revenue growth projections and our ongoing cost controls will
      allow us to generate cash and achieve profitability in the foreseeable future,
      there is no assurance as to when or if we will be able to achieve our
      projections. Our future cash flows from operations, combined with our
      accessibility to cash and credit, may not be sufficient to allow us to finance
      ongoing operations or to make required investments for future growth. We may
      need to seek additional credit or access capital markets for additional funds.
      There is no assurance that we would be successful in this regard.





***We
      have limited insurance coverage against damages or loss we might suffer.***





The
      insurance industry in China is still in an early stage of development and
      business interruption insurance available in China offers limited coverage
      compared to that offered in many developed countries. We do not carry business
      interruption insurance and therefore any business disruption or natural disaster
      could result in substantial damages or losses to us. In addition, there are
      certain types of losses (such as losses from forces of nature) that are
      generally not insured because either they are uninsurable or insurance cannot
      be
      obtained on commercially reasonable terms. Should an uninsured loss or a loss
      in
      excess of insured limits occur, our business could be materially adversely
      affected. Further, we have not been able to insure any of our manufacturing
      facilities since we have not yet received the applicable land use rights
      certificate. If we were to suffer any losses or damages to our manufacturing
      facilities, our business, financial condition and results of operations would
      be
      materially and adversely affected.





**Risks
      Related to Doing Business in China**





***Adverse
      changes in the political and economic policies of the PRC government could
      have
      a material adverse effect on the overall economic growth of China, which could
      reduce the demand for our products and materially and adversely affect our
      competitive position.***





All
      of
      our business operations are conducted in China and a significant portion of
      our
      sales are made in China. Accordingly, our business, financial condition, results
      of operations and prospects are affected significantly by economic, political
      and legal developments in China. The Chinese economy differs from the economies
      of most developed countries in many respects, including:





—
            the
                amount of government involvement;—
            the
                level of development;—
            the
                growth rate;—
            the
                control of foreign exchange; and—
            the
                allocation of resources.





While
      the
      Chinese economy has grown significantly in the past 20 years, the growth has
      been uneven, both geographically and among various sectors of the economy.
      The
      PRC government has implemented various measures to encourage economic growth
      and
      guide the allocation of resources. Some of these measures benefit the overall
      Chinese economy, but also may have a negative effect on us. We cannot predict
      the future direction of economic reforms or the effects such measures may have
      on our business, financial condition or results of operations.




37





Any
      adverse change in economic conditions, in government policies or in laws and
      regulations in China could have a material adverse effect on overall economic
      growth, which in turn could lead to a reduction in demand for our products
      and
      consequently have a material adverse effect on our business.





***A
      substantial amount of our materials sourcing originates in China.*** ***We
      may be unable to enforce our legal rights due to policies regarding the
      regulation of foreign investments in China as well as other aspects of the
      Chinese legal system.***





Unlike
      the common law system prevalent in the United States, the PRC’s legal system is
      a civil law system based on written statutes, in which system decided legal
      cases have little value as precedents. The PRC does not have a well-developed,
      consolidated body of laws governing foreign investment enterprises. As a result,
      the administration of laws and regulations by government agencies are subject
      to
      considerable discretion and variation on the part of the PRC government,
      including its courts, and may be subject to influence by external forces
      unrelated to the legal merits of a particular matter. China’s regulations and
      policies with respect to foreign investments are evolving. Definitive
      regulations and policies with respect to such matters as the permissible
      percentage of foreign investment and permissible rates of equity returns have
      not yet been published. As a result, we may not be aware of any violations
      of
      these policies and rules until some time after the violation. Statements
      regarding these evolving policies have been conflicting and any such policies,
      as administered, are likely to be subject to broad interpretation and discretion
      and to be modified, perhaps on a case-by-case basis. The uncertainties regarding
      such regulations and policies present risks that may affect our ability to
      achieve our business objectives. If we are unable to enforce any legal rights
      we
      may have under our contracts or otherwise, our ability to compete with other
      companies in our industry could be materially and negatively affected. In
      addition, any litigation in China may be protracted and result in substantial
      cost and diversion of resources and management attention. The relative
      inexperience of China's judiciary in many cases creates additional uncertainty
      as to the outcome of any litigation. It may also be difficult to obtain
      enforcement of a judgment by a court of another jurisdiction in
      China.





***We
      currently enjoy a reduced tax rate and other government incentives, and the
      loss
      of or reduction in these benefits may materially and adversely affect our
      business and results of operations.*** ****





According
      to relevant PRC laws and regulations, an enterprise located in Shenzhen,
      including the district where we are currently located, is subject to a 15%
      enterprise income tax. According to PRC laws and regulations on foreign invested
      enterprises, a foreign invested manufacturing enterprise is entitled to,
      starting from its first profitable year, a two-year exemption from its
      enterprise income tax followed by a three-year 50% reduction in its enterprise
      income tax rate. Our PRC subsidiaries, Shenzhen BAK and BAK Electronics, are
      each entitled to a two-year exemption from enterprise income tax from its first
      profitable year, and a reduced enterprise income tax rate of 7.5% for the
      following three years. As such, for the first two years ended December 31,
      2003,
      Shenzhen BAK was exempted from any enterprise income tax. Between January 1,
      2004 and December 31, 2006, Shenzhen BAK was subject to the enterprise income
      tax rate of 7.5%.  BAK Electronics, established in August 2005, is eligible
      for the same preferential tax treatment that is applicable to Shenzhen BAK,
      and
      is currently in its tax holiday and fully exempt from any enterprise income
      tax.
      BAK Tianjin is currently exempt from any enterprise income tax due to cumulative
      tax losses.





In
      addition, due to the additional capital invested in Shenzhen BAK in both 2005
      and 2006, Shenzhen BAK was granted a preferential income tax rate of 3.309%,
      3.82% and 6.12% in calendar years 2005, 2006 and 2007, respectively.





However,
      the PRC government authorities could reduce or eliminate these incentives at
      any
      time in the future. There have been preliminary high-level discussions within
      the PRC on leveling the playing field between foreign invested enterprises
      and
      PRC domestic enterprises by phasing out preferential tax rates applicable to
      foreign invested enterprises. We cannot predict whether and when we may lose,
      in
      whole or in part, the preferential tax treatment and other incentives we have
      now. If we lose part or all of these preferential treatments, we would be
      subject to a normal enterprise tax rate. Any loss of or reduction in the
      preferential tax treatments we have received could materially adversely affect
      our financial condition and results of operations.




38





***We
      rely on dividends and other distributions on equity paid by our subsidiaries
      for
      our cash needs.***





We
      are a
      holding company, and we conduct all of our operations through our three
      subsidiaries in PRC: Shenzhen BAK, BAK Electronics and BAK Tianjin, each a
      limited liability company established in China. We rely on dividends and other
      distributions on equity paid by our PRC subsidiaries for our cash needs,
      including the funds necessary to pay dividends and other cash distributions
      to
      our stockholders, to service any debt we may incur and to pay our operating
      expenses. Current regulations in the PRC permit payment of dividends only out
      of
      accumulated profits as determined in accordance with PRC accounting standards
      and regulations. According to the articles of association of our PRC
      subsidiaries, each of our PRC subsidiaries is required to set aside at least
      10%
      of its after-tax profit based on the PRC accounting standards and regulations
      each year to its enterprise development reserve, until the balance in the
      reserve reaches 50% of the registered capital of the company. Funds in the
      reserve are not distributable to us in forms of cash dividends, loans or
      advances. In addition, if our PRC subsidiaries incur debt on their own behalf
      in
      the future, the instruments governing the debt may restrict their ability to
      pay
      dividends or make other distributions to us, which in turn will adversely affect
      our available cash.





***Governmental
      control of currency conversion may affect our ability to satisfy our non-RMB
      obligations.***





The
      PRC
      government imposes controls on the convertibility of the RMB into foreign
      currencies and, in certain cases, the remittance of currency out of China.
      We
      receive substantially all of our revenues in RMB. Under our current corporate
      structure, our income is primarily derived from dividend payments from our
      PRC
      subsidiaries. Shortages in the availability of foreign currency may restrict
      the
      ability of our PRC subsidiaries and our affiliated entity to remit sufficient
      foreign currency to pay dividends or other payments to us, or otherwise satisfy
      their foreign currency denominated obligations. Under existing PRC foreign
      exchange regulations, payments of current account items, including profit
      distributions, interest payments and expenditures from trade-related
      transactions, can be made in foreign currencies without prior approval from
      the
      State Administration of Foreign Exchange, or SAFE, by complying with certain
      procedural requirements. However, approval from appropriate government
      authorities is required where RMB is to be converted into foreign currency
      and
      remitted out of China to pay capital expenses such as the repayment of loans
      denominated in foreign currencies. The PRC government may also at its discretion
      restrict access in the future to foreign currencies for current account
      transactions. If the foreign exchange control system prevents us from obtaining
      sufficient foreign currency to satisfy our currency demands, we may not be
      able
      to pay dividends in foreign currencies to our stockholders.





***Fluctuation
      in the value of the RMB may result in foreign currency translation losses or
      in
      increased costs to us.***





The
      value
      of the RMB against the U.S. dollar and other currencies may fluctuate and is
      affected by, among other things, changes in political and economic conditions.
      On July 21, 2005, the PRC government changed its decade-old policy of pegging
      the value of the RMB to the U.S. dollar. Under the new policy, the RMB is
      permitted to fluctuate within a narrow and managed band against a basket of
      certain foreign currencies. This change in policy has resulted in an
      approximately 9.3% appreciation of the RMB against the U.S. dollar between
      July
      21, 2005 and September 30, 2007. While the international reaction to the RMB
      revaluation has generally been positive, there remains significant international
      pressure on the PRC government to adopt an even more flexible currency policy,
      which could result in a further and more significant appreciation of the RMB
      against the U.S. dollar. Our revenues and costs are mostly denominated in the
      RMB, and a significant portion of our financial assets are also denominated
      in
      RMB. We rely entirely on dividends and other fees paid to us by our subsidiaries
      in China. Any significant revaluation of the RMB may materially and adversely
      affect our cash flows, revenues, earnings and financial position, and the value
      of, and any dividends payable on common stock in U.S. dollars. For example,
      an
      appreciation of the RMB against the U.S. dollar would make any new
      RMB-denominated investments or expenditures more costly to us, to the extent
      that we need to convert U.S. dollars into the RMB for such purposes. An
      appreciation of the RMB against the U.S. dollar would also result in foreign
      currency translation losses for financial reporting purposes when we translate
      our U.S. dollar denominated financial assets into the RMB, as the RMB is our
      reporting currency.




39





***Failure
      to comply with PRC regulations relating to the establishment of offshore special
      purpose companies by PRC residents may subject our PRC resident stockholders
      to
      personal liability, limit our ability to acquire PRC companies or to inject
      capital into our PRC subsidiaries, limit our PRC subsidiaries’ ability to
      distribute profits to us or otherwise materially adversely affect us.***





In
      October 2005, SAFE issued the Notice on Relevant Issues in the Foreign Exchange
      Control over Financing and Return Investment Through Special Purpose Companies
      by Residents Inside China, generally referred to as Circular 75, which required
      PRC residents to register with the competent local SAFE branch before
      establishing or acquiring control over an offshore special purpose vehicle,
      or
      SPV, for the purpose of engaging in an equity financing outside of China on
      the
      strength of domestic PRC assets originally held by those residents. Internal
      implementing guidelines issued by SAFE, which became public in June 2007 (known
      as Notice 106), expanded the reach of Circular 75 by purporting to cover the
      establishment or acquisition of control by PRC residents of offshore entities
      which merely acquire “control” over domestic companies or assets, even in the
      absence of legal ownership; adding requirements relating to the source of the
      PRC resident’s funds used to establish or acquire the offshore entity; covering
      the use of existing offshore entities for offshore financings; purporting to
      cover situations in which an offshore SPV establishes a new subsidiary in China
      or acquires an unrelated company or unrelated assets in China; and making the
      domestic affiliate of the SPV responsible for the accuracy of certain documents
      which must be filed in connection with any such registration, notably, the
      business plan which describes the overseas financing and the use of proceeds.
      Amendments to registrations made under Circular 75 are required in connection
      with any increase or decrease of capital, transfer of shares, mergers and
      acquisitions, equity investment or creation of any security interest in any
      assets located in China to guarantee offshore obligations, and Notice 106 makes
      the offshore SPV jointly responsible for these filings. In the case of an SPV
      which was established, and which acquired a related domestic company or assets,
      before the implementation date of Circular 75, a retroactive SAFE registration
      was required to have been completed before March 31, 2006; this date was
      subsequently extended indefinitely by Notice 106, which also required that
      the
      registrant establish that all foreign exchange transactions undertaken by the
      SPV and its affiliates were in compliance with applicable laws and regulations.
      Failure to comply with the requirements of Circular 75, as applied by SAFE
      in
      accordance with Notice 106, may result in fines and other penalties under PRC
      laws for evasion of applicable foreign exchange restrictions. Any such failure
      also could result in the SPV’s affiliates being impeded or prevented from
      distributing their profits and the proceeds from any reduction in capital,
      share
      transfer or liquidation to the SPV, or from engaging in other transfers of
      funds
      into or out of China.





We
      believe our stockholders who are PRC residents as defined in Circular 75 have
      registered with the relevant branch of SAFE, as currently required, in
      connection with their equity interests in us and our acquisitions of equity
      interests in our PRC subsidiaries. However, we cannot provide any assurances
      that their existing registrations have fully complied with, and that they have
      made all necessary amendments to their registration to fully comply with, all
      applicable registrations or approvals required by Circular 75. Moreover, because
      of uncertainty over how Circular 75 will be interpreted and implemented, and
      how
      or whether SAFE will apply it to us, we cannot predict how it will affect our
      business operations or future strategies. For example, our present and
      prospective PRC subsidiaries’ ability to conduct foreign exchange activities,
      such as the remittance of dividends and foreign currency-denominated borrowings,
      may be subject to compliance with Circular 75 by our PRC resident beneficial
      holders. In addition, such PRC residents may not always be able to complete
      the
      necessary registration procedures required by Circular 75. We also have little
      control over either our present or prospective direct or indirect stockholders
      or the outcome of such registration procedures. A failure by our PRC resident
      beneficial holders or future PRC resident stockholders to comply with Circular
      75, if SAFE requires it, could subject these PRC resident beneficial holders
      to
      fines or legal sanctions, restrict our overseas or cross-border investment
      activities, limit our subsidiaries’ ability to make distributions or pay
      dividends or affect our ownership structure, which could adversely affect our
      business and prospects.





***Investors
      may experience difficulties in effecting service of legal process, enforcing
      foreign judgments or bringing original actions in China based upon U.S. laws,
      including the federal securities laws or other foreign laws against us or our
      management.***





All
      of
      our current operations are conducted in China. Moreover, most of our current
      directors and officers are nationals or residents of China. All or a substantial
      portion of the assets of these persons are located outside the United States
      and
      in the PRC. As a result, it may not be possible to effect service of process
      within the United States or elsewhere outside China upon these persons. In
      addition, uncertainty exists as to whether the courts of China would recognize
      or enforce judgments of U.S. courts obtained against us or such officers and/or
      directors predicated upon the civil liability provisions of the securities
      laws
      of the United States or any state thereof, or be competent to hear original
      actions brought in China against us or such persons predicated upon the
      securities laws of the United States or any state thereof.




40





***An
      outbreak of a pandemic avian influenza, SARS or other contagious disease may
      have an adverse effect on the economies of certain Asian countries and may
      adversely affect our results of operations.***





During
      the past four years, large parts of Asia experienced unprecedented outbreaks
      of
      avian influenza caused by the H5N1 virus which, according to a report of the
      World Health Organization, or WHO, in 2004, “moved the world closer than any
      time since 1968 to an influenza pandemic with high morbidity, excess mortality
      and social and economic disruption.” Currently, no fully effective avian flu
      vaccines have been developed and there is evidence that the H5N1 virus is
      evolving and an effective vaccine may not be discovered in time to protect
      against the potential avian flu pandemic. In the first half of 2003, certain
      countries in Asia experienced an outbreak of severe acute respiratory syndrome,
      or SARS, a highly contagious form of atypical pneumonia, which seriously
      interrupted the economic activities and the demand for goods plummeted in the
      affected regions. An outbreak of avian flu, SARS or other contagious disease
      or
      the measures taken by the governments of affected countries against such
      potential outbreaks, may seriously interrupt our production operations or those
      of our suppliers and customers, which may have a material adverse effect on
      our
      results of operations. The perception that an outbreak of avian flu, SARS or
      other contagious disease may occur again may also have an adverse effect on
      the
      economic conditions of countries in Asia.





***Our
      production facilities are subject to risks of power shortages.***





Many
      cities and provinces in the PRC have suffered serious power shortages since
      the
      second quarter of 2004. Many of the regional grids do not have sufficient power
      generating capacity to fully satisfy the increased demand for electricity driven
      by continual economic growth and persistent hot weather. Local governments
      have
      recently required local factories to temporarily shut down their operations
      or
      reduce their daily operational hours in order to reduce local power consumption
      levels. To date, our operations have not been affected by those administrative
      measures. However, there is a risk that our operations may be affected by those
      administrative measures in the future, thereby causing material production
      disruption and delay in delivery schedule. In such event, our business, results
      of operation and financial conditions could be materially adversely affected.
      We
      do not have any back-up power generation system. Although we have not
      experienced any power outages in the past, we may be adversely affected by
      any
      power outages in the future.





***Implementation
      of the PRC’s new corporate income tax law may adversely affect
      us.***





On
      March
      16, 2007, the National People’s Congress of the PRC determined to adopt a new
      corporate income tax law in its fifth plenary session. The new corporate income
      tax law unifies the application scope, tax rate, tax deduction and preferential
      policy for both domestic and foreign-invested enterprises. The new corporate
      income tax law will be effective on January 1, 2008. According to the new
      corporate income tax law, the applicable income tax rate for our operating
      subsidiaries is subject to change. As implementation details have not yet been
      announced, we cannot be sure of the potential impact of this new corporate
      income tax law on our financial position and operating results.





***Changes
      in PRC property rights law may affect our interests in our
      properties.***





The
      new
      PRC Law on Property Rights was approved by the Fifth Session of the Tenth
      National People's Congress on March 16, 2007, and went into effect on October
      1,
      2007. The Property Rights Law is the first piece of Mainland PRC legislation
      that comprehensively regulates the different types of rights which can be
      created or acquired over tangible property. We are currently evaluating the
      impact of the Property Rights Law.





***The
      Chinese government exerts substantial influence over the manner in which we
      must
      conduct our business activities.***




Only
      recently has China permitted provincial and local economic autonomy and private
      economic activities. The Chinese government has exercised and continues to
      exercise substantial control over virtually every sector of the Chinese economy
      through regulation and state ownership. Our ability to operate in China may
      be
      harmed by changes in its laws and regulations, including those relating to
      taxation, import and export tariffs, environmental regulations, land use rights,
      property and other matters. We believe that our operations in China are in
      material compliance with all applicable legal and regulatory requirements.
      However, the central or local governments of the jurisdictions in which we
      operate may impose new, stricter regulations or interpretations of existing
      regulations that would require additional expenditures and efforts on our part
      to ensure our compliance with such regulations or interpretations.




41





Accordingly,
      government actions in the future, including any decision not to continue to
      support recent economic reforms and to return to a more centrally planned
      economy or regional or local variations in the implementation of economic
      policies, could have a significant effect on economic conditions in China or
      particular regions thereof, and could require us to divest ourselves of any
      interest we then hold in Chinese properties or joint ventures.





***Future
      inflation in China may inhibit our ability to conduct business profitably in
      China.***




In
      recent
      years, the Chinese economy has experienced periods of rapid expansion and highly
      fluctuating rates of inflation. During the past ten years, the rate of inflation
      in China has been as high as 20.7% and as low as -2.2%. These factors have
      led
      to the adoption by the Chinese government, from time to time, of various
      corrective measures designed to restrict the availability of credit or regulate
      growth and contain inflation. High inflation may in the future cause the Chinese
      government to impose controls on credit and/or prices, or to take other action,
      which could inhibit economic activity in China, and thereby harm the market
      for
      our products.





***We
      may be unable to complete a business combination transaction efficiently or
      on
      favorable terms due to complicated merger and acquisition regulations
      implemented on September 8, 2006.***




On
      September 8, 2006, the PRC Ministry of Commerce, or “MOFCOM,” together with
      several other government agencies, promulgated a comprehensive set of
      regulations governing the approval process by which a Chinese company may
      participate in an acquisition of its assets or its equity interests and by
      which
      a Chinese company may obtain public trading of its securities on a securities
      exchange outside of the PRC. Depending on the structure of the transaction,
      these regulations will require the Chinese parties to make a series of
      applications and supplemental applications to the governmental agencies. In
      some
      instances, the application process may require the presentation of economic
      data
      concerning a transaction, including appraisals of the target business and
      evaluations of the acquirer, which are designed to allow the government to
      assess the transaction. Governmental approvals will have expiration dates by
      which a transaction must be completed and reported to the governmental agencies.
      Compliance with the new regulations is likely to be more time-consuming and
      expensive than in the past and the government now can exert more control over
      the combination of two businesses. Accordingly, due to these new regulations,
      our ability to engage in business combination transactions has become
      significantly more complicated, time-consuming and expensive and we may not
      be
      able to negotiate a transaction that is acceptable to our stockholders or
      sufficiently protect their interests in a transaction.




The
      new
      regulations allow PRC government agencies to assess the economic terms of a
      business combination transaction. Parties to a business combination transaction
      may have to submit to MOFCOM and the other government agencies an appraisal
      report, an evaluation report and the acquisition agreement, all of which form
      part of the application for approval, depending on the structure of the
      transaction. The regulations also prohibit a transaction at an acquisition
      price
      obviously lower than the appraised value of the Chinese business or assets
      and
      in certain transaction structures, require that consideration must be paid
      within defined periods, generally not in excess of a year. The regulations
      also
      limit our ability to negotiate various terms of the acquisition, including
      aspects of the initial consideration, contingent consideration, holdback
      provisions, indemnification provisions and provisions relating to the assumption
      and allocation of assets and liabilities. Transaction structures involving
      trusts, nominees and similar entities are prohibited. Therefore, such
      regulations may impede our ability to negotiate and complete a business
      combination transaction on financial terms, which satisfy our investors and
      protect our stockholders’ economic interests and we may not be able to negotiate
      a business combination transaction on terms favorable to our
      stockholders.





**Risks
      Related to Our Common Stock**





***The
      market price for our common stock may be volatile.***





The
      market price for our common stock may be highly volatile and could be subject
      to
      wide fluctuations in response to a variety of factors, some of which may be
      beyond our control. Factors affecting the trading price of our common stock
      include:





—
            the
                lack of depth and liquidity of the market for our common
                stock;




42




—
            actual
                or anticipated fluctuations in our quarterly operating
                results;—
            announcements
                of new products or services by us or our competitors;—
            changes
                in financial estimates by securities analysts;—
            market
                conditions in our industry;—
            changes
                in operations or market valuations of other companies in our
                industry;—
            our
                sales of common stock;—
            investor
                perceptions of us and our business;—
            changes
                in the estimates of the future size and growth rate of our
                markets;—
            market
                conditions in industries of our customers;—
            announcements
                by our competitors of significant acquisitions;—
            strategic
                partnerships, joint ventures or capital commitments;—
            recruitment
                or departures of key personnel;—
            potential
                litigation;—
            any
                material weaknesses in our internal control over financial reporting;
                and—
            the
                overall economy, geopolitical events, terrorist activities, or threats
                of
                terrorism.





In
      addition, the stock market in general has experienced significant price and
      volume fluctuations that have often been unrelated or disproportionate to the
      performance of listed companies. These broad market and industry factors may
      seriously harm the market price of our common stock, regardless of our operating
      performance. For example, the trading price of our common stock could decline
      in
      reaction to events that negatively affect other companies in our industry even
      if these events do not directly affect us at all.





In
      the
      past, many companies that have experienced volatility in the market price of
      their stock have been subject to securities class action litigation. We may
      be a
      target of this type of litigation in the future. Securities litigation against
      us could result in substantial costs and divert our management’s attention from
      other business concerns, which could seriously harm our business.





***Our
      directors and executive officers, collectively, own approximately 39.7% of
      our
      outstanding common stock and may be able to control our management and affairs.***





As
      of
      September 30, 2007, Mr. Xiangqian Li, our president and chief executive officer
      and chairman of our board, and our other executive officers and directors
      beneficially owned an aggregate of 39.7% of our outstanding common stock. As
      a
      result, our directors and executive officers, acting together, may be able
      to
      control our management and affairs, including the election of directors and
      approval of significant corporate transactions, such as mergers, consolidation,
      and sale of all or substantially all of our assets. Consequently, this
      concentration of ownership may have the effect of delaying or preventing a
      change of control, including a merger, consolidation or other business
      combination involving us, even if such a change of control would benefit our
      stockholders.





***Provisions
      in our articles of incorporation and bylaws could entrench our board of
      directors and prevent a change in control.***





Our
      articles of incorporation provide that at the request of at least 10% of our
      shares entitled to vote, we need to call a special meeting of stockholders.
      In
      addition, our bylaws (i) allow vacancies in the board of directors to be filled
      by a majority of the remaining directors, though less than a quorum, (ii)
      provide that no contract or transaction between us and one or more of our
      directors or officers is void if certain criteria are met, and (iii) provide
      that our bylaws may be amended or appealed at any meeting of the board of
      directors at which a quorum is present, by the affirmative vote of a majority
      of
      the directors present at such meeting. Collectively, these provisions may have
      the effect of entrenching our existing board members, discouraging or preventing
      a transaction including a change in control transaction where such transaction
      would be beneficial to our stockholders.




43





***We
      are obligated to indemnify our officers and directors for certain losses they
      suffer.***





To
      the
      fullest extent permitted by Chapter 78 of the Nevada Revised Statues, we may,
      if
      and to the extent authorized by our board of directors, indemnify our officers
      and any other persons who we have power to indemnify against liability,
      reasonable expense or other matter whatsoever. If we are required to indemnify
      any persons under this policy, we may have to pay indemnity in a substantial
      amount which we may be unable to recover at all.




**Item
      1B. Unresolved Staff Comments** ***.***





None.




**Item
      2. Properties**





We
      have
      completed the construction of 188,918 square meters of new facilities comprised
      of manufacturing facilities, warehousing and packaging facilities, dormitory
      space and administrative offices at the BAK Industrial Park. Of that space,
      approximately 111,000 square meters are new manufacturing facilities. We have
      completed construction and put into use an additional administrative area,
      production facility, four manufacturing facilities, a warehouse and packaging
      facility, three dormitories and two dining halls. At present, we have no
      significant payment obligations related to these facilities.





We
      believe that our existing facilities have met our current business needs and
      will meet the needs of our expanded operations.





The
      following table sets forth the breakdown of our facilities as of September
      30,
      2007 based on use and product type:


**BAK
                  Industrial Park**
              
              **Usage**
              
              **Area
                  (m****2)****)****Completed
                  facilities**
              
              ManufacturingPrismatic
                  (steel-case)
              
              27,776Prismatic
                  (aluminum-case)
              
              15,919Cylindrical
              
              15,400Lithium
                  polymer
              
              6,944High-power
                  lithium-phosphate
              
              6,944R&D,
                  and Administrative
              
              18,593Warehousing
              
              19,087Workers
                  Dormitory
              
              46,124Other
                  facilities
              
              32,131**Sub-total**
              
              188,918**Facilities
                  under construction**
              
              ManufacturingPrismatic
                  (aluminum-case)
              
              29,260**Sub-total**
              
              29,260**Total**
              
              218,178




We
      currently do not hold the land use right to the tract of property on which
      we
      have constructed our manufacturing facilities and other related facilities.
      According to the relevant PRC laws and regulations, a land use right
      certificate, along with government approvals for land planning, project
      planning, and construction must be obtained before the construction of any
      building is commenced. An ownership certificate will be granted by the
      government upon application under the condition that the aforementioned
      certificate and government approvals are obtained. On June 20, 2007, we obtained
      the approvals for project planning and construction from the government of
      Shenzhen.





44





We
      are
      constructing and have completed a substantial part of the construction of our
      facilities with the approval of the local government of Kuichong Township of
      Longgang District of Shenzhen, which we understand does not have the authority
      to grant us the land use rights certificate. Under our agreement with the
      Kuichong Township government, we have to pay for a 50-year land use rights
      certificate at an agreed unit price, which in the aggregate amounted to $4.0
      million as of September 30, 2004 and $3.5 million as of September 30, 2007,
      following an adjustment of the site area after a land survey and foreign
      exchange adjustments. Out of the $3.5 million, $3.0 million has been paid to
      the
      Kuichong Township government. The Shenzhen municipal government has approved
      the
      grant of a land use rights certificate, which we are currently in the process
      of
      obtaining. In the meantime, we have recognized a net payable purchase price
      of
      $529,000 for the land use rights on the assumption that it will be on the same
      terms as those agreed with the Kuichong Township government.





We
      believe that once we are granted the land use right certificate and related
      approvals are obtained, there should be no legal barriers for us to obtain
      an
      ownership certificate for our premises at the BAK Industrial Park. However,
      if
      we fail to obtain the land use right certificate relating to BAK Industrial
      Park
      and/or the government approvals required for the construction of BAK Industrial
      Park, there is the risk that the buildings constructed need to be vacated as
      illegitimate constructions. However, we believe that it is unlikely this risk
      will materialize.





As
      of
      September 30, 2007, we had paid the lease prepayment amount of $717,000 for
      acquisition of land use rights in Shenzhen for a new Research and Development
      Test Centre and have obtained the land use rights certificate.





As
      of
      September 30, 2007, we had fully paid the lease prepayment amount of $14.1
      million for acquisition of land use rights in Tianjin and the application for
      the land use rights certificate was in process.





We
      do not
      currently insure our manufacturing facilities since we have not yet received
      our
      land use right certificate. We intend to procure such insurance once we have
      received the certificate.




**Item
      3. Legal Proceedings.**





Except
      as
      described below, we are not a party to any legal proceedings, nor are we aware
      of any threatened or contemplated proceedings which are expected to result
      in a
      material adverse effect on our financial position, or results of
      operation.




*Patent
      Litigation* .
      On
      September 12, 2006, Hydro-Quebec, a Canadian company, and the Board of Regents
      of the University of Texas System brought a federal patent infringement suit
      in
      the United States District Court for the Northern District of Texas against
      us.
      We had an agreement with A123Systems, which, as amended on August 18, 2005,
      terminated in accordance with its terms on August 30, 2007, under which we
      agreed to manufacture products for A123Systems according to the specifications
      furnished by, and using the finished electrodes and other materials consigned
      by, A123Systems to us. The plaintiffs alleged that by manufacturing rechargeable
      lithium cells for A123Systems, for use in DeWalt 36-volt cordless power tools
      manufactured by Black & Decker Corporation, we had infringed two U.S.
      patents owned by and exclusively licensed to the plaintiffs. The plaintiffs
      seek
      injunctive relief and damages in an unspecified amount. If the court issues
      an
      adverse decision, we may be required to pay the plaintiffs substantial monetary
      damages, and we may be prohibited from future production of rechargeable lithium
      cells manufactured for A123Systems or be required to pay royalties to engage
      in
      any such production. The court has not yet issued a decision on this matter
      and
      we are unable to quantify the extent of any possible award of damages that
      might
      become payable by us.





*Liquidated
      Damages* .
      We are
      liable for liquidated damages to certain shareholders whose shares were included
      in a resale registration statement on Form SB-2 that we filed pursuant to a
      registration rights agreement that we entered into with such shareholders in
      September 2005. Under the registration rights agreement, among other things,
      (a)
      if a registration statement filed pursuant thereto ceases to be effective after
      its effective date to cover the resale of the shares for more than 30 trading
      days or (b) if for any reason we are required to file an additional registration
      statement covering such shares, and we do not file such additional registration
      statement within 45 days after the time we first know, or reasonably should
      have
      known, that such registration statement would be required to be filed, then,
      while the relevant shares could not be put back to us, we would be liable to
      pay
      partial liquidated damages to those selling shareholders equal to 1.0% of the
      aggregate investment amount paid by those selling shareholders for the shares,
      and on each monthly anniversary thereafter, unless the event is cured by such
      date, an additional 1.5% on (except with respect to the first such event) a
      daily pro-rata basis.




45





On
      August
      15, 2006, the SEC declared effective a post-effective amendment we filed on
      August 4, 2006 to terminate the effectiveness of the resale registration
      statement on Form SB-2 that included the resale of the shares held by those
      selling shareholders. Accordingly, as we were no longer eligible to file on
      Form
      SB-2, we were required to file an additional registration statement within
      45
      days after the termination of the effectiveness of the Form SB-2. On October
      11,
      2006, we filed a registration statement on Form S-1 that covers resale of the
      shares held by those shareholders, which was declared to be effective on October
      19, 2006. Following the termination of the Form SB-2, our failure to file an
      additional registration statement within the period provided under the
      registration rights agreement triggered, for the first time, an obligation
      to
      pay liquidated damages to the selling shareholders of 1% of the aggregate
      investment amount paid by them for the shares, or $241,232, based on the formula
      specified in the registration rights agreement. Because the Form S-1 was filed
      by the one-month anniversary of the applicable filing date, the event was cured
      and no additional liquidated damages were incurred. We previously reported
      in
      our Annual Report on Form 10-K for the fiscal year ended September 30, 2006,
      and
      in our Quarterly Report on Form 10-Q for the quarter ended December 31, 2006,
      that liquidated damages totaling $487,946 were due from us in respect of such
      event based on an incorrect interpretation of the liquidated damages due under
      the registration rights agreement. Among other things, the amount was calculated
      on a pro rata daily basis although the event, the first under the registration
      rights agreement, was cured by its one-month anniversary date.




In
      addition, on December 8, 2006, we filed our 2006 Form 10-K. After the filing
      of
      the 2006 Form 10-K, our previously filed registration statement on Form S-1
      was
      no longer available for resale by the selling shareholders whose shares were
      included in such Form S-1. A post-effective amendment to the Form S-1 covering
      resale by the selling shareholders was declared effective by the SEC on March
      23, 2007. Our failure to have the post-effective amendment declared effective
      within the 30-trading-day time period provided under the registration rights
      agreement (i.e., by January 25, 2007), triggered, for the second time, an
      obligation to pay liquidated damages to the selling shareholders. We estimate
      that we are liable to those selling shareholders for liquidated damages related
      to this second event in the amount of approximately $810,000, such that the
      total current estimated liquidated damages relating to both events amounts
      to
      approximately $1 million.





As
      reported in our 2006 Form 10-K and our Form 10-Q for the quarter ended December
      31, 2006, we previously recorded charges in our statement of income and
      comprehensive income of $290,575 for the year ended September 30, 2006, and
      $197,371 for the quarter ended December 31, 2006, based on the original
      incorrect interpretation of the calculation of liquidated damages. Accordingly,
      the amounts recorded in excess of $241,232 (i.e., $246,714) have been applied
      to
      offset the charge related to the liquidated damages incurred related to the
      second event in the second fiscal quarter of 2007, and we have recorded an
      additional charge in the second fiscal quarter of 2007 relating to the
      additional liquidated damages incurred of $563,000. We have assessed the impact
      of the foregoing on the financial statements included in our 2006 Form 10-K
      and
      our Form 10-Q for the quarter ended December 31, 2006, and have determined
      that
      the impact is not material. Accordingly, we do not intend to restate the
      financial information included in the 2006 Form 10-K or the Form 10-Q for the
      quarter ended December 31, 2006; however, future filings will reflect the
      foregoing information. No liquidated damages have been paid as of the filing
      date of this Report.




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





On
      September 21, 2007, our 2007 annual meeting of stockholders was held. Proxies
      for the meeting were solicited pursuant to Regulation 14A under the Securities
      Act of 1933. At the meeting, the matters brought for stockholder vote were:
      (1)
      To elect five persons to the Board of Directors of the Company, each to serve
      until a successor is elected and qualified by the shareholders of the Company
      or
      until such person shall resign, be removed or otherwise leave office and (2)
      To
      ratify the selection by the Audit Committee of PKF as the Company’s independent
      registered public accounting firm for the fiscal year ending September 30,
      2007.
      No other business was brought before the meeting. Stockholder votes that were
      cast for, against or withheld, as well as the number of abstentions and broker
      non-votes as to each director nominee were as follows:





**Name
                of Director**
            
            **For**
            
            **Against**
            
            **Withheld**
            
            **Abstention**
            
            **Broker
                Non-Votes**Xiangqian
                Li
            
            27,607,811
            
            6,229
            
            -
            
            1,017,563
            
            -Huanyu
                Mao
            
            26,011,573
            
            1,602,467
            
            -
            
            1,017,563
            
            -Richard
                B. Goodner
            
            26,017,962
            
            1,596,078
            
            -
            
            1,017,563
            
            -Charlene
                Spoede Budd
            
            27,610,830
            
            3,210
            
            -
            
            1,017,563
            
            -Chunzhi
                Zhang
            
            27,611,330
            
            2,710
            
            -
            
            1,017,563
            
            -





28,212,799
      votes for, 133,039 votes against, and 285,765 abstained were cast to ratify
      the
      selection by the Audit Committee of PKF as the Company’s independent registered
      public accounting firm for the fiscal year ending September 30, 2007.





46





**PART
      II**





**Item
      5.  Market for Registrant’s Common Equity, Related Stockholder Matters and
      Issuer Purchases of Equity Securities.**





**Market
      Price Information for Our Common Stock**





Since
      May
      31, 2006, our common stock has been listed on the Nasdaq Global Market under
      the
      symbol “CBAK.” Prior to that date, our common stock had been quoted on the
      Over-the-Counter Bulletin Board under the symbol “CBBT.” On December 10, 2007,
      the last reported sales price of our common stock on the Nasdaq Global Market
      was $4.49 per share.





The
      following table sets forth, for the quarters indicated, the range of closing
      high and low bid prices of our common stock as reported by the Over-the-Counter
      Bulletin Board and the Nasdaq Global Market, as adjusted for all previously
      effected stock splits. These prices do not include retail markup, markdown
      or
      commission and may not represent actual transactions.





In
      reviewing the foregoing table, it should be noted that the exchange of stock
      by
      which we acquired our current operations occurred on January 20, 2005.




**Common
                Stock****Quarter
                Ended**
            
            **High**
            
            **Low****Fiscal
                2006**December 31,
                2005
            
            $
            11.10
            
            $
            5.60March 31,
                2006
            
            $
            12.50
            
            $
            7.80June
                30, 2006
            
            $
            10.75
            
            $
            8.18September 30,
                2006
            
            $
            8.80
            
            $
            4.24**Fiscal
                2007**
            
            $
            8.8
            
            $
            4.24December 31,
                2006
            
            $
            7.99
            
            $
            5.81March 31,
                2007
            
            $
            6.49
            
            $
            3.25June 30,
                2007
            
            $
            4.42
            
            $
            3.05September 30,
                2007
            
            $
            8.82
            
            $
            3.36





**Holders
      of Our Common Stock**





As
      of
      December 10, 2007, there were 52,954,603 shares of our common stock
      outstanding.  As of December 10, 2007, we had approximately 120 record
      holders of our capital stock.





**Dividend
      Policy**





We
      have
      never declared or paid any dividends, nor do we have any present plan to pay
      any
      cash dividends on our ordinary shares in the foreseeable future. We currently
      intend to retain most, if not all, of our available funds and any future
      earnings to operate and expand our business.




47





As
      we are
      a holding company, we rely on dividends paid to us by our subsidiaries in the
      PRC through our Hong Kong subsidiary, BAK International. In accordance with
      its
      articles of association, each of our subsidiaries in the PRC is required to
      allocate to its enterprise development reserve at least 10% of its respective
      after-tax profits determined in accordance with the PRC accounting standards
      and
      regulations. Each of our subsidiaries in the PRC may stop allocations to its
      general reserve if such reserve has reached 50% of its registered capital.
      Allocations to the reserve can only be used for making up losses and other
      specified purposes and may not be paid to us in forms of loans, advances, or
      cash dividends. Dividends paid by our PRC subsidiaries to BAK International,
      our
      Hong Kong subsidiary, will not be subject to Hong Kong capital gains or other
      income tax under current Hong Kong laws and regulations because they will not
      be
      deemed to be assessable income derived from or arising in Hong
      Kong.





Our
      board
      of directors has discretion on whether to pay dividends unless the distribution
      would render us unable to repay our debts as they become due, as provided in
      Chapter 78.288 of the Nevada Revised Statutes. Even if our board of directors
      decides to pay dividends, the form, frequency and amount will depend upon our
      future operations and earnings, capital requirements and surplus, general
      financial condition, contractual restrictions and other factors that the board
      of directors may deem relevant.





**Securities
      Authorized for Issuance Under Equity Compensation Plans**





See
      Item
      12. “Security Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters — Securities Authorized for Issuance Under Equity
      Compensation Plans.”





**Recent
      Sales of Unregistered Securities**





No
      securities were sold by the registrant during the year ended September 30,
      2007
      that were not registered under the Securities Act.





On
      November 9, 2007, pursuant to a Securities Purchase Agreement dated November
      6,
      2007, we sold to certain accredited investors 3,500,000 shares of our common
      stock at $3.90 per share, which collectively represented approximately 6.6%
      of
      our issued and outstanding capital stock as of and immediately after
      consummation of the sale, for an aggregate purchase price of $13.65 million.





The
      foregoing shares were issued pursuant to the exemption from registration
      provided by Section 4(2) of the Securities Act of 1933, as amended (the
“Securities Act”) for the offer and sale of securities not involving a public
      offering and Rule 506 of Regulation D promulgated thereunder. The investors
      who
      received the shares agreed that (a) they had access to all of the Company’s
      information pertaining to the investment and were provided with the opportunity
      to ask questions and receive answers regarding the offering, (b) they were
      acquiring the shares for their own account for investment and not for the
      account of any other person and not with a view to or for any distribution
      within the meaning of the Securities Act and (c) they would not sell or
      otherwise transfer the purchased shares unless in compliance with state and
      federal securities laws. Each of the investors represented that they are
      accredited investors as defined in Rule 501(a) under the Securities Act and
      that
      there was no general solicitation or advertising in connection with the offer
      and sale of the securities.





**Purchases
      of Our Equity Securities**





No
      repurchases of our common stock were made during the fourth quarter of our
      fiscal year ended September 30, 2007.




48


**Item
      6.  Selected Financial Data.**





**Selected
      Consolidated Financial Data**





The
      selected consolidated statement of income and comprehensive income data for
      the
      years ended September 30, 2005, 2006 and 2007 and the selected consolidated
      balance sheet data as of September 30, 2006 and 2007 are derived from our
      audited consolidated financial statements included elsewhere in this Report.





The
      selected consolidated balance sheet data as of September 30, 2003, 2004 and
      2005, and the selected consolidated financial data for the years ended September
      30, 2003 and 2004, are derived from our audited consolidated financial
      statements not included in this Report.





Through
      a
      share exchange on January 20, 2005, we acquired 100% of BAK International,
      which
      owns 100% of Shenzhen BAK. We accounted for this share exchange as a reverse
      acquisition and succeeded to and are considered to be a continuation of Shenzhen
      BAK’s operations for the purpose of our financial statement
      presentation.





The
      following selected consolidated historical financial information should be
      read
      in conjunction with our consolidated financial statements and related notes
      and
      the information contained in Item 7. “Management’s Discussion and Analysis of
      Financial Condition and Results of Operations.”





**As
                of September 30,****2007**
            
            **2006****(1)**
            
            **2005**
            
            **2004**
            
            **2003****(in
                thousands, except per share data)****Statement
                of Operations Data:**Net
                Revenues
            
            
            145,861
            
            
            143,829
            
            
            101,922
            
            
            63,746
            
            
            20,045Cost
                of Revenues
            
            
            120,255
            
            
            104,196
            
            
            76,047
            
            
            50,294
            
            
            14,534Gross
                profit
            
            
            25,606
            
            
            39,633
            
            
            25,875
            
            
            13,452
            
            
            5,511Operating
                Expenses:
            
            
            21,025
            
            
            17,061
            
            
            10,391
            
            
            4,679
            
            
            1,698Operating
                Income
            
            
            4,581
            
            
            22,572
            
            
            15,484
            
            
            8,773
            
            
            3,813Finance
                costs, net
            
            
            5,225
            
            
            1,888
            
            
            845
            
            
            454
            
            
            121Gain
                on trading securities
            
            
            -
            
            
            279
            
            
            -
            
            
            -
            
            
            -Government
                grant income
            
            
            1,035
            
            
            -
            
            
            -
            
            
            -
            
            
            -Other
                expenses
            
            
            103
            
            
            205
            
            
            490
            
            
            10
            
            
            3Income
                Taxes / (benefits)
            
            
            (195
            )
            
            593
            
            
            652
            
            
            507
            
            
            (15
            )Net
                income
            
            
            483
            
            
            20,165
            
            
            13,497
            
            
            7,802
            
            
            3,704Other
                comprehensive income-
              Foreign
                currency translation adjustment
            
            
            6,436
            
            
            2,443
            
            
            1,005
            
            
            -(3)
            
            
            -(3)Comprehensive
                income
            
            
            6,919
            
            
            22,608
            
            
            14,502
            
            
            7,802
            
            
            3,704Net
                Income per share data(2)Basic
                and Diluted
            
            
            0.01
            
            
            0.41
            
            
            0.35
            
            
            0.25
            
            
            0.12Weighted
                average number of sharesBasic
            
            
            48,979
            
            
            48,880
            
            
            38,289
            
            
            31,226
            
            
            31,226Diluted
            
            
            49,442
            
            
            48,913
            
            
            38,409
            
            
            31,226
            
            
            31,226





(1)
            Prior
                to October 1, 2005, we applied the intrinsic-value method for stock-based
                award accounting, under which compensation expense is recorded only
                if on
                measurement day, which is generally the date of grant, the market
                price
                exceeded the exercise price. No stock-based compensation costs were
                recognized in fiscal year 2005. We adopted SFAS 123R commencing on
                October
                1, 2005 using the modified prospective approval. Therefore, share-based
                compensation costs of $4.3 million and $2.6 million are recognized
                in
                fiscal year 2006 and 2007, respectively.(2)
            Basic
                net income per share is computed by dividing net income by the weighted
                average number of shares outstanding for the period. Diluted net
                income
                per share reflects the potential dilution that could occur if currently
                outstanding securities or other contracts to issue shares were exercised
                or converted into shares.(3)
            Less
                than $1,000.




49





**As
                of September 30,****2007**
            
            **2006**
            
            **2005**
            
            **2004**
            
            **2003****(in
                thousands)****Consolidated
                Balance Sheet Data:**Cash
                and cash equivalents
            
            
            14,197
            
            
            21,100
            
            
            33,056
            
            
            3,212
            
            
            671Pledged
                deposits
            
            
            4,595
            
            
            12,972
            
            
            19,392
            
            
            7,120
            
            
            821Trade
                accounts receivable, net
            
            
            63,151
            
            
            64,332
            
            
            43,864
            
            
            21,018
            
            
            6,758Inventories
            
            
            59,827
            
            
            47,389
            
            
            21,696
            
            
            29,536
            
            
            7,994Property,
                plant and equipment, net
            
            
            145,123
            
            
            109,406
            
            
            65,751
            
            
            41,706
            
            
            4,881Lease
                prepayments, net
            
            
            17,884
            
            
            3,161
            
            
            3,155
            
            
            4,002
            
            
            -Total
                assets
            
            
            307,229
            
            
            259,655
            
            
            189,486
            
            
            109,155
            
            
            22,807Total
                current liabilities
            
            
            150,926
            
            
            145,722
            
            
            98,944
            
            
            88,650
            
            
            17,189Short-term
                bank loans
            
            
            89,871
            
            
            67,900
            
            
            39,545
            
            
            29,116
            
            
            3,479Long
                term liabilities
            
            
            29,571
            
            
            305
            
            
            233
            
            
            75
            
            
            -Total
                liabilities
            
            
            180,497
            
            
            146,027
            
            
            99,177
            
            
            88,725
            
            
            17,189Total
                stockholders’ equity
            
            
            126,732
            
            
            113,628
            
            
            90,309
            
            
            20,430
            
            
            5,618Total
                liabilities and owners’ equity
            
            
            307,229
            
            
            259,655
            
            
            189,486
            
            
            109,155
            
            
            22,807






**As
                of September 30,****2007**
            
            **2006**
            
            **2005**
            
            **2004**
            
            **2003****(in
                thousands, except percentages)****Other
                Consolidated Financial Data:**Gross
                margin(1)
            
            
            17.6
            %
            
            27.6
            %
            
            25.4
            %
            
            21.1
            %
            
            27.5
            %Operating
                margin(2)
            
            
            3.1
            %
            
            15.7
            %
            
            15.2
            %
            
            13.8
            %
            
            19.0
            %Net
                Margin(3)
            
            
            0.3
            %
            
            14.0
            %
            
            13.2
            %
            
            12.2
            %
            
            18.5
            %Capital
                expenditures
            
            
            65,835
            
            
            41,382
            
            
            30,594
            
            
            28,254
            
            
            4,651Depreciation
                and amortization
            
            
            8,912
            
            
            5,816
            
            
            3,581
            
            
            1,758
            
            
            380Net
                cash provided by / (used in) operating activities
            
            
            2,986
            
            
            (5,685
            )
            
            8,014
            
            
            3,593
            
            
            2,950Net
                cash used in investing activities
            
            
            65,895
            
            
            41,416
            
            
            30,596
            
            
            28,300
            
            
            4,669Net
                cash provided by financing activities
            
            
            55,244
            
            
            35,047
            
            
            52,363
            
            
            27,249
            
            
            2,296







(1)
            Gross
                margin represents gross profit divided by revenues.(2)
            Operating
                margin represents operating income divided by revenues.(3)
            Net
                margin represents net income divided by
                revenues.




50




**Item
      7.  Management’s Discussion and Analysis of Financial Condition and Results
      of Operations.**





*The
      following management’s discussion and analysis should be read in conjunction
      with our consolidated financial statements and the notes thereto and the other
      financial information appearing elsewhere in this Report. In addition to
      historical information, the following discussion contains certain
      forward-looking information. See “Forward Looking Statements” above for certain
      information concerning those forward looking statements. Our financial
      statements are prepared in U.S. dollars and in accordance with U.S. GAAP. See
“
—Exchange Rates” below for information concerning the exchange rates at which
      Renminbi were converted to U.S. dollars at various pertinent dates and for
      pertinent periods. References in this Report to a particular “fiscal” year are
      to our fiscal year ended on September 30.*





**Overview**





We
      are
      one of the largest manufacturers of lithium-ion battery cells in China and
      the
      world, as measured by production output. Our battery cells are the principal
      component of rechargeable lithium-based batteries used to power the following
      applications:





—
            cellular
                phones — customer segments include OEM and replacement battery
                manufacturers;—
            notebook
                computers;—
            portable
                consumer electronics, such as digital media devices, portable media
                players, and PDAs; and—
            cordless
                power tools and other products using high-power lithium-phosphate
                batteries, such as miner’s lamps, electric bicycles, and hybrid electric
                vehicles.





Our
      products are packed into batteries by third-party battery pack manufacturers
      in
      accordance with the specifications of manufacturers of portable electronic
      end
      applications. We conduct all of our operations in China, in close proximity
      to
      China’s electronics manufacturing base and its rapidly growing market.





Historically,
      we have primarily manufactured prismatic lithium-ion cells for the cellular
      phone replacement battery market and OEM market. Our products are packed into
      batteries by third-party battery pack manufacturers in accordance with the
      specifications of manufacturers of portable electronic applications.





At
      the
      request of our customers that order prismatic battery packs, we also engage
      pack
      battery manufacturers to assemble our prismatic cells into batteries for a
      fee
      and then sell battery packs to these customers both for the cellular phone
      battery replacement market and OEM markets. We expect that sales of prismatic
      battery packs in such a manner will represent a decreasing percentage of our
      revenues going forward.





We
      have
      recently expanded our product offerings by adding three new product lines:





—
            Lithium
                polymer cells for use in ultra-portable electronic devices, such
                as
                high-end cellular phones, Bluetooth headsets, digital medial players
                and
                digital audio players. We began commercial production of lithium
                polymer
                cells in September 2005.—
            Cylindrical
                lithium-ion cells for use in notebook computers. We began trial production
                of cylindrical cells in April 2006 and began commercial production
                in June
                2006. In August 2007, we signed a non-binding letter of intent with
                HP,
                under which both parties have undertaken to work together in a set
                timeframe to reach a definitive agreement for us to supply cylindrical
                lithium-ion battery cells to HP or HP’s designated battery pack
                manufacturers for notebook computer batteries to be used in notebook
                computers manufactured by HP.—
            High-power,
                lithium-phosphate cells for use in cordless power tools and other
                applications. Currently, we are actively seeking new applications
                for our
                lithium-phosphate cells, such as miner’s lamps, electric bicycles and
                hybrid electric vehicles.




51




***Demand
      for Lithium-Based Batteries***





All
      of
      our products are lithium-based rechargeable battery cells. Rechargeable
      lithium-based battery cells, compared to other types of rechargeable battery
      cells based on nickel cadmium or nickel metal hydride chemistries, have a higher
      energy density, meaning a greater energy capacity relative to a given battery
      cell’s weight and size. As a result, use of lithium-based batteries has risen
      significantly in portable electronic products. As the cost/power ratio of
      lithium-based batteries continues to improve, it is expected that its usage
      will
      also extend into other applications. End-product applications that are driving
      the demand for rechargeable lithium-based batteries include cellular phones,
      notebook computers, cordless power tools and portable consumer electronics.





*Cellular
      Phones.* Demand
      for batteries for cellular phones is driven by two factors. The first is the
      sales of new cellular phones. An OEM of cellular phones includes a battery
      with
      a new cellular phone. There is also a replacement market for cellular phone
      batteries. Demand in the replacement market is in turn driven by a number of
      factors. Often a consumer will purchase a second battery to carry as a spare.
      In
      addition, lithium-ion batteries have a finite life, so over time consumers
      will
      need to purchase a battery to replace the failed battery in their phone. As
      the
      number of active cellular phone subscribers increases, the number of replacement
      batteries sold increases. A market characteristic unique to the Chinese cellular
      phone market is that cell phones are often sold and resold during their useful
      life. Over time these cell phones require a replacement battery. Our customers
      for cellular phone battery cells fall into two segments:





—
            *OEM.*The OEMs manufacture mobile phone handsets. They purchase batteries
                to
                support their production of new cellular phones. They also purchase
                batteries to serve the replacement market which they sell under their
                own
                brand name.—
            *Independent
                Battery Manufacturers.*These third party manufacturers compete against the OEM for a share
                of the
                replacement market. They typically sell their products under their
                own
                brand name or a private label.





*Notebook
      Computers* .  Sales
      of notebook computers are driven by the increasing demand for mobile computing
      and the improved power and functionality of notebook computers. Lithium-based
      batteries have almost completely replaced nickel metal hydride batteries for
      notebook computers due to the increasing power of lithium-based batteries and
      demand for smaller lighter notebook computers.





*Power
      Tools and Other Applications for High-Power Lithium-Phosphate
      Batteries.* Power
      tools such as drills, saws and grinders are used for both commercial and
      personal use. Due to high power requirements, many power tools have historically
      used small combustion engines, used heavier nickel metal hydride batteries
      or
      relied on external power sources. However, since the beginning of 2005, most
      major tool manufacturers, including Milwaukee, DeWalt/Black & Decker,
      Metabo, Ridgid and Bosch, have begun to use lithium-based battery packs, in
      particular lithium-phosphate batteries, in their product lines. These
      manufacturers have taken advantage of both the increased power produced by
      lithium based batteries and the light weight of lithium based batteries by:
      (1)
      introducing more powerful products; (2) extending the life cycle of current
      products; or (3) decreasing the size of current products. The market for
      portable high-powered power tools and other applications for high-power
      lithium-phosphate batteries is rapidly growing and has prompted many users,
      both
      commercial and personal, to replace or upgrade their equipment.





*Portable
      Consumer Electronics* .  This
      category includes digital audio players (such as MP3 players), digital still
      cameras, digital video cameras, portable DVD players, PDAs, BlackBerry devices,
      portable gaming systems and Bluetooth devices. There is a rapid trend to use
      lithium-based batteries in portable consumer electronics (both rechargeable
      and
      non-rechargeable) due to a desire for smaller, longer lasting devices.





***Pricing
      Pressure***





Portable
      electronic devices such as cellular phones and notebook computers are subject
      to
      declines in average selling prices from time to time due to evolving
      technologies, industry standards and consumer preferences. As a result,
      manufacturers of these electronic devices expect us as suppliers to cut our
      costs and lower the prices of our products, particularly when they place
      substantial orders with us. We have reduced the prices of our products in the
      past in order to meet market demand and expect to continue to face market-driven
      downward pricing pressures in the future. Our ability to maintain our
      cost-effectiveness will be critical to our future success in an increasingly
      price-sensitive market. We seek to achieve this by ramping up our production
      capacity to give us greater economies of scale through a higher bargaining
      power
      to secure a supply of materials and equipment at a lower cost, and a larger
      base
      for spreading out our fixed costs. We believe this will provide incremental
      long-term growth opportunities, but in the short-term, also will require us
      to
      incur substantial capital expenditures.




52




***Seasonality
      of Operating Results***





Historically,
      our revenues were not materially impacted by seasonal variations. During the
      first several years of our operation, manufacturing capacities fell short of
      customer demands. As such, seasonality was minimal. Over the past year, we
      significantly increased manufacturing capacities to meet or exceed customer
      demand. Since we increased our manufacturing capacities, our revenues are now
      affected by seasonal variations in customer demand. We expect to experience
      seasonal lows in the demand for our products during the months of April to
      July,
      reflecting our customers’ decreased purchases. On the other hand, we will
      generally experience seasonal peaks during the months of September to March,
      primarily as a result of increased purchases from our customers. Also, at
      various times during the year, our inventories may be increased in anticipation
      of increased demand for consumer electronics. The months of October and February
      tend to be seasonally low sales months due to plant closures for the Chinese
      New
      Year and national holidays in the PRC.





**Controls
      and Procedures**





*First
      Restatement*





In
      the
      course of the SEC review of registration statements on Form SB-2 (File Nos.
      333-122209 and 333-130247), we restated on January 30, 2006, pursuant to
      Amendment No.1 to our annual report on Form 10-KSB for the fiscal year ended
      September 30, 2005, our consolidated balance sheet as of September 30, 2004, our
      consolidated statements of income and comprehensive income, our consolidated
      statements of cash flows and our consolidated statements of changes in
      shareholders’ equity for the fiscal year ended September 30, 2004, and also
      extended or modified certain notes to these consolidated financial statements.
      This restatement arose out of accounting errors relating to (1)
      misclassification of cash transactions, (2) incorrect charging to our statements
      of income and comprehensive income and comprehensive income for fiscal 2003
      and
      2004 for deficit attributable to 1,152,456 shares outstanding prior to our
      reverse merger on January 20, 2005, and (3) incorrect presentation of
      depreciation expenses in the statement of income and comprehensive income.
      The
      restatement resulted in an increase in net cash from financing activities,
      a
      decrease in the amount of common stock outstanding and a corresponding increase
      in paid-in capital, and a decrease in gross profit for the fiscal year ended
      September 30, 2004 by $1,635,971, or approximately 11%.





*Second
      Restatement*





In
      the
      course of the SEC review of the registration statements referred to above,
      we
      determined that beginning with fiscal quarter ended December 31, 2005, we would
      no longer be considered a “small business issuer.” We restated on March 29,
      2006, pursuant to Amendment No.2 to our quarterly report on Form 10-Q for the
      quarter ended December 31, 2005, our consolidated balance sheet as of December
      31, 2005, our consolidated statement of income and comprehensive income and
      our
      consolidated statement of cash flows for the three months ended December 31,
      2005 to reflect the prospective adoption of SFAS 123R relating to the accounting
      for stock- based compensation commencing in the first quarter of our fiscal
      year
      ending September 30, 2006. Pursuant to the restatement, we recognized
      incremental share-based compensation expense of $711,512 in the quarter ended
      December 31, 2005. This restatement resulted in, among other things, a decrease
      in gross profit and net income per share for the first quarter of our fiscal
      year 2006.





*Third
      Restatement*





As
      reported in the current report on Form 8-K filed with the SEC on August 4,
      2006,
      we changed our independent registered public accounting firm from Schwartz
      Levitsky Feldman LLP to KPMG. We engaged KPMG on May 15, 2006 to audit our
      previously reported financial statements for the fiscal years ended September
      30, 2003, 2004 and 2005. During the course of the audit, KPMG notified our
      accounting staff of misstatements in our previously reported financial
      statements for the fiscal years ended September 30, 2003, 2004 and 2005 that
      required correction relating to: (1) the overstatement of interest expense
      because of an error in the application of accounting principles relating to
      interest capitalization, and the related understatement of property, plant
      and
      equipment, construction in progress and depreciation expenses; (2) the incorrect
      charging to shareholders’ equity for fiscal year 2005 of the provision for staff
      and workers’ bonus and welfare fund instead of charging it to the statements of
      income and comprehensive income; (3) the overstatement of the provision for
      contributions to a social insurance plan because of a misinterpretation of
      the
      applicable PRC laws; (4) the understatement of our accumulated foreign-currency
      translation adjustment for fiscal 2005 included in comprehensive income and
      overstatement of our additional paid-in capital due to a calculation error
      during consolidation; (5) other misstatements identified, which were
      individually not material, including amounts related to amortization of lease
      prepayments, prepayments and other receivables, accrued expenses and other
      payables, cost of revenues, general and administrative expenses, finance costs,
      other expenses, and certain cash flow items, and (6) the consequential
      understatements or overstatements of income tax expenses. The net restatement
      adjustments resulting from these accounting misstatements resulted in an
      increase in our net income and earnings per share for the fiscal years 2003,
      2004 and 2005, respectively.




53




Our
      management concluded that our disclosure controls and procedures were not
      effective as of September 30, 2006, because of the material weaknesses that
      had
      been identified and described in Item 9A. “Controls and Procedures” of our
      Annual Report on Form 10-K for the fiscal year ended September 30, 2006 (the
      “2006 Form 10-K”). Management believes that some appropriate measures have been
      implemented to remediate these weaknesses during the fiscal year 2007. Investors
      are directed to Item 9A of the 2006 Form 10-K for the description of these
      weaknesses.




As
      disclosed in our current report on Form 8-K filed with the SEC on April 3,
      2007,
      as amended on April 11, 2007 and April 17, 2007, on March 28, 2007, we dismissed
      KPMG as our independent registered public accounting firm and appointed PKF
      as
      our independent registered public accounting firm, in each case effective April
      1, 2007.




Our
      management has carried out an evaluation, with the participation and under
      the
      supervision of our chief executive officer and chief financial officer, of
      the
      effectiveness of the design and operation of our disclosure controls and
      procedures as of September 30, 2007 covered by Management’s Report on Internal
      Control over Financial Reporting. We have identified the following material
      weaknesses as of September 30, 2007:





1.
            Entity
                Level Material Weakness - Control
                Environment





We
      did
      not maintain effective controls over the financial reporting processes due
      to an
      insufficient complement of personnel with a level of accounting knowledge,
      experience and training in the application of U.S. GAAP commensurate with our
      financial requirements. Additionally, our senior management lacked an adequate
      level of accounting knowledge, experience and training in the application of
      U.S. GAAP, and did not implement adequate and proper supervisory review to
      ensure the consolidated financial statements were prepared in conformity with
      U.S. GAAP and with SEC requirements.





2.
            Process
                Level Material Weakness - Procedures and
                transactions





We
      did
      not maintain adequate procedures to properly account for deferred taxes under
      U.S. GAAP. Specifically, we did not have effective control procedures over
      the
      identification and measurement of differences between the respective tax and
      financial reporting bases of certain assets and liabilities and the
      determination of the applicable income tax rate to ensure that deferred taxes
      were accurately presented in our consolidated financial statements. This
      material weakness resulted in a material adjustment to our preliminary
      consolidated financial statements as of September 30, 2007. The need for this
      adjustment was initially identified by our external auditor and subsequently
      implemented by our management.





See
      Item
      9A. “Controls and Procedures” for a more detailed discussion of these material
      weaknesses.





**Financial
      Statement Presentation**





*Net
      revenues* .  Our
      net revenues represent the invoiced value of our products sold, net of value
      added taxes, or VAT, sales returns, trade discounts and allowances. We are
      subject to VAT, which is levied on most of our products at the rate of 17%
      on
      the invoiced value of our products. Provision for sales returns are recorded
      as
      a reduction of revenue in the same period that revenue is recognized. The
      provision for sales returns represents our best estimate of the amount of goods
      that will be returned from our customers based on historical sales returns
      data.




54




The
      following table sets forth the breakdown of our net revenues by battery cell
      type for the periods indicated.





**Year
                ended September 30,****2007**
            
            **2006**
            
            **2005****(in
                thousands)**Prismatic
                cellsSteel-case
                cells
            
            
            34,869
            
            
            64,299
            
            
            56,965Aluminum-case
                cells
            
            
            69,916
            
            
            49,514
            
            
            23,721Battery
                packs
            
            
            11,798
            
            
            9,843
            
            
            20,169Cylindrical
                cells
            
            
            3,422
            
            
            608
            
            
            1,051High-power
                lithium-phosphate cells
            
            
            20,562
            
            
            18,537
            
            
            óLithium
                polymer cells
            
            
            5,294
            
            
            1,028
            
            
            16Total
            
            
            145,861
            
            
            143,829
            
            
            101,922





Our
      net
      revenues have increased during fiscal 2005, 2006, and 2007, in part because
      of
      increased shipments as we ramped up our production capacity to meet customer
      demands for our products.





*Cost
      of Revenues.* Cost
      of revenues consists primarily of material costs, employee remuneration for
      staff engaged in production activity, share-based compensation, depreciation
      and
      related expenses that are directly attributable to the production of products.
      Cost of revenues also includes write-downs of inventory to lower of cost or
      market.





The
      cost
      of raw materials for aluminum-case cells generally is higher than that of
      steel-case cells. Cost of revenues from the sales of battery packs also includes
      the fees we pay to pack manufacturers for assembling our prismatic cells into
      battery packs.





The
      average unit costs of our products increased significantly in the year ended
      September 30, 2007 because the purchase cost of lithium cobalt dioxide
      increased. As a result, our gross profit, as a percentage of net revenues,
      decreased from 27.6% for the year ended September 30, 2006 to 17.6% for the
      year
      ended September 30, 2007.





Our
      gross
      profit, as a percentage of net revenues, increased from 25.4% in fiscal year
      2005 to 27.6% in fiscal year 2006. This is mainly attributable to (1) the
      decrease in unit manufacturing costs as a result of scale of economy which
      outweighed the effect of decrease in selling prices; and (2) the introduction
      of
      new products with higher gross profit margins than average, such as battery
      packs in 2005 and high-power lithium-phosphate cells in 2006.





*Research
      and Development Costs.* Research
      and development costs primarily comprise of remuneration for R&D staff,
      share-based compensation, depreciation and maintenance expenses relating to
      R&D equipment, and R&D material costs.





*Sales
      and Marketing.* Sales
      and marketing expenses consist primarily of remuneration for staff involved
      in
      selling and marketing efforts, including staff engaged in the packaging of
      goods
      for shipment, advertising cost, depreciation, share-based compensation and
      travel and entertainment expenses. We do not pay slotting fees to retail
      companies for displaying our products, engage in cooperative advertising
      programs, participate in buy-down programs or similar arrangements. No material
      estimates are required by management to determine our actual marketing or
      advertising costs for any period.





*General
      and Administrative* .  General
      and administrative expenses consist primarily of employee remuneration,
      share-based compensation, professional fees, insurance, benefits, general office
      expenses, depreciation, liquidated damage charge and bad debt expenses.





*Gain
      on Trading Securities* .  Gain
      on trading securities represents realized gain from purchases and sales of
      certain listed shares in open market of Hong Kong Stock Exchange. These
      transactions were concluded by BAK International Limited, our Hong Kong
      subsidiary. As of September 30, 2007, we and our subsidiaries do not hold any
      equity or debt securities on hand for trading purpose. We do not anticipate
      investment in trading securities to form an ongoing part of our treasury
      function.




*Government
      Grant Income / Other Expenses.* Government grant income for the year ended September 30, 2007 mainly consisted
      of receipt of grant funds to subsidize the interest expenses incurred by the
      Company in prior years for research and development activities and to refund
      the
      value-added tax paid by Shenzhen BAK in prior years in light of Shenzhen BAK’s
      qualification as a new and high-technology enterprise. No present or future
      obligation would arise from the receipt of such amount.




55




*Finance
      Costs, Net* .  Finance
      costs consist primarily of interest income, interest on bank loans, net of
      capitalized interest, and bank charges.





*Income
      Taxes.* Under
      applicable income tax laws and regulations, an enterprise located in Shenzhen,
      including the district where our operations are located, is subject to a 15%
      enterprise income tax. Further, according to PRC laws and regulations, foreign
      invested manufacturing enterprises, starting from their first profitable year,
      are entitled to a two-year exemption from enterprise income tax followed by
      a
      three-year 50% reduction in its enterprise income tax rate. Our PRC
      subsidiaries, Shenzhen BAK and BAK Electronic, are each entitled to a two-year
      exemption from enterprise income tax and a reduced enterprise income tax rate
      of
      7.5% for the following three years from its first profitable year. As such,
      for
      the first two calendar years ended December 31, 2003, Shenzhen BAK was exempted
      from any enterprise income tax. Between January 1, 2004 and December 31, 2006,
      Shenzhen BAK was subject to the enterprise income tax rate of 7.5%. BAK
      Electronic, established in August 2005, is eligible for the same preferential
      tax treatment applicable to Shenzhen BAK and is currently in its tax holiday
      and
      fully exempt from any enterprise income tax. BAK Tianjin is currently exempt
      from any enterprise income tax due to cumulative tax losses.





In
      addition, due to the additional capital invested in Shenzhen BAK in 2005 and
      2006, Shenzhen BAK was granted a preferential income tax rate of 3.309%, 3.82%
      and 6.12% in calendar year 2005, 2006 and 2007, respectively.





Furthermore,
      to encourage foreign investors to introduce advanced technologies to China,
      the
      PRC government has offered additional tax incentives to enterprises that are
      classified as a foreign invested enterprise with advanced technologies.
      According to an official notice issued by the Shenzhen Municipal Trade and
      Industry Bureau, Shenzhen BAK received such designation in August 2005. As
      a
      result, as long as Shenzhen BAK maintains this designation, it may apply to
      the
      tax authority to extend the preferential status of its enterprise income tax
      rate for another three years, until December 31, 2009.





On
      March
      16, 2007, the National People’s Congress of the PRC determined to adopt a new
      corporate income tax law in its fifth plenary session. The new corporate income
      tax law unifies the application scope, tax rate, tax deduction and preferential
      policy for both domestic and foreign-invested enterprises. The new corporate
      income tax law will be effective on January 1, 2008. According to the new
      corporate income tax law, the applicable income tax rate for our operating
      subsidiaries is subject to change. As implementation details have not yet been
      announced, we cannot be sure of the potential impact of this new corporate
      income tax law on our financial position and operating results.





Our
      company is subject to U.S. tax at the statutory rate of 35%. We have not made
      provisions for any U.S. tax because we have determined that we have no U.S.
      taxable income.





Our
      Canada subsidiary, BAK Canada, is subject to Canada profits tax at the rate
      of
      36.1%. However, because it does not have any assessable income derived from
      or
      arising in Canada, it has not paid any Canada estimated profits
      tax.





Our
      Hong
      Kong subsidiary, BAK International, is subject to Hong Kong profits tax at
      the
      rate of 17.5%. However, because it does not have any assessable income derived
      from or arising in Hong Kong, it has not paid any Hong Kong profits tax.





Our
      effective tax rates were 4.6% and 2.9% for the fiscal years ended September
      30,
      2005 and 2006, respectively and our effective tax benefit rate was 67.9% for
      the
      fiscal year ended September 30, 2007.




56




**Results
      of Operations**





The
      following sets forth certain income statement information for the years ended
      September 30, 2005, 2006 and 2007.





**Year
                ended September 30,****2007**
            
            **2006**
            
            **2005****All
                amounts**
            
            **As
                a percentage of net revenues**
            
            **All
                amounts**
            
            **As
                a percentage of net revenues**
            
            **All
                amounts**
            
            **As
                a percentage of net revenues****(in
                thousands of dollars, except percentages)****Statement
                of operations data:**Net
                Revenues
            
            
            145,861
            
            
            100
            %
            
            143,829
            
            
            100
            %
            
            101,922
            
            
            100
            %Cost
                of Revenues
            
            
            120,255
            
            
            82.4
            %
            
            104,196
            
            
            72.4
            %
            
            76,047
            
            
            74.6
            %Gross
                profit
            
            
            25,606
            
            
            17.6
            %
            
            39,633
            
            
            27.6
            %
            
            25,875
            
            
            25.4
            %Operating
                ExpensesResearch
                and development costs
            
            
            3,957
            
            
            2.7
            %
            
            2,935
            
            
            2.0
            %
            
            542
            
            
            0.5
            %Sales
                and marketing expenses
            
            
            4,696
            
            
            3.2
            %
            
            5,055
            
            
            3.5
            %
            
            3,855
            
            
            3.8
            %General
                and administrative expenses
            
            
            12,372
            
            
            8.5
            %
            
            9,071
            
            
            6.3
            %
            
            5,994
            
            
            5.9
            %Total
                Operating Expenses
            
            
            21,025
            
            
            14.4
            %
            
            17,061
            
            
            11.9
            %
            
            10,391
            
            
            10.2
            %Operating
                Income
            
            
            4,581
            
            
            3.2
            %
            
            22,572
            
            
            15.7
            %
            
            15,484
            
            
            15.2
            %Finance
                costs, net
            
            
            5,225
            
            
            3.6
            %
            
            1,888
            
            
            1.3
            %
            
            845
            
            
            0.9
            %Other
                expenses
            
            
            103
            
            
            0.1
            %
            
            205
            
            
            0.1
            %
            
            490
            
            
            0.5
            %Gain
                on trading securities
            
            
            -
            
            
            -
            
            
            279
            
            
            0.2
            %
            
            -
            
            
            -Government
                grant income
            
            
            1,035
            
            
            0.7
            %
            
            -
            
            
            -
            
            
            -
            
            
            -Income
                Taxes expenses / (benefit)
            
            
            (195
            )
            
            (0.1
            %)
            
            593
            
            
            0.4
            %
            
            652
            
            
            0.6
            %Net
                income
            
            
            483
            
            
            0.3
            %
            
            20,165
            
            
            14.0
            %
            
            13,497
            
            
            13.2
            %





***Results
      of operations for the year ended September 30, 2007 as compared to the year
      ended September 30, 2006.***





*Net
      Revenues.* Net
      revenues increased to $145.9 million for the year ended September 30, 2007
      as
      compared to $143.8 million for the same period of the prior year, an increase
      of
      $2.1 million or 1.5%.





—
            Net
                revenues from the sales of steel-case cells decreased to $34.9 million
                in
                the year ended September 30, 2007 from $64.3 million in the same
                period in
                2006, a decrease of $29.4 million or 45.7%, due to a decrease in
                sales
                volume of 39.9% primarily attributable to an increasingly competitive
                market.—
            Net
                revenues from the sales of aluminum-case cells increased to $69.9
                million
                in the year ended September 30, 2007 from $49.5 million in the same
                period
                in 2006, an increase of $20.4 million or 41.2%, due to an increase
                in
                sales volume of 28.3% driven by increased sales to OEM market in
                the PRC
                and an increase in average selling price of 10.1% as the result of
                a
                change in the type of the aluminum-case cells.—
            Net
                revenues from sales of battery packs increased to $11.8 million in
                year
                ended September 30, 2007 from $9.8 million in the same period in
                2006, due
                to an increase in sales volume of 47.8% driven by increased sales
                to the
                OEM market in the PRC and offset by a decrease in our average selling
                price of 18.9%.—
            Net
                revenues from the sales of high-power lithium-ion cells increased
                to $20.6
                million in the year ended September 30, 2007 from $18.5 million in
                the
                same period in 2006, an increase of $2.0 million or 10.9%, due to
                an
                increase in sales volume of 32.7% driven by increased export sales
                and
                offset by a decrease in average selling price of 16.4%.—
            We
                also sold $5.3 million of lithium polymer cells and $3.4 million
                of
                cylindrical cells in the year ended September 30, 2007, compared
                to $1.0
                million of lithium polymer cells and $608,000 of cylindrical cells
                in the
                same period in 2006 due to our ability to satisfy additional demand
                with
                our new production line.




57




*Cost
      of Revenues.* Cost
      of
      revenues increased to $120.3 million for the year ended September 30, 2007,
      as
      compared to $104.2 million for the same period in 2006, an increase of
      $16.1million or 15.5%. The increase in cost of revenues was mainly attributable
      to a significant increase in the purchase cost of lithium cobalt dioxide and
      significantly increased depreciation charges with the completion of two new
      production lines.





As
      a
      result, gross profit for the year ended September 30, 2007 was $25.6 million
      or
      17.6% of net revenues as compared to gross profit of $39.6 million or 27.6%
      of
      net revenues for the same period in 2006.





*Research
      and Development Costs.* Research
      and development costs increased to $4.0 million for the year ended September
      30,
      2007, as compared to $2.9 million for the same period in 2006. Share-based
      compensation included in research and development expenses was $1.0 million
      for
      the year ended September 30, 2007. Research and development material expenses
      increased by $514,000 due to certain new research projects of BAK Canada.
      Salaries related to research increased to $1.3 million from $702,000 for the
      same period of the prior year, an increase primarily due to our hiring of
      additional research professionals.





*Sales
      and Marketing Expenses.* Sales
      and
      marketing expenses decreased to $4.7 million for the year ended September 30,
      2007 as compared to $5.1 million for the same period in 2006, a decrease of
      $359,000 or 7.1%. As a percentage of revenues, sales and marketing expenses
      have
      decreased slightly to 3.2% for the year ended September 30, 2007, from 3.5%
      for
      the same period in 2006. Share-based compensation was $224,000 for the year
      ended September 30, 2007, a decrease of $514,000 from $738,000 for the same
      period in 2006. On September 28, 2006, options to purchase a total of 1,400,000
      shares of common stock were cancelled and on December 26, 2006, a total of
      914,994 shares of restricted stock were granted as replacement awards. Pursuant
      to SFAS 123R, we also measured the employee share-based compensation at
      grant-date fair value as of December 26, 2006 and recognized over the remained
      vesting period.





*General
      and Administrative Expenses.* General
      and administrative expenses increased to $12.4 million, or 8.5% of revenues,
      for
      the year ended September 30, 2007 as compared to $9.1 million, or 6.3% of
      revenues, for the same period in 2006, an increase of $3.3 million or 36.4%.
      Depreciation charges increased by $1.0 million due to the completion of
      additional facilities in our industrial park. Bad debt expenses increased by
      $2.4 million primarily due to a provision charged for one customer after we
      had
      assessed the collection of accounts receivables from this customer during the
      third quarter of 2007.





We
      are
      liable for liquidated damages to certain shareholders whose shares were included
      in a resale registration statement on Form SB-2 that we filed pursuant to a
      registration rights agreement that we entered into with such shareholders in
      September 2005. On August 15, 2006, the SEC declared effective a post-effective
      amendment that we had filed on August 4, 2006, terminating the effectiveness
      of
      a resale registration statement on Form SB-2 that had been filed pursuant to
      a
      registration rights agreement with certain shareholders to register the resale
      of shares held by those shareholders. We subsequently filed a registration
      statement on Form S-1 to register the shares of these shareholders. On December
      8, 2006, we filed our Form 10-K for fiscal year 2006. After the filing of the
      2006 Form 10-K, our previously filed registration statement on Form S-1 was
      no
      longer available for resales by the selling shareholders whose shares were
      included in such Form S-1. Under the registration rights agreement, those
      selling shareholders became eligible for liquidated damages relating to the
      above two events totaling approximately $1 million from us. We therefore
      recognized in general and administrative expenses an amount of $760,000 as
      liquidated damages for the year ended September 30, 2007, as compared to
      $290,575 for the year ended September 30, 2006.





*Operating
      Income.* As
      a
      result of the above, operating income totaled $4.6 million for the year ended
      September 30, 2007 as compared to operating income of $22.6 million for the
      same
      period in the prior year, a decrease of $18.0.million or 79.6%. As a percentage
      of net revenues, operating income was 3.2% for the year ended September 30,
      2007
      as compared to 15.7% for the same period of the prior year.





*Finance
      Costs, Net.* Finance
      costs, net, increased to $5.2 million for the year ended September 30, 2007
      as
      compared to $1.9 million for the same period of the prior year, an increase
      of
      $3.3 million or 176.7%. We had $89.9 million in short-term loans and $29.3
      million of long-term bank loans as of September 30, 2007 as compared to $67.9
      million in short-term loans and no long-term loans outstanding as of September
      30, 2006.





*Government
      grant income/Other Expenses.* Government grant income was $1.0 million for the year ended September 30, 2007
      as compared to other expenses of $205,000 for the same period of 2006.
      Government grant income for the year ended September 30, 2007 mainly consisted
      of receipt of grant funds of $777,000 to subsidize the interest expenses
      incurred by the Company in prior years for research and development activities
      and $257,000 represented the refund of a value-added tax paid by Shenzhen BAK
      in
      prior years in light of Shenzhen BAK’s qualification as a new and high
      technology enterprise. No present or future obligation arises from the receipt
      of such government subsidy. There was no comparable income in the same period
      of
      the prior year.




58




*Income
      tax expenses/(benefit).* Income
      tax benefit was $195,000 for the year ended September 30, 2007, as compared
      to
      income tax expense of $593,000 for the same period of 2006. The change was
      mainly the result of decreased profit before tax and the impact of deferred
      tax
      during the fiscal year 2007.





*Net
      Income.* As
      a
      result of the foregoing, we decreased our net income to $483,000 for the year
      ended September 30, 2007 from $20.2 million for the same period of the prior
      year.





***Results
      of operations for the year ended September 30, 2006 as compared to the year
      ended September 30, 2005.***





*Net
      Revenues.* Net
      revenues increased to $143.8 million for the year ended September 30, 2006
      as
      compared to $101.9 million for same period of the prior year, an increase of
      $41.9 million or 41.1%.





—
            Net
                revenues from the sales of steel-case cells increased to $64.3 million
                in
                the year ended September 30, 2006 from $57.0 million in the same
                period in
                2005, an increase of $7.3 million or 12.8%, due to an increase in
                sales
                volume of 21.5%, as a result of higher demand in the replacement
                battery
                market in the PRC, which is offset by a decrease in average selling
                price
                of 7.1% primarily attributable to the pricing pressure in an increasingly
                competitive market.—
            Net
                revenues from the sales of aluminum-case cells increased to $49.5
                million
                in the year ended September 30, 2006 from $23.7 million in the same
                period
                in 2005, an increase of $25.8 million or 108.9%, due to an increase
                in
                sales volume of 120.7% driven by increased sales in the OEM market
                due to
                dramatic growth of the PRC cellular phone market, and is offset by
                a
                decrease in the average selling price of 5.5% attributable to pricing
                pressure in a competitive market.—
            Net
                revenues from sales of battery packs decreased to $9.8 million in
                year
                ended September 30, 2006 from $20.2 million in the same period in
                2005,
                due to both a decrease in sales volume of 15.1% and a decrease in
                average
                selling price of 42.5%. The decrease in average selling price primarily
                is
                attributable to a change in the type of the battery
                packs.—
            We
                also sold $18.5 million of high-power lithium-ion cells and $1.0
                million
                of lithium polymer cells in the year ended September 30, 2006, compared
                to
                nil in fiscal 2005.





*Cost
      of Revenues.* Cost
      of
      revenues increased to $104.2 million for the year ended September 30, 2006
      as
      compared to $76.0 million for the same period in 2005, an increase of $28.2
      million or 37.1%. The increase in cost of revenues was attributable to an
      increase in units of products sold offset by a decrease in unit costs for
      prismatic cells and for battery packs. The decrease in unit manufacturing costs
      is primarily the result of a decrease in the cost of main raw materials, an
      increase in efficiency in our use of raw materials and our manufacturing yields
      resulting from our improvement in process technology and an increase in
      production output giving us a larger base over which to spread our fixed cost
      allocation. By product breakdown:





—
            unit
                cost of revenue for steel-case cells, decreased by
                8.2%;—
            unit
                cost of revenue for aluminum-case cells, decreased by
                13.7%;—
            unit
                cost of manufacturing battery packs, decreased by
                45.4%;





In
      addition, share-based compensation cost of $282,000 was recorded in costs of
      revenues for the year ended September 30, 2006. There was no such share-based
      compensation cost recognized in 2005.





As
      a
      result, gross profit for the year ended September 30, 2006 was $39.6 million
      or
      27.6% of net revenues as compared to gross profit of $25.9 million or 25.4%
      of
      net revenues for the same period in 2005. The increase in gross profit, as
      a
      percentage of net revenues, was primarily due to (1) the increase in gross
      profit, as a percentage of net revenues, for prismatic cells, resulting from
      a
      decrease in the unit manufacturing costs for prismatic cells due to economies
      of
      scale which outweighed the effect of decrease in selling prices; and (2) the
      introduction of a new product in fiscal year 2006, high-power lithium-phosphate
      cells with higher gross profit margin than average.




59




*Research
      and Development Costs.* Research
      and development costs increased to $2.9 million for the year ended September
      30,
      2006 as compared to $542,000 for the same period in 2005. Share-based
      compensation included in research and development expenses was $1,524,000 for
      the year ended September 30, 2006 compared to zero for the same in 2005. We
      adopted SFAS 123R effective on October 1, 2005 using the modified prospective
      approach. Pursuant to SFAS 123R, we measure the employee share-based
      compensation at grant-date fair value and recognize related expenses over the
      vesting period. Prior to adoption of SFAS 123R, we had adopted the intrinsic
      value method under SFAS 123 and APB 25, pursuant to which, no employee
      share-based compensation cost was recognized during fiscal year 2005.
      Depreciation expenses increased by $246,000 as we purchased more equipment
      for
      our R&D efforts. Salaries related to research increased to $703,000 from
      $162,000 for the same period of the prior year, an increase of $541,000,
      primarily due to hiring more experienced research employees.





*Sales
      and Marketing Expenses.* Sales
      and
      marketing expenses increased to $5.1 million for the year ended September 30,
      2006 as compared to $3.9 million for the same period in 2005, an increase of
      $1.2 million or 30.8%. Share-based compensation was $738,000 for the year ended
      September 30, 2006 due to the above-mentioned adoption of SFAS 123R on October
      1, 2005. Higher sales volumes increased packaging and transportation costs
      by
      $521,000. Depreciation charges also increased by $158,000 due to the facilities
      expansion in the year ended September 30, 2006. As a percentage of net revenues,
      sales and marketing expenses have decreased slightly to 3.5% for the year ended
      September 30, 2006, from 3.8% for the same period in 2005, primarily
      attributable to an increase in net revenue.





*General
      and Administrative Expenses.* General
      and administrative expenses increased to $9.1 million, or 6.3% of revenues,
      for
      the year ended September 30, 2006 as compared to $6.0 million, or 5.9% of
      revenues, for the same period in 2005, an increase of $3.1 million or 51.7%.
      Share-based compensation included in general and administrative expenses was
      $1,792,000 for the year ended September 30, 2006 due to the above-mentioned
      adoption of SFAS 123R on October 1, 2005. Professional fees and expenses
      increased $2,253,000 from the year ended September 30, 2005, reflecting the
      additional costs in connection with the re-audit of the last three years’
financial statements and registration statement fee.





On
      August
      15, 2006, the SEC declared effective a post-effective amendment we filed on
      August 4, 2006 to terminate the effectiveness of the resale registration
      statement on Form SB-2 that included the resale of the shares held by those
      selling shareholders. On October 11, 2006, we filed a registration statement
      on
      Form S-1 that covers resales of the shares held by those shareholders, which
      was
      declared to be effective on October 19, 2006.  Because the interval from
      August 15, 2006 to October 19, 2006 exceeds 30 trading days, those selling
      shareholders would be eligible for the liquidated damages of $487,946 from
      us.
      We therefore recognized in general and administrative expenses an amount of
      $290,575 for the liquidated damage which was incurred up to September 30, 2006.
      There was no comparable expense in the prior year.





*Operating
      Income.* As
      a
      result of the above, operating income totaled $22.6 million for the year ended
      September 30, 2006 as compared to operating income of $15.5 million for the
      same
      period of the prior year, an increase of $7.1 million or 45.8%. As a percentage
      of net revenues, operating income was 15.7% for the year ended September 30,
      2006 as compared to 15.2% for the same period of the prior year.





*Finance
      Costs, Net.* Finance
      costs, net, increased to $1.9 million for the year ended September 30, 2006
      as
      compared to $845,000 for the same period of the prior year, an increase of
      $1.0
      million or 123.4%. We had $67.9 million in short term loans as of September
      30,
      2006 as compared to $39.5 million in short-term loans outstanding as of
      September 30, 2005.





*Other
      Expenses/Gain on Trading Securities.* Other
      expenses was $205,000 for year ended September 30, 2006, as compared to $490,000
      for the same period of 2005. In addition, we recognized income of $279,000
      from
      trading securities in the year ended September 30, 2006 from BAK International’s
      short-term investment in financial instruments during the period.





60




*Income
      tax expenses.* Income
      tax expenses decreased to $593,000 for the year ended September 30, 2006, as
      compared to $652,000 for the same period of 2005. The decrease was the result
      of
      a decrease in income tax rate in calendar year 2006 due to the additional
      capital invested in Shenzhen BAK.





*Net
      Income.* As
      a
      result of the foregoing, we increased our net income to $20.2 million for the
      year ended September 30, 2007 from $13.5 million for the same period of the
      prior year.





**Liquidity
      and Capital Resources**





We
      have
      historically financed our liquidity requirements from a variety of sources,
      including short-term bank loans, long-term bank loans and bills payable under
      bank credit agreements, sale of bills receivable and issuance of capital stock.
      As of September 30, 2007, we had cash and cash equivalents of $14.2 million,
      as
      compared to $21.1million as of September 30, 2006. In addition, we had pledged
      deposits amounting to $4.6 million and $13.0 million at September 30, 2007
      and
      September 30, 2006, respectively. Typically, banks will require borrowers to
      maintain deposits of approximately 20% to 100% of the outstanding loan balances
      and bills payable. The individual bank loans have maturities ranging from six
      to
      twelve months which coincides with the periods the cash remains pledged to
      the
      banks.





The
      following table sets forth a summary of our cash flows for the periods
      indicated:





**Year
                ended September 30,****2007**
            
            **2006**
            
            **2005****(In
                thousands)**Net
                cash provided by / (used in) operating activities
            
            
            2,986
            
            
            (5,685
            )
            
            8,015Net
                cash used in investing activities
            
            
            (65,895
            )
            
            (41,416
            )
            
            (30,596
            )Net
                cash provided by financing activities
            
            
            55,244
            
            
            35,047
            
            
            52,363Effect
                of exchange rate changes on cash and cash equivalents
            
            
            762
            
            
            98
            
            
            62Net
                increase/(decrease) in cash and cash equivalent
            
            
            (6,903
            )
            
            (11,956
            )
            
            29,844Cash
                and cash equivalents at the beginning of period
            
            
            21,100
            
            
            33,056
            
            
            3,212Cash
                and cash equivalents at the end of period
            
            
            14,197
            
            
            21,100
            
            
            33,056





***Operating
      Activities***





Net
      cash
      provided by operating activities was $3.0 million in the year ended September
      30, 2007 compared with net cash used in operating activities of $5.7 million
      in
      the same period in 2006. The improvement of $8.7 million in operating activities
      was mainly attributable to better control of trade account
      receivables.





Net
      cash
      used in operating activities was $5.7 million in the year ended September 30,
      2006 compared with net cash provided by operating activities of $8.0 million
      in
      the same period in 2005. The negative cash flow was mainly the result of an
      increase in inventory levels as we increased our production output in the year
      ended September 30, 2006, and also an increase in the level of our accounts
      receivable. However, we expect that our negative operating cash flow will
      improve due to our increased efforts to collect account receivables and to
      better control the inventory level taking into consideration increasing demand
      and business operation.





***Investing
      Activities***





Net
      cash
      used in investing activities increased from $41.4 million in the year ended
      September 30, 2006 to $65.9 million in the same period in 2007, mainly due
      to
      the purchase of equipment for a new automated cylindrical cell production line,
      a new automated prismatic cell production line and land use rights prepayments
      in Tianjin and Shenzhen.





Net
      cash
      used in investing activities increased from $30.6 million in the year ended
      September 30, 2005 to $41.4 million in the same period in 2006, primarily
      attributable to the construction of the facility to house a new cylindrical
      cell
      production line and a new automated aluminum cell line as well as an increase
      in
      our purchases of equipment.





61




***Financing
      Activities***





Net
      cash
      provided by financing activities was $55.2 million in the year ended September
      30, 2007 compared to $35.0 million in the same period in 2006. This was mainly
      attributable to (i) a $18.1 million increase in net proceeds from borrowings
      due
      to additional loans obtained for working capital and construction of new
      production lines in the year ended September 30, 2007, and (ii) decrease in
      cash
      deposited at banks to satisfy collateral requirements in the year ended
      September 30, 2007 was $2.4 million more than that in the same period in
      2006.





Net
      cash
      provided by financing activities was $52.4 million in the year ended September
      30, 2005 compared to $35 million in the same period in 2006. This was mainly
      attributable to (i) a $17.9 million increase in net proceeds from borrowing
      due
      to more loans being secured for working capital purposes in the year ended
      September 30, 2006, and (ii) decrease in cash deposited at banks to satisfy
      collateral requirements in the year ended September 30, 2006 was $18.7 million
      more than that in the same period in 2005. The impact of these cash outflows
      was
      offset by receipt of $55.4 million cash proceeds from the two capital raisings
      in January 2005 and September 2005.





As
      of
      September 30, 2007, the principal amounts outstanding under our credit
      facilities and lines of credit were as follows:





**Maximum**
              **Amount**
              **Available**
            
            **Amount**
              **Borrowed****(in
                thousands)****Short-term
                credit facilities:**Agricultural
                Bank of China
            
            $
            79,885
            
            $
            29,742Shenzhen
                Development Bank
            
            
            19,971
            
            
            19,971Shenzhen
                Ping An Bank
            
            
            26,628
            
            
            12,648China
                CITIC Bank
            
            
            26,628
            
            
            16,116China
                Construction Bank
            
            
            19,971
            
            
            -Bank
                of China
            
            
            33,199
            
            
            33,199Subtotal—short-term
                credit facilities
            
            $
            206,282
            
            $
            111,676**Long-term
                credit facilities:**Agricultural
                Bank of China
            
            
            26,628
            
            
            15,977China
                Development Bank
            
            
            13,314
            
            
            13,314Subtotal—long-term
                credit facilities
            
            $
            39,942
            
            $
            29,291**Lines
                of Credit:**Agricultural
                Bank of China
            
            
            
            
            
            566China
                Merchants Bank
            
            
            
            
            
            1,162Bank
                of China
            
            
            
            
            
            310Subtotal-lines
                of credit
            
            
            
            
            
            2,038Total
                Principal Outstanding
            
            
            
            
            $
            143,005




62




The
      above
      principal outstanding amounts under credit facilities included short-term bank
      loans of $89.9 million, long-term bank loans of $29.3 million and bills payable
      of $23.8 million.





For
      the
      purpose of presentation, the effect of increase in bills payable balances is
      included in operating activities in the statements of cash flows due to their
      nature.





During
      fiscal year 2007, we repaid 24 short-term bank loans totaling $111.1 million,
      and entered into 18 new short-term bank loan agreements totaling $128.0 million
      and two new long-term bank loan agreements totaling $29.3 million. During the
      fourth quarter of fiscal 2007, we repaid four short-term bank loans totaling
      $34.0 million, entered into seven short-term bank loan agreements totaling
      $55.3
      million, and borrowed $2.7 million under a long-term bank loan credit facility.
      The seven new short-term bank loan agreements provide for monthly interest
      payments at annual interest rates from 5.85% to 7.722%, with principal
      repayments at maturities during the second, third and fourth quarter of fiscal
      2008. These debt arrangements are generally guaranteed by Mr. Xiangqian Li,
      our
      chairman, president, and chief executive officer. The short-term bank loan
      with
      Shenzhen Eastern Branch, Agricultural Bank of China was secured by the property
      ownership and land use rights certificate to be obtained in relation to the
      land
      on which our corporate facilities have been constructed. The four repaid loan
      agreements were with Agricultural Bank of China and Bank of China, and the
      seven
      new short-term bank loan agreements are with Agricultural Bank of China,
      Shenzhen Development Bank, Bank of China, and Shenzhen Commercial Bank.





**** On
      June
      20, 2007, we renewed our comprehensive credit facility agreement with Shenzhen
      Longgang Branch, Shenzhen Development Bank to provide a maximum loan amount
      of
      RMB 150 million (approximately $20.0 million). The loan may be drawn at any
      time
      over the one-year period beginning June 20, 2007. This credit facility agreement
      is guaranteed by BAK International and Mr. Xiangqian Li, and is also secured
      by
      $20.0 million of inventory and $18.3 million of machinery and equipment. In
      addition, in the event (i) we are unable to maintain a good credit record at
      any
      other bank or we are involved in any material adverse litigation with any other
      bank, (ii) our liabilities exceed 70% of our assets, our current ratio is less
      than 0.8, or our monthly sales revenue declines by 10% as compared with the
      same
      period of the prior year, Shenzhen Development Bank is entitled to accelerate
      the loan repayment. As of September 30, 2007, we had borrowed approximately
      $20.0 million under this credit facility agreement.





On
      June
      8, 2007, we renewed our comprehensive credit facility agreement with Shenzhen
      Eastern Branch, Agricultural Bank of China to provide a maximum loan amount
      of
      RMB 800 million (approximately $106.5 million), including RMB 600 million
      (approximately $79.9 million) one-year term credit facilities and RMB 200
      million (approximately $26.6 million) five-year term credit facilities. Loans
      may be drawn under this renewed credit facility agreement beginning June 8,
      2007
      through May 23, 2008, with the term of the loan established at the time such
      loan is drawn, except as to funds borrowed under the loan agreement dated
      November 23, 2006, which may be drawn at any time within five years of the
      effective date of the loan agreement, and which will mature in five years after
      such funds are drawn. The credit facility agreement is guaranteed by BAK
      International and Mr. Xiangqian Li and is secured by the property ownership
      and
      land use rights certificate to be obtained in relation to the land on which
      the
      Company’s corporate facilities have been constructed. As of September 30, 2007,
      we had outstanding under this credit facility agreement a $24.0 million one-year
      term loan due in the second and third quarter of fiscal 2008, bearing interest
      at 6.57% and 7.722% per annum, and $5.8 million bills payable. As of September
      30, 2007, we also had a $16.0 million five-year term loan under this facility,
      which included a borrowed amount of $5.3 million with a current interest rate
      of
      5.832% and repayable on January 25, 2012, and a borrowed amount of $10.7 million
      with a current interest rate of 6.237%, payable in three installments of $2.7
      million on January 25, 2010, $6.7 million on January 25, 2011, and $1.3 million
      on January 25, 2012, respectively. The $16.0 million five-year term loan carries
      a floating interest rate of 90% of the People’s Bank of China benchmark rate,
      and is secured by pledged machinery and equipment valued at $15.8 million as
      of
      September 30, 2007.





On
      May
      15, 2007, we renewed our comprehensive credit facility agreement with Shenzhen
      Shuibei Branch, Shenzhen Ping An Bank to provide a maximum loan amount of RMB
      200 million (approximately $26.6 million), an increase of 100 million
      (approximately $13.3 million) as compared to the original credit facility
      agreement. The loan may be drawn at any time over the one-year period beginning
      May 15, 2007. As of September 30, 2007, we had borrowed $12.6 million under
      this
      credit facility agreement. This credit facility agreement is guaranteed by
      BAK
      International and Mr. Xiangqian Li.




On
      February 14, 2007, Shenzhen BAK renewed the Comprehensive Credit Facility
      Agreement of Maximum Amount with Dapeng Branch, China Construction Bank. We
      may
      borrow up to RMB 150 million ($20.0 million) under this Comprehensive
      Credit Facility Agreement, which will expire on February 14, 2008. As of
      September 30, 2007, we had no borrowings under this Comprehensive Credit
      Facility Agreement.





63




On
      March
      14, 2007, Shenzhen BAK renewed the Comprehensive Credit Facility Agreement
      of
      Maximum Amount with Shenzhen Branch, China CITIC Bank. This credit facility
      is
      guaranteed by BAK International and Mr. Xiangqian Li. We may borrow up to RMB
      200 million ($26.6 million) under this Comprehensive Credit Facility Agreement,
      which will expire on March 14, 2008. As of September 30, 2007, we had borrowed
      $13.3 million loan and $2.8 million bills payable under this Comprehensive
      Credit Facility Agreement.





On
      December 26, 2006, Shenzhen BAK entered into a four-year long-term loan
      agreement of $13.3 million with Shenzhen Branch, China Development Bank. The
      long-term loan is payable in three installments as follows:





RMB
      30
      million (approximately $4.0 million) on November 20, 2008;





RMB
      30
      million (approximately $4.0 million) on November 20, 2009; and





RMB
      40
      million (approximately $5.3 million) on December 26, 2010.





The
      long-term loan carries an annual interest rate equal to the benchmark rate
      of
      the People’s Bank of China for three- to five-year long-term loans, which is
      currently 6.48% per annum. The long-term loan is secured by Shenzhen BAK’s
      pledge of its new Research and Development Test Center, which is to be
      constructed in Shenzhen, China, after Shenzhen BAK obtains the required land
      use
      rights for the location of the facility; such land use rights will also be
      pledged as security. The obligations of Shenzhen BAK under the loan agreement
      are guaranteed by Mr. Xiangqian Li. We borrowed the full $13.3 million under
      this loan agreement on December 27, 2006.





We
      had a
      negative working capital (current assets less current liabilities excluding
      share-based payment liabilities) of $7.0 million as of September 30, 2007,
      as
      compared to working capital of $4.8 million as of September 30, 2006, a decrease
      of $11.8 million. This decrease was primarily attributable to a lease prepayment
      of $14.1 million for acquisition of land use rights in Tianjin. We had
      short-term bank loans maturing in less than one year of $89.9 million as of
      September 30, 2007, as compared to $67.9 million as of September 30, 2006,
      an
      increase of $22.0 million.





We
      believe that our current cash and cash equivalents and anticipated cash flow
      from operations will be sufficient to meet our anticipated cash needs, including
      our cash needs for working capital and capital expenditures for at least the
      next 12 months. We may, however, require additional cash due to changing
      business conditions or other future developments, including any investments
      or
      acquisitions we may decide to pursue. If our existing cash and amount available
      under existing credit facilities is insufficient to meet our requirements,
      we
      may seek to sell additional equity securities, debt securities or borrow from
      lending institutions. We can make no assurances that financing will be available
      in the amounts we need or on terms acceptable to us, if at all. The sale of
      additional equity securities, including convertible debt securities, would
      dilute the interests of our current shareholders. The incurrence of debt would
      divert cash for working capital and capital expenditures to service debt
      obligations and could result in operating and financial covenants that restrict
      our operations and our ability to pay dividends to our shareholders. If we
      are
      unable to obtain additional equity or debt financing as required, our business
      operations and prospects may suffer.





**Capital
      Expenditures**




We
      made
      capital expenditures of $30.6 million, $41.4 million, and $65.8 million in
      fiscal year 2005, 2006 and 2007, respectively. Our capital expenditures were
      used primarily to purchase plant and equipment to expand our production capacity
      and the lease payments in Tianjin and Shenzhen. The table below sets forth
      the
      breakdown of our capital expenditures by use for the periods indicated.





**Year
                ended September 30,****2007**
            
            **2006**
            
            **2005****(In
                thousands)**Construction
                costs
            
            
            16,118
            
            
            13,670
            
            
            21,015Lease
                prepayment
            
            
            17,042
            
            
            -
            
            
            -Purchase
                of equipment
            
            
            32,675
            
            
            27,712
            
            
            9,579Total
                capital expenditure
            
            
            65,835
            
            
            41,382
            
            
            30,594





64




We
      estimate that our total capital expenditures in fiscal 2008 will reach
      approximately $60.7 million, primarily to purchase manufacturing equipment
      for
      the expansion of our production lines and construction of new factories in
      Tianjin and new Research and Development Test Centre in Shenzhen.





We
      have
      completed the construction of 188,918 square meters of new facilities comprised
      of manufacturing facilities, warehousing and packaging facilities, dormitory
      space and administrative offices at the BAK Industrial Park. Of that space,
      approximately 111,000 square meters are new manufacturing facilities. We have
      completed construction and put into use an additional administrative area,
      production facility, four manufacturing facilities, a warehouse and packaging
      facility, three dormitories and two dining halls. At present, we have no
      significant payment obligations related to these facilities.





We
      do not
      hold the land use right to the tract of property on which we have constructed
      our manufacturing facilities and other related facilities. According to the
      relevant PRC laws and regulations, a land use right certificate, along with
      government approvals for land planning, project planning, and construction
      must
      be obtained before the construction of any building is commenced. An ownership
      certificate will be granted by the government upon application under the
      condition that the aforementioned certificate and government approvals are
      obtained. On June 20, 2007, we obtained the approvals for project planning
      and
      construction from the government of Shenzhen.





We
      are
      constructing and have completed a substantial part of the construction of our
      facilities with the approval of the local government of Kuichong Township of
      Longgang District of Shenzhen, which we understand does not have the authority
      to grant us the land use rights certificate. Under our agreement with the
      Kuichong Township government, we have to pay for a 50-year land use rights
      certificate at an agreed unit price, which in the aggregate amounted to $4.0
      million as of September 30, 2004 and $3.5 million as of September 30, 2007,
      following an adjustment of the site area after a land survey and foreign
      exchange adjustment. Out of the $3.5 million, $3.0 million has been paid to
      the
      Kuichong Township government. The Shenzhen municipal government has approved
      the
      grant of a land use rights certificate, which we are currently in the process
      of
      obtaining. In the meantime, we have recognized a net payable purchase price
      of
      $529,000 for the land use rights on the assumption that it will be on the same
      terms as those agreed with the Kuichong Township government.





As
      of
      September 30, 2007, we had paid the lease prepayment amount of $717,000 for
      acquisition of land use rights in Shenzhen for a new Research and Development
      Test Centre and have obtained the land use rights certificate.





As
      of
      September 30, 2007, we had fully paid the lease prepayment amount of $14.1
      million for acquisition of land use rights in Tianjin and the application for
      the land use rights certificate was in process.





**Contractual
      Obligations and Commercial Commitments**





The
      following table sets forth our contractual obligations and commercial
      commitments as of September 30, 2007:


**Payment
                  Due by Period****Total**
              
              **Less
                  than**
                **1
                  year**
              
              **1-3**
                **years**
              
              **3-5**
                **years**
              
              **More
                  than**
                **5
                  years****(In
                  thousands)**Short-term
                  bank loans
              
              
              89,871
              
              
              89,871
              
              
              -
              
              
              -
              
              
              -Bills
                  payable
              
              
              23,846
              
              
              23,846
              
              
              -
              
              
              -
              
              
              -Long-term
                  bank loans
              
              
              29,291
              
              
              -
              
              
              10,651
              
              
              18,640
              
              
              -Land
                  use right payable
              
              
              529
              
              
              529
              
              
              -
              
              
              -
              
              
              -Capital
                  commitments
              
              
              12,313
              
              
              12,313
              
              
              -
              
              
              -
              
              
              -Future
                  interest payment on short-term bank loans
              
              
              3,471
              
              
              3,471
              
              
              -
              
              
              -
              
              
              -Future
                  interest payment on long-term bank loans
              
              
              5,514
              
              
              1,868
              
              
              2,894
              
              
              752
              
              
              -Total
              
              
              164,835
              
              
              131,898
              
              
              13,545
              
              
              19,392
              
              
              -





65




Other
      than the contractual obligations and commercial commitments set forth above,
      we
      did not have any other long-term debt obligations, operating lease obligations,
      capital commitments, purchase obligations or other long-term liabilities as
      of
      September 30, 2007.





**Off-Balance
      Sheet Transactions**





In
      the
      ordinary course of business practices in China, we enter into transactions
      with
      banks or other lenders where we guarantee the debt of other parties. These
      parties may be related to or unrelated to us. Conversely, our debt with lenders
      may also be guaranteed by other parties which may be related or unrelated to
      us.





Under
      U.S. GAAP, these transactions may not be recorded on our balance sheet or may
      be
      recorded in amounts different than the full contract or notional amount of
      the
      transaction. Our primary off-balance sheet arrangements would result from our
      loan guaranties in which Shenzhen BAK would provide contractual assurance of
      the
      debt, or guarantee the timely repayment of principal and interest of the
      guaranteed party.





Typically,
      no fees are received for this service. Thus in those transactions, Shenzhen
      BAK
      would have a contingent obligation related to the guarantee of payment in the
      event the underlying loan is in default.





Transactions
      described above require accounting treatment under FASB Interpretation 45,
      “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including
      Indirect Guarantees of Indebtedness of Others,” or FIN 45. Under that standard,
      we would be required to recognize the fair value of guarantees issued or
      modified after December 31, 2002 for non-contingent guarantee obligations,
      and
      also a liability for contingent guarantee obligations based on the probability
      that the guaranteed party will not perform under the contractual terms of the
      guaranty agreement.





We
      have
      assessed the contingent liabilities arising from the above-described guarantees
      and have considered them immaterial to the consolidated financial statements.
      Therefore, no liabilities in respect of the guarantees were recognized as of
      September 30, 2007. On September 30, 2007, we provided a guarantee for a
      non-related party, Nanjing Special Metal Equipment Co., Ltd., of one-year
      short-term bank loans with Evergrowing Bank with a maturity of August 6, 2010.
      We also provided a guarantee for another non-related party, Hunan Reshine New
      Material Ltd. The maximum amount of our exposure for these guarantees were
      $6.7
      million at September 30, 2007.





**Interest
      Rate Risk**





We
      are
      exposed to interest rate risk primarily with respect to our short-term bank
      loans and long-term bank loans. Although the interest rates, which are based
      on
      the banks’ prime rates with respect to our short-term loans are fixed for the
      terms of the loans, the terms are typically six to twelve months for short-term
      bank loans and interest rates are subject to change upon renewal. There were
      no
      material changes in interest rates for short-term bank loans renewed during
      the
      fiscal year ended September 30, 2007.





We
      have a
      long term bank loan of $13.3 million maturing on December 26, 2010 with Shenzhen
      Branch, China Development Bank with three installments payable under which
      we
      have outstanding borrowings; the interest rate we pay on this long term loan
      is
      benchmark rate of the People’s Bank of China for three- to five- year long-term
      loans. In addition, we have a RMB 200 million (approximately $26.6 million)
      long-term loan agreement with Shenzhen Eastern Branch, Agricultural Bank of
      China, which became effective on December 18, 2006. The long-term loan may
      be
      drawn at any time within five years from the effective date of the agreement
      and
      will mature five years after it is drawn. The term loan, when drawn, will carry
      a floating interest rate of 90% of The People’s Bank of China benchmark rate. As
      of September 30, 2007, we had borrowed $16.0 million under this loan agreement.
      This loan comprises a borrowed amount of $5.3 million with a current interest
      rate of 5.832% and repayable on January 25, 2012, and a borrowed amount of
      $10.7
      million with a current interest rate of 6.237%, payable in three installments
      of
      $2.7 million on January 25, 2010, $6.7 million on January 25, 2011, and $1.3
      million on January 25, 2012, respectively.





A
      hypothetical 1.0% increase in the annual interest rates for all of our credit
      facilities under which we had outstanding borrowings at September 30, 2007,
      would decrease net income before provision for income taxes by approximately
      $1.2 million or 190.5% for the fiscal year ended September 30, 2007. Management
      monitors the banks’ prime rates in conjunction with our cash requirements to
      determine the appropriate level of debt balances relative to other sources
      of
      funds. We have not entered into any hedging transactions in an effort to reduce
      our exposure to interest rate risk.





66




**Foreign
      Exchange Risk**





Although
      our reporting currency is the U.S. dollar, the financial records of our
      operating subsidiaries are maintained in their local currency, the RMB, which
      is
      our functional currency. Approximately 72.4% of our revenues and 98.2% of our
      costs and expenses for the year ended September 30, 2007 are denominated in
      RMB,
      with the balance denominated in U.S. dollars. Approximately 99.6% of our assets
      except for cash were denominated in RMB as of September 30, 2007. 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 RMB revenues, earnings and assets as expressed in our U.S. dollar financial
      statements will decline. 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. An average appreciation (depreciation) of the
      RMB
      against the U.S. dollar of 5% would increase (decrease) our comprehensive income
      by $5.9 million based on our outstanding revenues, costs and expenses, assets
      and liabilities denominated in RMB as of September 30, 2007. As of September
      30,
      2007, our accumulated other comprehensive income was $9.9 million. We have
      not
      entered into any hedging transactions in an effort to reduce our exposure to
      foreign exchange risk.





**Critical
      Accounting Policies**





Our
      consolidated financial information has been prepared in accordance with U.S.
      GAAP, which requires us to make judgments, estimates and assumptions that affect
      (1) the reported amounts of our assets and liabilities, (2) the disclosure
      of
      our contingent assets and liabilities at the end of each fiscal period and
      (3)
      the reported amounts of revenues and expenses during each fiscal period. We
      continually evaluate these estimates based on our own historical experience,
      knowledge and assessment of current business and other conditions, our
      expectations regarding the future based on available information and reasonable
      assumptions, which together form our basis for making judgments about matters
      that are not readily apparent from other sources. Since the use of estimates
      is
      an integral component of the financial reporting process, our actual results
      could differ from those estimates. Some of our accounting policies require
      a
      higher degree of judgment than others in their application.





When
      reviewing our financial statements, the following should also be considered:
      (1)
      our selection of critical accounting policies, (2) the judgment and other
      uncertainties affecting the application of those policies, and (3) the
      sensitivity of reported results to changes in conditions and assumptions. We
      believe the following accounting policies involve the most significant judgment
      and estimates used in the preparation of our financial statements.





***Recoverability
      of Long-Lived Assets***





Our
      business is capital intensive and has required, and will continue to require,
      significant investments in property, plant and equipment. As of September 30,
      2006 and September 30, 2007, the carrying amount of property, plant and
      equipment, net was $109.4 million and $145.1 million, respectively. We assess
      the recoverability of property, plant and equipment to be held and used by
      a
      comparison of the carrying amount of an asset or group of assets to the future
      net undiscounted cash flows expected to be generated by the asset or group
      of
      assets. If such assets are considered impaired, the impairment recognized is
      measured as the amount by which the carrying amount of the assets exceeds the
      fair value of the assets.





A
      prolonged general economic downturn and, specifically, a continued downturn
      in
      the battery cell industry as well as other market factors could intensify
      competitive pricing pressure, create an imbalance of industry supply and demand,
      or otherwise diminish volumes or profits. Such events, combined with changes
      in
      interest rates, could adversely affect our estimates of future net cash flows
      to
      be generated by our long-lived assets. Consequently, it is possible that our
      future operating results could be materially and adversely affected by
      additional impairment charges related to the recoverability of our long-lived
      assets.





67





***Inventory
      Obsolescence***





We
      review
      our inventory for potential impairment on a quarterly or more frequent basis
      as
      deemed necessary. Such review includes, but is not limited to, reviewing the
      levels of inventory versus customer requirements and obsolescence. The review
      and evaluation also considers the potential sale of impaired inventory at lower
      than market prices. At each balance sheet date, we identify inventories that
      are
      worth less than cost and write them down to their net realizable value and
      the
      difference is charged to our cost of revenues of that period. Though management
      considers such write-down of inventories adequate and proper, changes in sales
      volumes due to unexpected economic or competitive conditions are among the
      factors that could materially affect the adequacy of such write down.





***Allowance
      for Doubtful Accounts***





The
      allowance for doubtful accounts is our best estimate of the amount of probable
      credit losses in our accounts receivable. We determine the allowance based
      on
      historical write-off experience, customer specific facts and economic
      conditions. Bad debt expense is included in the general and administrative
      expenses. We review outstanding account balances individually for
      collectibility. Account balances are charged off against the allowance after
      all
      means of collection have been exhausted and the potential for recovery is
      considered remote. As of September 30, 2006 and September 30, 2007, we had
      not
      charged off any balances as we had yet to exhaust all means of collection.





***Stock-Based
      Compensation***





We
      have
      adopted the alternate intrinsic value method recognition provision of SFAS
      123.
      Pursuant to the requirements of SFAS 123, we have disclosed in our annual
      financial statements for the year ended September 30, 2005 the pro forma effect
      of application of the preferred fair value method recognition provision.
      Further, effective October 1, 2005, we adopted the provisions of SFAS 123R,
      which requires the use of the fair value method of accounting for share-based
      compensation. Under the fair value based method, compensation cost related
      to
      employee stock options or similar equity instruments is measured at the grant
      date based on the value of the award and is recognized over the service period,
      which is usually the vesting period. SFAS 123R also requires measurement of
      cost
      of a liability- classified award based on its current fair value. The fair
      value
      of the liability-classified award will be subsequently remeasured at each
      reporting date through the settlement date. Change in fair value during the
      requisite service period will be recognized as compensation cost over that
      period.





We
      determine fair value using the Black-Scholes model. Under this model, certain
      assumptions, including the risk-free interest rate, the expected life of the
      options and the estimated fair value of our ordinary shares and the expected
      volatility, are required to determine the fair value of the options. If
      different assumptions had been used, the fair value of the options would have
      been different from the amount we computed and recorded, which would have
      resulted in either an increase or decrease in the compensation expense.





Pursuant
      to SFAS 123R, we have recognized compensation costs of $2,559,000 in relation
      to
      stock-based award to our employees and non-employee directors in fiscal year
      2007 as an increase in both the operating costs and shareholder’s equity.





***Changes
      in Accounting Standards***





In
      July
      2006, the FASB issued FIN 48, “Accounting for Uncertainty in Income Taxes—an
      Interpretation of FASB Statement No. 109,” which clarifies the accounting for
      uncertainty in tax positions. This Interpretation requires that we recognize
      in
      our consolidated financial statements the impact of a tax position if that
      position is more likely than not of being sustained on audit, based on the
      technical merits of the position. The provisions of FIN 48 become effective
      for us on October 1, 2007, with the cumulative effect of the change in
      accounting principle, if any, recorded as an adjustment to opening retained
      earnings. The management is in the process of evaluating this interpretation
      and
      therefore has not yet determined the impact that FIN 48 will have on the
      Company’s financial statements upon adoption.




In
      September 2006, the FASB issued SFAS 157, “Fair Value Measurements”, which
      defines fair value, establishes a framework for measuring fair value in
      generally accepted accounting principles and expands disclosures about fair
      value measurements. SFAS 157 applies under other accounting pronouncements
      that
      require or permit fair value measurements, where fair value is the relevant
      measurement attribute. The standard does not require any new fair value
      measurements. SFAS 157 is effective for financial statements issued for fiscal
      years beginning after November 15, 2007, and interim periods within those fiscal
      years. The management is in the process of evaluating the impact SFAS 157 will
      have on the Company’s consolidated financial statements upon
      adoption.




68





In
      February 2007, FASB issued SFAS No. 159, “The Fair Value Option for Financial
      Assets and Financial Liabilities - Including an Amendment of FASB Statement
      No.
      115,” SFAS No. 159 permits entities to choose to measure many financial
      instruments and certain other items at fair value. Entities that elect the
      fair
      value option will report unrealized gains and losses in earnings at each
      subsequent reporting date. The fair value option may be elected on an
      instrument-by-instrument basis, with a few exceptions. SFAS No. 159 also
      establishes presentation and disclosure requirements to facilitate comparisons
      between entities that choose different measurement attributes for similar assets
      and liabilities. The requirements of SFAS No. 159 are effective for our fiscal
      year beginning on October 1, 2008. Our management is in the process of
      evaluating this guidance and therefore has not yet determined the impact that
      SFAS 159 will have on our financial statements upon adoption.




In
      September 2006, the Securities and Exchange Commission (“SEC”) issued Staff
      Accounting Bulletin (“SAB”) No. 108, which provides guidance on the process of
      quantifying financial statement misstatements. In SAB No. 108, the SEC staff
      establishes an approach that requires quantification of financial statement
      errors, under both the iron-curtain and the roll-over methods, based on the
      effects of the error on each of our financial statements and the related
      financial statement disclosures. SAB No. 108 is generally effective for annual
      financial statements in the first fiscal year ending after November 15, 2006.
      The transition provisions of SAB No. 108 permits existing public companies
      to
      record the cumulative effect in the first year ending after November 15, 2006
      by
      recording correcting adjustments to the carrying values of assets and
      liabilities as of the beginning of that year with the offsetting adjustment
      recorded to the opening balance of retained earnings. The
      Company has adopted SAB No.
      108 and considers it to have no material impact on the Company’s financial
      statements.





In
      December 2007, the FASB issued SFAS No. 160 “Noncontrolling Interests in
      Consolidated Financial Statements-an amendment of ARB No. 51”. SFAS 160
      establishes accounting and reporting standards for the noncontrolling interest
      in a subsidiary and for the deconsolidation of a subsidiary. The guidance will
      become effective for the fiscal year beginning after December 15, 2008. The
      management is in the process of evaluating the impact SFAS 160 will have on
      the
      Company’s financial statements upon adoption.





In
      December 2007, the FASB issued SFAS No. 141 (Revised) “Business Combinations”.
      SFAS 141 (Revised) establishes principles and requirements for how the acquirer
      of a business recognizes and measures in its financial statements the
      identifiable assets acquired, the liabilities assumed, and any noncontrolling
      interest in the acquiree. The statement also provides guidance for recognizing
      and measuring the goodwill acquired in the business combination and determines
      what information to disclose to enable users of the financial statements to
      evaluate the nature and financial effects of the business combination. The
      guidance will become effective for the fiscal year beginning after December
      15,
      2008. The management is in the process of evaluating the impact SFAS 141
      (Revised) will have on the Company’s financial statements upon
      adoption.





**Exchange
      Rates**





The
      financial records of Shenzhen BAK, BAK Electronics and BAK Tianjin are
      maintained in Renminbi. In order to prepare our financial statements, we have
      translated amounts in Renminbi into amounts in U.S. dollars. The amounts of
      our
      assets and liabilities on our balance sheets are translated using the closing
      exchange rate as of the date of the balance sheet. Revenues, expenses, gains
      and
      losses are translated using the average exchange rate prevailing during the
      period covered by such financial statements. Adjustments resulting from the
      translation, if any, are included in our cumulative other comprehensive income
      (loss) in our stockholders’ equity section of our balance sheet. All other
      amounts that were originally booked in Renminbi and translated into U.S. dollars
      were translated using the closing exchange rate on the date of recognition.
      Consequently, the exchange rates at which the amounts in those comparisons
      were
      computed varied from year to year.




69





The
      exchange rates used to translate amounts in Renminbi into U.S. dollars in
      connection with the preparation of our financial statements were as follows:





**RMB
                per U.S. Dollar****2007**
            
            **2006**
            
            **2005**Balance
                sheet items as of September 30
            
            
            7.5108
            
            
            7.9087
            
            
            8.0920Amounts
                included in the statement of income and comprehensive income, statement
                of
                changes in stockholders’ equity and statement of cash flows for the years
                ended September 30
            
            
            7.7127
            
            
            8.0286
            
            
            8.2413





Renminbi
      is not readily convertible into U.S. dollars in the foreign exchange markets.
      The foreign exchange rate between the RMB and the U.S. dollar had been stable
      at
      approximately RMB 8.28 to $1.00 for the last few years. On July 21, 2005, the
      Central Bank of China announced that it would allow the RMB to move to a
      flexible exchange rate with a maximum daily variance against the U.S. dollar
      of
      0.3%. No provision has been made in the accompanying financial statements for
      the change in currency policy, nor has any determination been made, as to the
      potential impact, this may have on our future operations. As a result, the
      stated exchange rates may not accurately reflect the amount in U.S. dollars
      into
      which RMB could be actually converted at the date or during the periods
      reflected in the foregoing table.





**Item
      7A.  Quantitative and Qualitative Disclosures about Market
      Risk.**





The
      information required by this item is discussed in Item 7. “Interest Rate Risk”
and “Foreign Exchange Risk.”





**Item
      8.  Financial Statements and Supplementary Data.********





**Consolidated
      Financial Statements**





The
      financial statements required by this item begin on page F-1
      hereof.





***Quarterly
      Financial Results***





The
      following table reflects our unaudited quarterly consolidated statement of
      operations data for the quarters presented. We believe that the historical
      quarterly information has been prepared substantially on the same basis as
      the
      audited consolidated financial statements, and all necessary adjustments,
      consisting only of normal recurring adjustments, have been included in the
      amounts below to state fairly the unaudited quarterly results of operations
      data.





**Sep
                30**
              **2007**
            
            **June
                30**
              **2007**
            
            **Mar
                31**
              **2007**
            
            **Dec
                31**
              **2006**
            
            **Sep
                30**
              **2006**
            
            **June
                30**
              **2006**
            
            **Mar
                31**
              **2006**
            
            **Dec
                31**
              **2005****USD
                (in thousands, except percentage) / Unaudited**Revenues
            
            
            43,772
            
            
            29,477
            
            
            29,529
            
            
            43,082
            
            
            46,108
            
            
            33,397
            
            
            38,220
            
            
            26,104Cost
                of revenues
            
            
            37,571
            
            
            24,415
            
            
            23,383
            
            
            34,885
            
            
            34,292
            
            
            24,899
            
            
            25,977
            
            
            19,028Gross
                Profit
            
            
            6,201
            
            
            5,063
            
            
            6,146
            
            
            8,197
            
            
            11,816
            
            
            8,498
            
            
            12,243
            
            
            7,076Gross
                Profit ratio
            
            
            14.2
            %
            
            17.2
            %
            
            20.8
            %
            
            19.0
            %
            
            25.6
            %
            
            25.4
            %
            
            32.0
            %
            
            27.1
            %Research
                and development costs
            
            
            1,274
            
            
            1,118
            
            
            928
            
            
            637
            
            
            1,499
            
            
            477
            
            
            464
            
            
            495Sales
                and marketing expenses
            
            
            1,424
            
            
            1,165
            
            
            1,064
            
            
            1,042
            
            
            1,512
            
            
            1,041
            
            
            1,297
            
            
            1,205General
                and administrative expenses
            
            
            3,070
            
            
            4,189
            
            
            2,152
            
            
            2,961
            
            
            2,921
            
            
            1,962
            
            
            2,026
            
            
            2,162Operating
                income/ (loss)
            
            
            433
            
            
            (1,409
            )
            
            2,002
            
            
            3,557
            
            
            5,884
            
            
            5,018
            
            
            8,456
            
            
            3,214Finance
                costs
            
            
            2,089
            
            
            1,069
            
            
            1,164
            
            
            901
            
            
            895
            
            
            297
            
            
            515
            
            
            181Other
                (income) /expenses
            
            
            (329
            )
            
            90
            
            
            240
            
            
            (932
            )
            
            166
            
            
            1
            
            
            34
            
            
            4Gain
                on trading securities
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            -
            
            
            279Income
                / (Loss) before income taxes
            
            
            (1,327
            )
            
            (2,570
            )
            
            598
            
            
            3,588
            
            
            4,823
            
            
            4,720
            
            
            7,907
            
            
            3,308Income
                taxes expenses / (benefit)
            
            
            (477
            )
            
            120
            
            
            158
            
            
            5
            
            
            81
            
            
            43
            
            
            353
            
            
            116Net
                Income/(Loss)
            
            
            (850
            )
            
            (2,690
            )
            
            440
            
            
            3,583
            
            
            4,742
            
            
            4,677
            
            
            7,554
            
            
            3,192





70





**Item
      9.  Changes in and Disagreements with Accountants on Accounting and
      Financial Disclosure.**





On
      January 20, 2005, we dismissed George Stewart, C.P.A. as our independent
      registered public accounting firm and appointed Schwartz Levitsky Feldman LLP,
      as our independent registered public accounting firm. There were no
      disagreements or events as described in Item 304(a)(1)(iv) of Regulation S-B
      in
      connection with the change in accountants described above.





As
      disclosed in our current report on Form 8-K filed with the SEC on August 4,
      2006, as amended on August 16, 2006, we appointed KPMG on May 15, 2006 as our
      independent registered public accounting firm to replace Schwartz Levitsky
      Feldman LLP. This current report on Form 8-K is hereby incorporated herein
      by
      reference.





As
      disclosed in our current report on Form 8-K filed with the SEC on April 3,
      2007,
      as amended on April 11, 2007 and April 17, 2007, on March 28, 2007 we dismissed
      KPMG as our independent registered public accounting firm and appointed PKF
      as
      our independent registered public accounting firm, in each case effective April
      1, 2007. These current reports on Form 8-K are hereby incorporated by reference
      herein. As stated in our current report on Form 8-K, as amended, during the
      period of KPMG’s engagement as the Company’s principal accountants, beginning
      May 15, 2006, through March 31, 2007, there were no (1) disagreements with
      KPMG
      on any matter of accounting principles or practices, financial statement
      disclosure, or auditing scope or procedures which disagreements, if not resolved
      to the satisfaction of KPMG, would have caused KPMG to make reference in
      connection with their opinion to the subject matter of the disagreement or
      (2)
“reportable events” as defined in Item 304(a)(1)(v) of Regulation S-K, except
      that KPMG advised the Company and its subsidiaries (the “Group”) of certain
      material weakness in its internal controls over financial reporting, which
      were
      reported by the Company under Item 9A. “Controls and Procedures” of the
      Company’s Annual Report on Form 10-K for the fiscal year ended September 30,
      2006 (the “2006 Form 10-K”), to the effect that the Company had an insufficient
      complement of personnel, including in senior management, with a level of
      accounting knowledge, experience and training in the application of U.S. GAAP
      and did not implement adequate supervisory review to ensure that the
      consolidated financial statement were prepared in conformity with U.S. GAAP.
      The
      lack of sufficient personnel with such accounting knowledge, experience and
      training contributed to the following material weaknesses in the Group’s
      (i) accounting for capitalization of interest costs, and the related
      recognition of property, plant and equipment and depreciation expense; (ii)
      accounting for deferred taxes under U.S. GAAP, in particular the identification
      and measurement of differences between the respective tax and financial
      reporting bases of certain assets and liabilities and the determination of
      the
      applicable income tax rate to ensure that deferred taxes were accurately
      presented in the Group’s consolidated financial statements; (iii) accounting for
      the share-based compensation, in particular the accounting for cancellation
      and
      replacement of certain option grants and the classification of the associated
      share-based compensation expense in the consolidated statement of income and
      comprehensive income; (iv) calculation of earnings per share in accordance
      with
      Statement of Financial Accounting Standards No. 128 “Earnings per Share,” in
      particular the identification of dilutive instruments in the calculation of
      diluted earnings per share; (v) accounting for the complete and accurate
      recognition of construction in progress assets; and (vi) accounting for
      construction in progress assets and the determination of depreciation expense
      when the assets are ready for their intended use.





As
      further previously disclosed in our current report on Form 8-K filed April
      3,
      2007, as amended, the audit report, dated August 22, 2006, of KPMG on the
      consolidated financial statements of the Group as of September 30, 2005 and
      2004
      and for the three-year period ended September 30, 2005, which was included
      in
      Amendment No. 3 to Form 10-KSB/A for the fiscal year ended September 30, 2005,
      did not contain an adverse opinion or disclaimer of opinion, and was not
      qualified or modified as to uncertainty, audit scope or accounting principles,
      except as follows: KPMG’s report contained a separate paragraph stating that “As
      described in Note 3 to the accompanying consolidated financial statements,
      the
      Company has restated the consolidated balance sheets as of September 30, 2004
      and 2005 and the related consolidated statements of income and comprehensive
      income, and cash flows for each of the years in the three-year period ended
      September 30, 2005, which were previously audited by other independent
      accountants, to correct certain accounting errors that were detected after
      the
      original issuance of those consolidated financial statements.” The audit report,
      dated December 8, 2006, of KPMG on the consolidated financial statements of
      the
      Group as of and for the fiscal years ended September 30, 2006 and 2005, which
      was included in the 2006 Form 10-K, did not contain an adverse opinion or
      disclaimer of opinion, and was not qualified or modified as to uncertainty,
      audit scope or accounting principles, except as follows: KPMG’s report contained
      a separate paragraph stating that “As discussed in note 2(q) to the consolidated
      financial statements, on October 1, 2005, the Group adopted Statement of
      Financial Accounting Standards (“SFAS”) No.123 (Revised 2004), “Share-Based
      Payment”, using the modified prospective method, representing a change in the
      Group’s method of accounting for stock-based compensation.” The audit report of
      KPMG on management’s assessment of the effectiveness of internal control over
      financial reporting and the effectiveness of internal control over financial
      reporting as of September 30, 2006, which is included in the 2006 Form 10-K,
      did
      not contain any adverse opinion or disclaimer of opinion, nor was it qualified
      or modified as to uncertainty, audit scope, or accounting principles, except
      that KPMG’s report indicates that the Group did not maintain effective internal
      control over financial reporting as of September 30, 2006, because of the effect
      of material weaknesses, including those set forth above, described in such
      report and elsewhere in the 2006 Form 10-K.




71





As
      further previous disclosed in our current report on Form 8-K filed April 3,
      2007, as amended, the Company provided KPMG with a copy of the disclosures
      in
      such Form 8-K, as amended, and requested that KPMG furnish a letter, pursuant
      to
      Item 304(a)(3) of Regulation S-K, addressed to the Securities and Exchange
      Commission stating whether or not it agreed with that disclosure. The Company
      filed this amendment to such Form 8-K, as amended by the Form 8-K/A filed April
      17, 2007, to provide a copy of the letter received from KPMG, which was attached
      thereto as Exhibit 16 and is incorporated herein by reference.





As
      further previous disclosed in our current report on Form 8-K filed April 3,
      2007, as amended, during the Company’s two most recent fiscal years ended
      September 30, 2005 and 2006, and in the subsequent interim period through March
      31, 2007, the Company did not consult with PKF regarding (1) the application
      of
      accounting principles to a specified transaction or the type of audit opinion
      that might be rendered on the Company’s consolidated financial statements or (2)
      any of the matters or events set forth in Item 304(a)(2)(i) and (ii) of
      Regulation S-K.




**Item
      9A.  Controls and Procedures** ***.*** ****





**(a)**
            **Evaluation
                of Disclosure Controls and
                Procedures**





The
      Company maintains disclosure controls and procedures that are designed to ensure
      that information required to be disclosed in reports that we file or submit
      under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is
      recorded, processed, summarized, and reported during the year and that such
      information is accumulated and communicated to our management, including our
      chief executive officer and chief financial officer, as appropriate to allow
      timely decisions regarding required disclosure. Our internal control over
      financial reporting is designed to provide reasonable assurance to our
      management and Board of Directors regarding the reliability of financial
      reporting and published financial statements.





As
      of
      September 30, 2007, our Management, including our chief executive officer and
      chief financial officer, evaluated the effectiveness of our disclosure controls
      and procedures, in accordance with Rules 13a-15(f) and 15d-15(f) of the Exchange
      Act. As of the date of this assessment, our management concluded that through
      the ongoing remediation efforts from last year, the Company was able to correct
      numerous internal controls deficiencies. However, these remediation efforts,
      individually and in the aggregate, were insufficient to fully eliminate those
      weaknesses that have materially affected, or were reasonably likely to
      materially affect, our internal control over financial reporting in fiscal
      year
      2007.





As
      a
      result, our chief executive officer and chief financial officer concluded that
      our disclosure controls and procedures were not effective as of September 30,
      2007, at the reasonable assurance level.





**(b)**
            **Management’s
                Report on Internal Control Over Financial
                Reporting**





Management
      is responsible for establishing and maintaining adequate internal control over
      financial reporting for the Company. Internal control over financial reporting
      refers to the process designed by, or under the supervision of, our chief
      executive officer and chief financial officer, and effected by our Board of
      Directors, management and other personnel, to provide reasonable assurance
      regarding the reliability of our financial reporting and the preparation of
      financial statements for external purposes in accordance with U.S. GAAP, and
      includes those policies and procedures that:





(1)
            pertain
                to the maintenance of records that in reasonable detail accurately
                and
                fairly reflect the transactions and dispositions of our
                assets;


(2)
            provide
                reasonable assurance that transactions are recorded as necessary
                to permit
                preparation of financial statements in accordance with U.S. GAAP,
                and that
                our receipts and expenditures are being made only in accordance with
                the
                authorization of our management and directors;
                and


(3)
            provide
                reasonable assurance regarding prevention or timely detection of
                unauthorized acquisition, use or disposition of our assets that could
                have
                a material effect on the financial
                statements.




72




Because
      of inherent limitations, internal control over financial reporting may not
      prevent or detect misstatements. Also, projections of any evaluation of
      effectiveness to future periods are subject to the risk that controls may become
      inadequate because of changes in conditions, or that the degree of compliance
      with the policies or procedures may deteriorate.





Management
      assessed the effectiveness of our internal control over financial reporting
      as
      of September 30, 2007. In making this assessment, management used the framework
      set forth in the report entitled Internal Control - Integrated Framework issued
      by the Committee of Sponsoring Organizations of the Treadway Commission, or
      COSO. The COSO framework summarizes each of the components of a company’s
      internal control system, including (i) the control environment, (ii) risk
      assessment, (iii) control activities, (iv) information and communication, and
      (v) monitoring.





A
      material weakness is a control deficiency, or combination of control
      deficiencies, that results in more than a remote likelihood that a material
      misstatement of the financial statements will not be prevented or detected.
      Management identified the following material weaknesses during its assessment
      of
      our internal control over financial reporting as of September 30,
      2007:





**Entity
      Level Material Weakness** - **Control Environment**





We
      did
      not maintain effective controls over the financial reporting processes due
      to an
      insufficient complement of personnel with a level of accounting knowledge,
      experience and training in the application of U.S. GAAP commensurate with our
      financial requirements. Additionally, our senior management lacked an adequate
      level of accounting knowledge, experience and training in the application of
      U.S. GAAP, and did not implement adequate and proper supervisory review to
      ensure the consolidated financial statements were prepared in conformity with
      U.S. GAAP and with SEC requirements.





**Process
      Level Material Weakness - Procedures and Transactions**





We
      did
      not maintain adequate procedures to properly account for deferred taxes under
      U.S. GAAP. Specifically, we did not have effective control procedures over
      the
      identification and measurement of differences between the respective tax and
      financial reporting bases of certain assets and liabilities and the
      determination of the applicable income tax rate to ensure that deferred taxes
      were accurately presented in our consolidated financial statements. This
      material weakness resulted in a material adjustment to our preliminary
      consolidated financial statements as of September 30, 2007. The need for this
      adjustment was initially identified by our external auditor and subsequently
      implemented by our management.





As
      a
      result of the existence of these material weaknesses, our chief executive
      officer and chief financial officer have concluded that our company did not
      maintain effective control over financial reporting as of September 30, 2007,
      based on the criteria in *Internal
      Control - Integrated Framework* .





Our
      independent registered public accounting firm, PKF, has issued an audit report
      on our assessment of our internal control over financial reporting. Their audit
      report is included therein.





**(c)**
            **Remediation
                Measures for Material
                Weaknesses**





To
      remediate the material weaknesses described above in “Management’s Report on
      Internal Control Over Financial Reporting”, we have begun to take steps to
      remediate them, and plan to implement the new measures described below in our
      ongoing efforts to address the internal control deficiencies described
      above.





We
      plan
      to further develop policies and procedures governing the hiring and training
      of
      personnel to better assure sufficient personnel with the requisite knowledge,
      experience and training in the application of generally accepted accounting
      principles commensurate with our financial reporting and U.S. GAAP requirements.
      We plan to utilize qualified accounting advisors and supervisors to ensure
      that
      our staff has adequate professional knowledge and to monitor the need for
      additional or better-qualified staff. In addition, we plan to utilize
      appropriate training programs on accounting principles and procedures to better
      ensure the adequacy of our accounting and finance personnel.




73





We
      plan
      to continue to develop our corporate culture toward emphasizing the importance
      of internal controls and to ensure that all personnel involved in maintaining
      proper internal controls recognize the importance of strictly adhering to
      accounting principles accepted in the United States of America.





We
      plan
      to provide additional training to the Company’s internal auditor on appropriate
      controls and procedures necessary to document and evaluate our internal control
      procedures. In addition, one of our employees has assumed the full-time position
      of Director of Internal Audit and will be responsible for compliance with
      internal controls.





We
      also
      plan to further enhance the self-assessment of our internal control over
      financial reporting by increasing our periodic independent testing, which would
      evaluate the adequacy of the design and effectiveness of our internal control
      procedures.





**(d)
      Changes in Internal Control over Financial Reporting**





There
      have been no changes in our internal control over financial reporting during
      the
      fourth quarter of fiscal year 2007 that have materially affected, or are
      reasonably likely to materially affect, the Company’s internal control over
      financial reporting.





**Report
      of Independent Registered Public Accounting Firm**





The
      Board
      of Directors and Shareholders of


China
      BAK
      Battery, Inc.:





We
      have
      audited management’s assessment, included in the accompanying Management’s
      Report on Internal Control over Financial Reporting (Item 9A(b)), that China
      BAK
      Battery, Inc. and its subsidiaries (the “Group”) did not maintain effective
      internal control over financial reporting as of September 30, 2007, because
      of
      the effects of the material weaknesses identified in management’s assessment
      based on criteria established in Internal Control - Integrated Framework issued
      by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
      The Group’s management is responsible for maintaining effective internal control
      over financial reporting and for its assessment of the effectiveness of internal
      control over financial reporting. Our responsibility is to express an opinion
      on
      management’s assessment and an opinion on the effectiveness of the Group’s
      internal control over financial reporting based on our audit.





We
      conducted our audit in accordance with the standards of the Public Company
      Accounting Oversight Board (United States). Those standards require that we
      plan
      and perform the audit to obtain reasonable assurance about whether effective
      internal control over financial reporting was maintained in all material
      respects. Our audit included obtaining an understanding of internal control
      over
      financial reporting, evaluating management’s assessment, testing and evaluating
      the design and operating effectiveness of internal control, and performing
      such
      other procedures as we considered necessary in the circumstances. We believe
      that our audit provides a reasonable basis for our opinion.





A
      company’s internal control over financial reporting is a process designed to
      provide reasonable assurance regarding the reliability of financial reporting
      and the preparation of financial statements for external purposes in accordance
      with U.S. generally accepted accounting principles (“U.S. GAAP”). A company’s
      internal control over financial reporting includes those policies and procedures
      that (1) pertain to the maintenance of records that, in reasonable detail,
      accurately and fairly reflect the transactions and dispositions of the assets
      of
      the company; (2) provide reasonable assurance that transactions are recorded
      as
      necessary to permit preparation of financial statements in accordance with
      generally accepted accounting principles, and that receipts and expenditures
      of
      the company are being made only in accordance with authorizations of management
      and directors of the company; and (3) provide reasonable assurance regarding
      prevention or timely detection of unauthorized acquisition, use, or disposition
      of the company’s assets that could have a material effect on the financial
      statements.





Because
      of its inherent limitations, internal control over financial reporting may
      not
      prevent or detect misstatements. Also projections of any evaluation of
      effectiveness to future periods are subject to the risk that controls may become
      inadequate because of changes in conditions, or that the degree of compliance
      with the policies or procedures may deteriorate.




74





A
      material weakness is a control deficiency, or combination of control
      deficiencies, that results in more than a remote likelihood that a material
      misstatement of the annual or interim financial statements will not be prevented
      or detected. The following material weaknesses have been identified and included
      in management’s assessment as of September 30, 2007:





Entity
      Level Material Weakness - Control Environment





The
      Group
      did not maintain effective controls over the financial reporting process due
      to
      an insufficient complement of personnel with a level of accounting knowledge,
      experience and training in the application of U.S. GAAP commensurate with the
      Group’s financial requirements. Additionally, the Group’s senior management
      lacked an adequate level of accounting knowledge, experience and training in
      the
      application of U.S. GAAP, and did not implement adequate and proper supervisory
      review to ensure the consolidated financial statements were prepared in
      conformity with U.S. GAAP and with SEC requirements.





Process
      Level Material Weakness - Procedures and transactions





The
      Group
      did not maintain adequate procedures to properly account for deferred taxes
      under U.S. GAAP. Specifically, the Group did not have effective controls
      procedures over the identification and measurement of differences between the
      respective tax and financial reporting bases of certain assets and liabilities
      and the determination of the applicable income tax rate to ensure that deferred
      taxes were accurately presented in the Group’s consolidated financial
      statements. This material weakness resulted in a material adjustment to the
      Group’s preliminary consolidated financial statements as of September 30,
      2007.





We
      also
      have audited, in accordance with the standards of the Public Company Accounting
      Oversight Board (United States), the consolidated financial statements of the
      Group. These material weaknesses were considered in determining the nature,
      timing, and extent of audit tests applied in our audit of the Group’s
      consolidated financial statements as of and for the year ended September 30,
      2007, and this report does not affect our report dated December 11, 2007 on
      those consolidated financial statements, which expressed an unqualified opinion
      on those consolidated financial statements.





In
      our
      opinion, management’s assessment that the Group did not maintain effective
      internal control over financial reporting as of September 30, 2007, is fairly
      stated, in all material respects, based on criteria established in Internal
      Control - Integrated Framework issued by COSO. Also, in our opinion, because
      of
      the effect of the material weaknesses described above on the achievement of
      the
      objectives of the control criteria, the Group has not maintained effective
      internal control over financial reporting as of September 30, 2007, based on
      criteria established in Internal Control - Integrated Framework issued by
      COSO.





PKF


Certified
      Public Accountants


Hong
      Kong, China


December
      11, 2007.





**Item
      9A(T). Controls and Procedures.**





Not
      applicable.





**Item
      9B.  Other Information** ***.***





1.
            **Short-Term
                Loan Agreements**





During
      the three months ended September 30, 2007, we repaid four short-term bank loans
      totaling $34.0 million, entered into seven short-term bank loan agreements
      totaling $55.3 million, and borrowed $2.7 million under a long-term bank loan
      credit facility. The seven new short-term bank loan agreements provide for
      monthly interest payments at annual interest rates from 5.85% to 7.722%, with
      principal repayments at maturities during the second, third and fourth quarter
      of fiscal 2008. These debt arrangements are generally guaranteed by Mr.
      Xiangqian Li, our chairman, president, and chief executive officer. The four
      repaid loan agreements were with Agricultural Bank of China and Bank of China,
      and the seven new short-term bank loan agreements are with Agricultural Bank
      of
      China, Shenzhen Development Bank, Bank of China, and Shenzhen Commercial
      Bank.




75





Summaries
      of the loan agreements with Agricultural Bank of China are included as Exhibits
      10.41 and 10.42 to this Report and are hereby incorporated by reference herein.
      The loan certificates under which the other six new loans were made are included
      as Exhibits 10.43 through 10.48 to this Report and are hereby incorporated
      by
      reference herein.





**2.**
            **Settlement
                Agreement**





As
      described in our Current Report on Form 8-K filed November 6, 2007, on October
      22, 2007, the Company entered into a Delivery of Make Good Shares, Settlement
      and Release Agreement (the “Settlement Agreement”) with Mr. Xiangqian Li and BAK
      International. As previously disclosed, Mr. Li was a party to a certain Escrow
      Agreement (the “Escrow Agreement”), dated January 20, 2005. Pursuant to the
      Escrow Agreement, Mr. Li placed 2,179,550 shares of common stock of the Company
      that he owned at such date into escrow for the benefit of certain investors
      who
      purchased shares of common stock of the Company in a private placement in
      January 2005 in the event that the Company failed to satisfy certain
“performance thresholds,” as defined in the Escrow Agreement. The Company’s
      originally reported net income for the fiscal year ended September 30, 2005
      exceeded the performance threshold
      established for such period; accordingly, 50% of the shares placed in escrow
      by
      Mr. Li, or 1,089,775 shares, were released to Mr. Li pursuant to the Escrow
      Agreement’s terms.





A
      subsequent event required recognition by the Company of a compensation charge
      in
      connection with the release of the escrowed shares back to Mr. Li, which would
      have caused the Company’s net income for fiscal year 2005 to fall below the
      performance threshold. As a result, based on Mr. Li’s understanding that the
      investors in the January 2005 share issuance would therefore become entitled
      to
      the 1,089,775 shares released to him, Mr. Li undertook on August 21, 2006 to
      transfer those shares to such investors on a pro rata basis. Notwithstanding
      this undertaking, however, the 1,089,775 shares were not delivered to such
      investors.





Pursuant
      to the Settlement Agreement, Mr. Li agreed to deliver the 1,089,775 shares
      to
      BAK International; BAK International in turn agreed to deliver the shares to
      the
      Company. Upon receipt of these shares, the Company agreed to release all claims
      and causes of action against Mr. Li and certain other persons regarding the
      shares. On October 25, 2007, the 1,089,775 shares were delivered to the Company,
      and such shares are now held as treasury shares. Under the terms of the
      Settlement Agreement, the Company is obligated to commence negotiations with
      the
      investors who participated in the Company’s January 2005 private placement in
      order to achieve a complete settlement of BAK International’s obligations (and
      the Company’s obligations to the extent it has any) under the applicable
      agreements with such investors.





This
      description of the terms of the Settlement Agreement and the Escrow Agreement
      is
      qualified by reference to the provisions of these agreements. The Settlement
      Agreement is incorporated herein by reference to Exhibit 10.2 of our Current
      Report on Form 8-K filed November 6, 2007. The Escrow Agreement is incorporated
      herein by reference to Exhibit 10.2 to the Company’s Current Report on Form 8-K
      filed January 21, 2005.





**PART
      III**





**Item
      10.  Directors and Executive Officers and Corporate
      Governance.**





***Directors
      and Executive Officers*** ****





The
      following table provides information about our executive officers and directors
      and their respective ages and positions as of September 30, 2007. The directors
      listed below will serve until our next annual or special meeting of stockholders
      at which directors are elected. Effective December 8, 2006, Article V of our
      articles of incorporation was amended so that the number of our directors shall
      be determined in accordance with our bylaws instead of in accordance with the
      provisions contained in our articles of incorporation.


**Age**
              
              **Position
                  Held**Xiangqian
                  Li
              
              38
              
              Chairman,
                  President and Chief Executive OfficerTony
                  Shen
              
              40
              
              Chief
                  Financial Officer, Secretary and TreasurerHuanyu
                  Mao
              
              55
              
              Director,
                  Chief Operating Officer and Chief Technical OfficerRichard
                  B. Goodner
              
              60
              
              DirectorCharlene
                  Spoede Budd
              
              68
              
              DirectorChunzhi
                  Zhang
              
              45
              
              DirectorYongbin
                  Han
              
              37
              
              Vice
                  PresidentXinggang
                  Cao
              
              33
              
              Vice
                  PresidentKenneth
                  G. Broom
              
              52
              
              Vice
                  President


76




*Xiangqian
      Li* has
      served as the chairman of our board, our president and chief executive officer
      since January 20, 2005. He has been a director of BAK International Limited,
      our
      Hong Kong incorporated subsidiary, since November 2004. Mr. Li is the founder
      and has served as the chairman of the board of Shenzhen BAK, our wholly owned
      subsidiary, since its inception in August 2001, and served as Shenzhen BAK’s
      general manager since December 2003. From June 2001 to June 2003, Mr. Li was
      the
      chairman of Huaran Technology Co., Ltd., a PRC-incorporated company engaged
      in
      the car audio business. Mr. Li received a bachelor’s degree in thermal energy
      and power engineering from the Lanzhou Railway Institute, China and a doctorate
      degree in quantitative economics from Jilin University in China.





*Tony
      Shen* has
      served as our chief financial officer, company secretary and treasurer since
      August 3, 2007. Mr. Shen joined the Company as Vice President of Strategic
      Development in May 2007. Prior to joining us, Mr. Shen was Acting CFO at eLong
      Inc. (NASDAQ: LONG) from 2006 to 2007. Prior to eLong, Mr. Shen was at China
      Netcom and its affiliated companies from 2003 to 2005, where he served as CFO
      and Vice President of Finance for Joyzone Networks, an affiliate of China
      Netcom, and as General Manager of Overseas Investment Management, China Netcom
      International. Prior to joining China Netcom, Mr. Shen served in several senior
      finance roles at Solectron Corporation in the United States from 1999 to 2003.
      Mr. Shen received a BE in Electrical Engineering from Tsinghua University and
      an
      MBA from Columbia Business School.





*Huanyu
      Mao* has
      served as a director of our company since May 12, 2006. He has also served
      as
      our chief technology officer since January 20, 2005 and as our chief operating
      officer since June 30, 2005. Dr. Mao has been the chief scientist of Shenzhen
      BAK since September 2004. Prior to joining us, between 1997 and September 2004,
      Dr. Mao was the chief technology officer of Tianjin Lishen, a leading battery
      manufacturer in China. Mr. Mao pioneered core technologies on lithium-ion
      battery before its commercialization in 1992 and was the inventor under seven
      U.S. patents relating to lithium-ion technology. Dr. Mao received a doctorate
      degree in electrochemistry from Memorial University of Newfoundland, Canada
      where he focused on conductive polymers.





*Richard
      B. Goodner* has
      served as our director since May 12, 2006. Since June 2003, Mr. Goodner has
      served as the vice president for legal affairs and general counsel for U.S.
      Home
      Systems, Inc., a public company listed on the Nasdaq National Market. Since
      May
      2006, Mr. Goodner also has been a director of Winner Medical Group Inc., a
      leading Chinese exporter of medical disposal products, which shares are traded
      on the Over-the-Counter Bulletin Board in the United States. From 1997 and
      2003,
      Mr. Goodner was a partner in the law firm of Jackson Walker L.L.P. Mr. Goodner
      holds a bachelor of arts degree in economics from Eastern New Mexico University
      and a law degree from Southern Methodist University, the United
      States.





*Charlene
      Spoede Budd, PhD, CPA, CMA, CFM, PMP* ,
      has
      served as our director since June 25, 2007. Ms. Budd is Professor Emeritus
      of
      Accounting at Baylor University, where she was a professor and Emerson O. Henke
      Chair of Accounting from 1993 through 2005, and where she has taught graduate
      management accounting, graduate project management, and other classes since
      1973. She received her PhD in business administration from The University of
      Texas-Austin and her MBA and undergraduate degrees from Baylor University.
      She
      holds certifications as a CPA, CMA, CFM, PMP, and in all six professional
      categories of the theory of constraints. Currently, Ms. Budd also serves as
      Chair, Business Environment & Content Subcommittee, of the American
      Institute of Certified Public Accountants (AICPA) and the Chair, Finance &
Metrics (F&M) Committee of the Theory of Constraints International
      Certification Organization (TOC-ICO).




77





*Chunzhi
      Zhang*has
      served as our director since June 25, 2007. Since mid-2005, Mr. Zhang has served
      as General Manager of AASTOCKS.com, Ltd., Shenzhen Branch, an online stock
      investment service operating in China. From 2003 through mid-2005, Mr. Zhang
      served as General Manager of Shenzhen Sharemax Management Co., Ltd, where he
      was
      involved in brokerage of Hong Kong-listed stocks, asset management and managing
      venture capital projects. From 1998 through 2003, Mr. Zhang served as General
      Manager of Haixing Security Brokage Co., Ltd, Shenzhen Branch, involved in
      securities trading and asset management. Prior to joining Haixing Security
      Brokerage, from 1985 through 1996, Mr. Zhang served as Manager for China
      Resources Holding Co., Ltd., an import/export company. Mr. Zhang received his
      bachelor degree in Economy from Jilin University in 1985.





*Yongbin
      Han* has
      served as our vice president of investments since October 1, 2007. Mr. Han
      served as our vice president of finance from August to October 2007, our chief
      financial officer and company secretary from January 2005 to August 2007, and
      our treasurer from August 2005 to August 2007. He has been the vice president
      of
      Shenzhen BAK since April 2003. Prior to joining us, Mr. Han served as deputy
      general manager of Huaruan Technology from January 2002 to April 2003 and as
      department manager of Zhonghongxin Jianyuan Accounting Firm, a PRC certified
      public accounting firm, from July 1995 to July 2001. Mr. Han received a
      bachelor’s degree in accounting from the Changchun Tax Institute, China. Mr. Han
      is a PRC certified public accountant and certified tax agent.





*Kenneth
      G. Broom* has
      served as our vice president of international OEM Business since October 1,
      2007. From January 2007 to September 2007, he worked as Vice President of
      Technology for BAK Canada. Prior to joining us, Mr. Broom served as executive
      vice president of E-One Moli Energy (Canada) Limited (“E-One”), the only high
      volume manufacturer of cylindrical lithium-ion rechargeable cells in North
      America , from
      2003 to 2007. He was also General Manager of Operations of E-One from 1992
      to
      2003; while in this role, he managed equipment and product design. He is a
      member of the Association of Professional Engineers and Geoscientists of B.C.
      Mr. Broom received a bachelor’s degree in chemical engineering from the
      University of Waterloo.





*Xinggang
      Cao* has
      served as our vice president of China Business since October 1, 2007. Mr. Cao
      served as the deputy general manager of our prismatic cells unit from March
      to
      September 2007, and as the director of our sales department from September
      2006
      to March 2007. From May 2003 to September 2006, he served as the manager of
      our
      domestic sales department. Mr. Cao received a master’s degree in business
      administration from Jilin University.





**Family
      Relationships**





There
      are
      no family relationships among our directors or officers.





**Involvement
      in Certain Legal Proceedings**





None
      of
      our directors has been subject to any legal proceedings in the past five years
      and that may adversely affect his or her ability and/or integrity to serve
      as
      our director.





**Promoters
      and Certain Control Persons**




We
      did
      not have any promoters at any time during the past five fiscal years.





**Section
      16(A) Beneficial Ownership Reporting Compliance**





Under
      U.S. securities laws, directors, certain executive officers and persons holding
      more than 10% of our common stock must report their initial ownership of the
      common stock, and any changes in that ownership, to the SEC.  The SEC has
      designated specific due dates for these reports. Based solely on our review
      of
      copies of such reports filed with the SEC and written representations of our
      directors and executive offers, we believe that all persons subject to reporting
      filed the required reports on time in 2006 and 2007, except as follows: (i)
      late
      Form 4 reports filed by each of Houde Liu and Shuquan Zhang on October 23,
      2006
      and filed by Yanlong Zou on October 20, 2006 to report the cancellation of
      a
      stock option grant on September 28, 2006 of 50,000 shares of common stock
      pursuant to a termination and release agreement entered into between us and
      each
      of Houde Liu, Shuquan Zhang and Yanlong Zou; (ii) late Form 3 reports filed
      by
      each of Joseph R. Mannes, Richard B. Goodner and Jay J. Shi on October 25,
      2006,
      in each case to report appointment as our director on May 12, 2006; (iii) late
      Form 4 reports filed by each of Joseph R. Mannes, Richard B. Goodner and Jay
      J.
      Shi on October 25, 2006 to report the grant of 5,000 restricted shares of our
      common stock pursuant to our Compensation Plan for Nonemployee Directors,
      adopted by us on May 12, 2006; (iv) late Form 4 report filed by Xiangqian Li
      on
      April 2, 2007, to report the release of 1,089,775 shares of common stock from
      escrow to investors pursuant to an escrow agreement between Mr. Li and such
      investors; (v) late Form 4 reports filed by each of Houde Liu, Yanlong Zou,
      Shuquan Zhang and Yongbin Han on April 2, 2007 to report the grant of 34,142,
      34,142, 34,142 and 136,566 shares of restricted stock, respectively, on December
      26, 2006; and (vi) late Form 3 report filed by Zhongyi Deng on April 3, 2007
      to
      report his appointment as our Vice-President of Business
      Development.




78





**Code
      of Business Conduct and Ethics**





We
      have
      adopted a code of business conduct and ethics relating to the conduct of our
      business by our employees, officers and directors. We intend to maintain the
      highest standards of ethical business practices and compliance with all laws
      and
      regulations applicable to our business, including those relating to doing
      business outside the United States.





**Material
      Changes to Director Nomination Procedures**





There
      have been no material changes to the procedures by which shareholders may
      recommend nominees to our board of directors since such procedures were last
      disclosed.





**Audit
      Committee**





We
      have a
      separately-designated standing audit committee established in accordance with
      section 3(a)(58)(A) of the Exchange Act. The committee members are Richard
      B.
      Goodner, Charlene Spoede Budd and Chunzhi Zhang.





**Audit
      Committee Financial Expert**





The
      Board
      of Directors has determined that we have an audit committee financial expert
      serving on our audit committee. Our audit committee financial expert is Charlene
      Spoede Budd. Ms. Budd has been “independent” as that term is defined under the
      Nasdaq listing standards at all times during her service on our audit
      committee.





**Item
      11. Executive Compensation.**





***Compensation
      Discussion and Analysis***





*Compensation
      Philosophy*





Our executive compensation philosophy is to align the interests of executive
      management with shareholder interests and with our business strategy and
      success, through an integrated executive compensation program that considers
      short-term performance, the achievement of long-range strategic goals and growth
      in total shareholder value. The key elements of executive compensation are
      competitive base salary, annual incentive opportunities and equity
      participation. The aggregate compensation package is designed to attract and
      retain individuals critical to the long-term success of the Company, to motivate
      these persons to perform at their highest levels, and to reward exceptional
      performance.





The
      compensation of our executive officers is determined by the Compensation
      Committee of the Board. The Chief Executive Officer reviews and revises
      compensation proposals prepared by Human Resources and presents his
      recommendations to the Compensation Committee for the Committee’s ultimate
      review and approval. The Chief Executive Officer does not participate in
      Compensation Committee meetings and is not involved in decisions relating to
      his
      own compensation.




79





*Elements
      of Compensation*





***Base
      Salary*** *.* Base
      salary levels for executive officers are set forth in their individual
      employment agreements, and are reflected in the Summary Compensation Table
      below. The Compensation Committee considered the total compensation paid by
      other manufacturing companies in Shenzhen, China to persons holding equivalent
      positions in setting base salary levels. However, the Compensation Committee
      did
      not conduct a peer group compensation analysis or target any particular
      compensation level in establishing the base salaries for named executive
      officers.




Mr.
      Broom’s fiscal year 2007 salary is considerably higher than the salary of the
      other named executive officers because of the Company’s desire to attract
      executives with appropriate experience. In setting Mr. Broom’s salary, the
      Compensation Committee considered Mr. Broom’s twenty-three years of experience
      in the li-on battery industry as well as the level of compensation Mr. Broom
      received from his previous employer.





The
      Compensation Committee believes that any increases in base salary should be
      based upon a favorable evaluation of individual performance relative to
      individual goals, the functioning of the executive’s team within the corporate
      structure, success in furthering the corporate strategy and goals, individual
      management skills and responsibilities, demonstrated loyalty, and the Company’s
      commitment to attract and retain executives. We expect that our Compensation
      Committee will reward superior individual and company performance with
      commensurate cash and other compensation. Because each of the employment
      agreements was entered into in fiscal year 2007, the Compensation Committee
      did
      not increase base salary during the fiscal year. Salary will next be reviewed
      when the Compensation Committee deems appropriate, but the Compensation
      Committee will not review salary more frequently than on an annual basis.




***Bonuses.*** E xecutives
      are eligible to receive a discretionary bonus pursuant to the terms of their
      respective employment agreements. However, in fiscal 2007 we did
      not
      set any performance targets and no discretionary bonuses were paid because
      the
      Company’s performance did not meet the management’s total satisfaction. If
      our
      Compensation Committee determines to do so in the future, bonuses may be paid
      on
      an ad hoc basis to recognize superior performance. If the Compensation Committee
      determines to provide bonus compensation as a regular part of our executive
      compensation package, it will establish performance goals for each of the
      executive officers and maximum bonuses that may be earned upon attainment of
      such performance goals.




***Equity
      Incentives*** *.* Named
      Executive Officers are eligible for equity awards in the form of stock options
      and restricted stock under our 2005 stock option plan. Equity awards are granted
      at the discretion of the Compensation Committee. The size of an award to any
      individual, including named executive officers, depends on individual
      performance, salary level and competitive data, and the impact that such
      employee’s productivity may have on shareholder value over time. In addition, in
      determining the number of stock options or shares of restricted stock granted
      to
      each named executive officer, the Compensation Committee considers the future
      benefits potentially available to the named executive officers from existing
      awards. The number of options or restricted shares granted depend in part on
      the
      total number of unvested options and restricted shares deemed necessary to
      provide an incentive to that individual to remain with the Company for the
      long-term.





In
      fiscal
      year 2007, with the goals of aligning the interest of the Company and our
      employees, retaining superior personnel for positions of substantial
      responsibility, and promoting the growth and prosperity of the Company, (1)
      the
      Compensation Committee approved the cancellation of options previously granted
      to employees, including Mr. Han, who are residents of the PRC, and granted
      restricted stock as replacement awards to the employees whose options had been
      terminated and who continued to be employed by the Company, and (2) granted
      stock options to Mr. Shen and Mr. Broom in connection with their employment
      with
      the Company. The restricted stock award to Mr. Han and the stock option grants
      to Mr. Shen and Mr. Broom are reflected in the Grants of Plan-Based Awards
      Table
      below.





We
      have
      no program, plan or practice of granting equity awards that coincide with the
      release by the Company of material non-public information.





We
      seek
      to further align management and shareholder interests by giving to executives
      an
      equity interest in our company, the value of which depends upon stock
      performance. The Committee believes that using restricted stock as part of
      the
      overall equity awards program better aligns the interest of management and
      shareholders as restricted stock closely replicates the economic characteristics
      of capital stock.




80





***Retirement
      Benefits*** *.* Currently,
      we do not provide any company-sponsored retirement benefits or deferred
      compensation programs to any employee, including the named executive officers,
      (other than a mandatory state pension scheme in which all of our employees
      in
      China participate) because it is not customary to provide such benefits and
      programs in China.





***Perquisites*** *.* Historically,
      we have provided our named executive officers with minimal perquisites and
      other
      personal benefits that we believe are reasonable. We do not view perquisites
      as
      a significant element of compensation, but do believe they can be useful in
      attracting, motivating and retaining the executive talent for which we
      compete.





***Compensation
      Committee Report***





The
      Compensation Committee of the Company has reviewed and discussed the
      Compensation Discussion and Analysis required by Item 402(b) of Regulation
      S-K
      with management. Based on such review and discussions, the Compensation
      Committee has recommended to the Board that the Compensation Discussion and
      Analysis be included in this annual report.





COMPENSATION COMMITTEERichard
                B. Goodner
              Charlene
                Spoede Budd
              Chunzhi
                Zhang




**SUMMARY
      COMPENSATION TABLE FOR FISCAL YEAR 2007**





The
      following table provides information regarding the compensation for each person
      serving as a principal executive officer or a principal financial officer of
      the
      Company during the year ended September 30, 2007, and the other most highly
      compensated officers during that period whose compensation exceeded
      $100,000.





Name
                and Principal Position
            
            Year
            
            Salary
              ($)
            
            Stock
                Awards
              ($)
                (1)
            
            Option
                Awards
              ($)(1)
            
            Total
              ($)Xiangqian
                Li,
              President,
                Chief Executive Officer
            
            
            2007
            
            
            31,953
            
            
            -
            
            
            -
            
            
            31,953Tony
                Shen, Chief Financial Officer (2)
            
            
            2007
            
            
            8,521
            
            
            -
            
            
            74,095
            
            
            82,616Yongbin
                Han, Former Chief Financial Officer (3)
            
            
            2007
            
            
            25,563
            
            
            233,503
            
            
            -
            
            
            259,066Huanyu
                Mao
            
            
            2007
            
            
            27,655
            
            
            -
            
            
            257,391
            (4)
            
            319,855Kenneth
                G. Broom
            
            
            2007
            
            
            186,904
            
            
            -
            
            
            12,913
            
            
            199,817







(1)
            The
                amounts represented in the stock and option awards columns reflect
                the
                compensation expense recognized by the Company in fiscal year 2007
                determined pursuant to SFAS 123R, and no forfeitures are assumed.
                The
                assumptions used to calculate the value of option and restricted
                stock
                awards are set forth under Note 18 of the Notes to Consolidated Financial
                Statements. Also see “Grants of Plan-Based Awards Table” for more detail
                regarding equity grants to named executive officers in fiscal year
                2007.




81




(2)
            As
                of August 3, 2007.(3)
            Resigned
                August 3, 2007, as Chief Financial Officer. Mr. Han is currently
                the
                Company’s Vice President of Investment.(4)
            This
                amount reflects the compensation expense recognized by the Company
                in
                fiscal year 2007 determined pursuant to SFAS 123R related to the
                May 16,
                2005 award of stock options to Mr. Mao.




**Summary
      of Employment Agreements**





The
      base
      salary shown in the Summary Compensation Table is described in each named
      executive officer’s respective employment agreement. The material terms of those
      employment agreements are summarized below **.**





With
      the
      exception of Mr. Broom, the named executive officers entered into the Company’s
      standard employment agreement. On December 20, 2006, Shenzhen BAK Battery Co.
      Ltd. entered into a non-standard employment agreement with Mr. Broom in
      connection with his employment in Canada as Executive Vice President for BAK
      Canada Ltd. Mr. Broom’s employment agreement entitles him to a grant of 100,000
      stock options, an allowance for monthly car expenses, and the cost of legal
      representation and indemnification for damages in the event Mr. Broom’s prior
      employer files any claims or demands against him relating to his employment
      with
      the Company. In the event the Company terminates Mr. Broom’s employment
      without cause prior to the expiration of the two-year term of the agreement,
      he
      is entitled to a lump sum payment or salary continuation equal to the amount
      he
      would have received had no termination occurred **.** Neither
      the Company nor Mr. Broom have incurred any legal costs or damages relating
      to
      Mr. Broom’s former employment.





**Material
      Terms of Standard Employment Agreement** .
      With
      the exception of Mr. Li, who has a three-year employment agreement, we entered
      into two-year employment agreements with Messrs. Mao, Shen, and Han. We entered
      into the employment agreement with Messrs. Li, Mao, and Han on June 30, 2006,
      and with Mr. Shen on May 13, 2007.




Our
      standard employment agreement permits us to terminate the executive’s employment
      for cause, at any time, without notice or remuneration, for certain acts of
      the
      executive, including but not limited to a conviction or plea of guilty to a
      felony, negligence or dishonesty to our detriment and failure to perform agreed
      duties after a reasonable opportunity to cure the failure. An executive may
      terminate his employment upon one-month written notice if there is a material
      reduction in his authority, duties and responsibilities or if there is a
      material reduction in his annual salary before the next annual salary review.
      Furthermore, we may terminate the executive’s employment at any time without
      cause by giving a one-month advance written notice to the executive officer.
      If
      we terminate the executive’s employment without cause, the executive will be
      entitled to a termination payment of up to three months of his or her then
      base
      salary, approximately $6,391 to $7,988, depending on the length of such
      executive’s employment with us. Specifically, the executive will receive salary
      continuation for: (i) one month following a termination effective prior to
      the
      first anniversary of the effective date of the employment agreement; (ii) two
      months following a termination effective prior to the second anniversary of
      the
      effective date; and (iii) three months following a termination effective prior
      to or any time after the third anniversary of the effective date. The employment
      agreements provide that the executive will not participate in any severance
      plan, policy, or program of the Company.




82





Our
      standard employment agreement contains customary non-competition,
      confidentiality, and non-disclosure covenants. Each executive officer has agreed
      to hold, both during and after the employment agreement expires or is earlier
      terminated, in strict confidence and not to use, except as required in the
      performance of his duties in connection with the employment, any confidential
      information, technical data, trade secrets and know-how of our company or the
      confidential information of any third party, including our affiliated entities
      and our subsidiaries, received by us. The executive officers have also agreed
      to
      disclose in confidence to us all inventions, designs and trade secrets which
      they conceive, develop or reduce to practice and to assign all right, title
      and
      interest in them to us. In addition, each executive officer has agreed to be
      bound by non-competition restrictions set forth in his or her employment
      agreement. Specifically, each executive officer has agreed not to, while
      employed by us and for a period of one year following the termination or
      expiration of the employment agreement,





—
            approach
                our clients, customers or contacts or other persons or entities,
                and not
                to interfere with the business relationship between us and such persons
                and/or entities;—
            assume
                employment with or provide services as a director for any of our
                competitors, or engage in any business which is in direct or indirect
                competition with our business; or—
            solicit
                the services of any of our
                employees.




**GRANTS
      OF PLAN-BASED AWARDS FOR FISCAL YEAR 2007**





The following table
      sets forth information regarding grants of awards to named executive officers
      during the year ended September 30, 2007:





Name
            
            Grant
                Date
            
            All
                Other Stock Awards: Number of Shares of Stock or Units
              (#)
            
            All
                Other Option Awards: Number of Securities Underlying Options
              (#)
                (1)
            
            Exercise
                or Base Price of Option Awards ($/share)
            
            Grant
                Date Fair Value of Stock and Options Awards
            
            Closing
                Price on Grant Date ($/share)Tony
                Shen (2)
            
            
            May
                13, 2007
            
            
            -
            
            
            80,000
            
            $
            3.35
            
            
            162,400
            
            $
            3.35Kenneth
                G. Broom (3)
            
            
            June
                25, 2007
            
            
            -
            
            
            100,000
            
            $
            3.268
            
            
            222,000
            
            $
            3.35Yongbin
                Han (4)
            
            
            December
                26, 2006
            
            
            136,566
            
            
            -
            
            
            -
            
            
            583,094
            
            $
            6.25







(1)
            Grants under the 2005 stock option
              plan are
              also described in the Outstanding Equity Awards at Fiscal Year-End
              Table
              below.  (2)
            On
                June 25, 2007, in connection with joining the Company, Mr. Shen was
                granted an option to purchase 80,000 shares of Common Stock at a
                price of
                $3.35, the closing price on the grant date. The options will fully
                vest
                over two years with 10,000 shares vested at the end of each quarter
                starting from May 13, 2007. The first vesting date is June 30, 2007.
                The
                expiration date of the option is May 13,
                2012.


(3)
            On
                June 25, 2007, in accordance with the terms of his employment agreement,
                Mr. Broom was granted an option to purchase 100,000 shares of Common
                Stock
                at an exercise price of $3.268, the average closing price per share
                of the
                Company’s common stock for the five consecutive NASDAQ trading days
                immediately preceding the grant date. The exercise price was determined
                in
                accordance with the 2005 stock option plan, which permits fair market
                value to be determined at the discretion of the administering committee
                based on reported sales over a ten business day period ending on
                the grant
                date. Any unvested portion of the option is subject to forfeiture
                if Mr.
                Broom is no longer employed by the Company. The option vests and
                becomes
                exercisable beginning July 1, 2008, as follows: On July 1, 2008,
                25% of
                such option shall vest and shall no longer be subject to forfeiture;
                on
                July 1, 2009, the second 25% of such option shall vest and shall
                no longer
                be subject to forfeiture; on July 1, 2010, the third 25% of such
                option
                shall vest and shall no longer be subject to forfeiture; on July
                1, 2011,
                the final 25% of such option shall vest and shall no longer be subject
                to
                forfeiture, in each case so long as Mr. Broom remains employed by
                the
                Company. The expiration date of the option is July 1, 2012.






83




(4)
            Mr.
                Han was granted 136,566 shares of restricted stock on December 26,
                2006 as
                a replacement for 200,000 stock options that were cancelled on September
                28, 2006. Forty percent of the restricted stock award vested on July
                1,
                2007. An additional 30% of the restricted stock will vest on January
                1,
                2008, and the remaining 30% of the restricted stock will vest on
                July 1,
                2008. Any unvested portion of the restricted shares is subject to
                forfeiture if Mr. Han is no longer employed by the Company. The Grant
                Date
                Fair Value column reflects the full amount of the incremental fair
                value
                of the replacement award determined in accordance with SFAS
                123R**.**Fair
                value of the replacement awards approximated that of Mr. Han’s terminated
                stock options.




**OUTSTANDING
      EQUITY AWARDS AT FISCAL YEAR-END 2007**





The
      following table sets forth the equity awards outstanding at September 30, 2007
      for each of the named executive officers.





Option
                Awards
            
            Stock
                AwardsName
            
            Number
                of Securities Underlying Unexercised Options (#)
                Exercisable
            
            Number
                of Securities Underlying Unexercised Options (#)
                Unexercisable
            
            Option
                Exercise Price ($)
            
            Option
                Expiration Date
            
            Number
                of Shares or Units of Stock That Have Not Vested (#)
            
            Market
                Value of Shares or Units of Stock That Have Not Vested ($)Huanyu
                Mao (1)
            
            
            80,000
            
            
            120,000
            
            $
            6.25
            
            
            May
                16, 2011
            
            
            -
            
            
            -Tony
                Shen (2)
            
            
            20,000
            
            
            60,000
            
            $
            3.35
            
            
            May
                13, 2012
            
            
            -
            
            
            -Kenneth
                G. Broom (2)
            
            
            -
            
            
            100,000
            
            $
            3.268
            
            
            July
                1, 2012
            
            
            -
            
            
            -Yongbin
                Han (2)
            
            
            **-**
            
            
            -
            
            
            -
            
            
            May
                16, 2011
            
            
            81,940
            
            
            512,123





(1)
            Mr. Mao was granted an option to purchase 200,000
              shares
              of Common Stock on May 16, 2005, at a price of $6.25, the closing price
              of
              the Common Stock on the date of grant, 40% of which vested on July
              1,
              2007. An additional 30% of the option shall vest on January 1, 2008,
              and
              the remaining 30% of the option shall vest on July 1, 2008. Any unvested
              portion of the option is subject to forfeiture if Mr. Mao is no longer
              employed by the Company. The expiration date of the option is May 16,
              2011**.**  (2)
            Vesting
                terms are provided in the footnotes to the Grants of Plan Based Awards
                table above.




**OPTION
      EXERCISES AND STOCK VESTED - 2007**





The
      following table includes information with respect to the named executive
      officer’s stock awards that vested during the year ended September 30, 2007.
      None of our named executive officers exercised options during the year ended
      September 30, 2007.





Stock
                AwardsName
            
            Number
                of Shares Acquired on Vesting
            
            Value
                Realized on Vesting ($)Yongbin
                Han
            
            
            54,626
            
            
            341,415





84





**Potential
      Payments Upon Termination or Change in Control**





We
      do not
      have change in control or severance agreements with our named executive
      officers. However, (i) each named executive officer’s employment agreement
      provides a payment to the named executive officer on account of the Company’s
      termination of his employment without cause and (ii) the 2005 stock option
      plan
      provides that all outstanding options will automatically accelerate and become
      fully exercisable upon a change in control, except to the extent those options
      are to be assumed or replaced by the successor company. In addition, the
      committee administering the 2005 stock option plan has the authority to
      accelerate vesting of the shares of common stock subject to outstanding options
      held by any optionee in connection with the involuntary termination of that
      individual’s employment within 18 months following a change in control in which
      the options are assumed or replaced.





The
      following table reflects amounts payable to our named executive officers (1)
      assuming their employment was terminated without cause on September 30, 2007
      and
      (2) assuming a change in control on September 30, 2007 or involuntary
      termination within 18 months of a change in control.





Name
            
            Termination
                Without Cause ($)
            
            Change
                in Control
              (1)($)Xiangqian
                Li
            
            
            5,326
            (2)
            
            -Tony
                Shen
            
            
            2,130
            (3)
            
            354,400Yongbin
                Han
            
            
            4,261
            (2)
            
            -Huanyu
                Mao
            
            
            4,793
            (2)
            
            306,000Kenneth
                G. Broom
            
            
            343,894
            (4)
            
            451,200





(1)
            Amounts
                in this column reflect the value of unvested options that would be
                accelerated upon (i) a change of control if the options are not assumed
                by
                the successor corporation and (ii) involuntary termination within
                18
                months following a change in control in which the named executive
                officer’s options were assumed or replaced. Amounts are calculated based
                on (i) the difference between (a) the closing market price of a share
                of
                the Company’s common stock on September 30, 2007 and (b) the exercise
                price per share for an option grant (ii) multiplied by the number
                of
                shares subject to the option grant. There is no acceleration of restricted
                shares.




(2)
            In
                accordance with their employment agreements, Messrs. Li, Han, and
                Mao, if
                terminated without cause on the last day of the fiscal year, the
                executive
                would have been entitled to two months of salary
                continuation.




(3)
            In
                accordance with his employment agreement, Mr. Shen, if terminated
                without
                cause on the last day of the fiscal year, would have been entitled
                to one
                month of salary continuation.




(4)
            The
                amount is equal to the amount Mr. Broom would be paid if he continued
                to
                be employed for the remainder of the term of his employment agreement.




**Compensation
      of Directors**





Effective
      May 9, 2006 our shareholders approved our compensation plan for non-employee
      directors. Eligible directors are paid approximately $20,000 annually, except
      that the director with the additional responsibility of chairing the Audit
      Committees is paid an additional $5,000 annually, in each case subject to
      adjustments determined by our board from time to time. Each independent director
      is granted 5,000 restricted shares of our common stock for serving as a
      director.





On
      May
      12, 2006, we issued 5,000 shares of restricted stock to each of Richard B.
      Goodner, Joseph R. Mannes and Jay J. Shi as compensation for their services
      as a
      director. Messrs. Mannes and Shi resigned as directors on June 25, 2007. Each
      of
      Mr. Zhang and Ms. Budd were granted 5,000 shares of restricted Common Stock
      on
      June 25, 2007, and on July 17, 2007, Mr. Goodner was granted an additional
      5,000
      shares of restricted Common Stock. These restricted shares are subject to a
      one-year vesting schedule, with the first 25% vesting on the grant date, and
      the
      remaining 75% vesting in three installments on the last day of each following
      full quarter. The first 25% of the restricted shares will be issued as fully
      paid ordinary shares.




85





**DIRECTOR
                COMPENSATION - Fiscal Year 2007**Name
            
            Fees
                Earned or
              Paid
                in Cash
              ($)
            
            Stock
              Awards
              ($)(1)
            
            Total
              ($)Charlene
                Spoede Budd
            
            
            25,000
            
            
            16,750
            (2)
            
            41,750Chunzhi
                Zhang
            
            
            20,000
            
            
            16,750
            (2)
            
            36,750Richard
                B. Goodner
            
            
            20,000
            
            
            79,150
            (3)(4)
            
            99,150Joseph
                R. Mannes
            
            
            25,000
            
            
            57,500
            (3)
            
            82,500Jay
                J. Shi
            
            
            20,000
            
            
            57,500
            (3)
            
            77,500







(1)  The
      amounts represented in the stock awards column reflect the compensation expense
      recognized by the Company in fiscal year 2007 determined pursuant to SFAS 123R,
      and no forfeitures are assumed. The assumptions used to calculate the value
      of
      the restricted stock awards are set forth under Note 18 of the Notes to
      Consolidated Financial Statements.




(2)
      Granted 5,000 shares of our restricted Common Stock on June 25,
      2007.




(3)
      Granted 5,000 shares of our restricted Common Stock on May 12,
      2006.




(4)
      Granted 5,000 shares of our restricted Common Stock on July 17,
      2007.





Both
      Mr.
      Mannes and Ms. Budd received a $25,000 retainer fee because of the added
      responsibility of serving as the chairperson of our Audit Committee during
      fiscal year 2007.





We
      do not
      maintain a medical, dental or retirement benefits plan for the directors.





We
      have
      not compensated, and will not compensate, our non-independent directors, such
      as
      Mr. Xiangqian Li and Dr. Huanyu Mao, for serving as our directors, although
      they
      are entitled to reimbursements for reasonable expenses incurred in connection
      with attending our board meetings.





The
      directors may determine remuneration to be paid to the directors with interested
      members of the board refraining from voting. The Compensation Committee will
      assist the directors in reviewing and approving the compensation structure
      for
      the directors.





**Compensation
      Committee Interlocks and Insider Participation**





All
      current members of the Compensation Committee are independent directors, and
      all
      past members were independent directors at all times during their service on
      such Committee. None of the past or present members of our Compensation
      Committee are present or past employees or officers of ours or any of our
      subsidiaries. No member of the Compensation Committee has had any relationship
      with us requiring disclosure under Item 404 of Regulation S-K under the
      Securities Exchange Act of 1934, as amended. None of our executive officers
      has
      served on the Board or Compensation Committee (or other committee serving an
      equivalent function) of any other entity, one of whose executive officers served
      on our Board or Compensation Committee.




86





**Item
      12. Security Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters.** ******





**Securities
      Authorized for Issuance Under Equity Compensation Plans**





The
      following table sets forth certain information about the securities authorized
      for issuance under our 2005 stock option plan as of September 30, 2007. The
      options shown in column (a) below were granted under our 2005 stock option
      plan
      before the effectiveness of any stockholder approval.





**Equity
      Compensation Plan Information**





**Number
                of securities**
              **to
                be issued upon exercise**
              **of
                outstanding options,**
              **restricted
                stock, warrants and rights**
              **(a)**
            
            **Weighted-average
                exercise price**
              **of
                outstanding options, restricted stock**
              **warrants
                rights**
              **(b)**
            
            **Number
                of securities**
              **remaining
                available**
              **for
                future issuance**
              **under
                equity compensation**
              **plans
                (excluding securities**
              **reflected
                in column (a))**
              **(c)**Equity
                compensation plans approved by security holders
            
            
            2,363,560
            (1)
            $
            4.45
            
            
            1,282,733
            (1)Equity
                compensation plans not approved by security holders
            
            
            -
            
            
            -
            
            
            -**Total**
            
            
            2,363,560
            (1)
            $
            4.45
            
            
            1,282,733
            (1)








(1)
            We
                granted options to purchase a total of 2,000,000 shares of common
                stock in
                May 2005. Of these options, options in respect of 170,000 shares
                of common
                stock were cancelled as of October 1, 2005. In the fiscal quarter
                ended
                September 30, 2007, options to purchase 30,000 shares of our common
                stock
                were cancelled. In each case, the holders of the options terminated
                their
                employment with us. On September 22, 2006, the Compensation Committee
                approved the form of Termination and Release Agreement for cancellation
                of
                1,400,000 shares of stock options granted to the optionees who are
                residents of the PRC.  The Compensation Committee also consented to
                adopt the terms and provisions for Restricted Stock Grant Agreement
                for
                the issuance of restricted shares and agreed to meet during the first
                quarter of fiscal year 2007 to determine an appropriate number of
                shares
                of restricted stock that will be granted to these optionees under
                the Plan
                (“the Replacement Awards”).  Fair value of the Replacement Awards to
                be granted to each optionee will approximate that of the stock options
                given up by each optionee. The Replacement Awards are classified
                as
                liability-classified awards until such time that the number of shares
                is
                determined. On September 28, 2006, options to purchase a total of
                1,400,000 shares of our common stock were cancelled pursuant to
                termination and release agreements signed on that day. On December
                26,
                2006, pursuant to the restricted stock grant agreements signed between
                the
                Company and the respective optionees and based on the closing market
                price
                of the Company’s listed common stock on that day, a total of 914,994
                shares of restricted stock were granted as Replacement Awards to
                the
                employees who gave up their stock options and continued to be employed
                by
                the Company on that date pursuant to restricted stock grant agreements.
                The fair value of the Replacement Awards granted to each optionee
                approximated that of such employee’s terminated stock options. The
                Compensation Committee ratified such grants on January 15, 2007.
                On June
                25, 2007, the Company also issued 1,501,500 options to 111 employees
                pursuant to the 2005 stock option plan. In accordance with the vesting
                provisions of the grants, the options will become vested and exercisable
                during the period from June 30, 2007 to February 9, 2012 according
                to each
                employee’s respective agreement. The material terms of our 2005 stock
                option plan are summarized below.





**Option
      Grants In the Last Fiscal Year**





We
      granted options to our executive officers under our 2005 stock option plan
      in
      the fiscal years of 2005 and 2007. We did not grant any options to our executive
      officers in fiscal years 2006.





**2005
      Stock Option Plan**





On
      May
      16, 2005, our board of directors adopted China BAK Battery, Inc. 2005 Stock
      Option Plan, which was later approved by our stockholders and became effective
      May 12, 2006. Under the 2005 stock option plan, our board of directors is
      authorized to grant to our employees, non-employee directors and advisors
      nonqualified stock options, enabling them to purchase up to 4,000,000 shares
      of
      our common stock. The exercise price of options granted pursuant to the 2005
      stock option plan must be at least equal to the fair market value of our common
      stock on the date of the grant. Fair market value is determined at the
      discretion of the committee (described below) on the basis of reported sales
      prices for the Company’s common stock over a ten business day period ending on
      the grant date.




87





*Types
      of Awards.* We
      may grant the following types of awards under our 2005 stock option plan:





—
            non-qualified
                stock options—
            restricted
                stock





*Plan
      Administration.* A
      committee designated by our board of directors administers our 2005 stock option
      plan. The committee has the sole discretion and authority to determine the
      eligibility, the number of underlying shares, as well as other terms and
      conditions of each grant. The committee also has the right to interpret, amend
      or modify each option agreement or restricted stock grant agreement and to
      remove any restrictions or conditions applicable to any options or restricted
      stock. A majority of the members constituting the committee will be sufficient
      to make decisions regarding matters related to the 2005 stock option plan.





Dividends
      and other distribution paid on or in respect of any shares of restricted stock
      may be paid directly to the participant or may be invested in additional shares
      of restricted stock as determined by the committee in its sole discretion.





*Acceleration
      of Options upon Corporate Transactions* .  The
      outstanding options will accelerate upon occurrence of a change-of-control
      corporate transaction or sale of all or substantially all of assets in
      liquidation or dissolution of our company. In such event, each outstanding
      option will become fully vested and immediately exercisable, subject to the
      final determination of the committee. However, the outstanding options will
      not
      accelerate if the successor entity assumes our outstanding options or replace
      them with a cash incentive program that preserves the spread existing at the
      time of such corporate action and provides for the subsequent payout in
      accordance with the same vesting schedule applicable to our options.





*Automatic
      Acceleration* .  At
      the time of grant or while the options are outstanding, the committee has
      discretion to allow automatic acceleration of one or more options upon
      occurrence of a change-of-control corporate transaction, whether or not our
      options are assumed or replaced by the successor entity. In addition, the
      committee may allow automatic acceleration for options if the holder’s service
      is terminated involuntarily within 18 months after the effectiveness of such
      corporate transaction.





*Option
      Agreement.* Options
      granted under our 2005 option plan are evidenced by a non-qualified stock option
      agreement that sets forth the terms, conditions and limitations for the options
      granted, including the exercise price, duration of the options and the vesting
      schedule.





*Termination
      of Employment, Death and Disability.* In
      the event of termination of services other than for death, disability or
      misconduct, the unvested portion of the options shall immediately terminate
      and
      cease to remain outstanding. If an option holder dies or ceases to provide
      services to us do to permanent disability, his or her options will become fully
      exercisable and will remain valid for exercise for a year. If an option holder
      ceases to provide services to us due to his or her misconduct, all the options
      held by such person shall immediately terminate, whether vested or unvested.





*Market
      Stand-Off.* In
      case of a public offering pursuant to a registration statement filed under
      the
      Securities Act, holders of our options may not sell, hypothecate, pledge or
      otherwise transfer for value or dispose of any shares acquired upon exercise
      of
      an option granted under our 2005 stock option plan without the prior written
      consent of us and the underwriters.  In event of a public offering, the
      market stand-off of the shares acquired upon exercise of an option shall be
      in
      effect for such period of time from and after the effective date of the final
      prospectus for the offering as may be required to execute such agreement as
      we
      or underwriter request in connection with the market stand-off.





*Transferability
      of Options* .  The
      options granted under our 2005 stock option plan may not be transferred other
      than by will or operation of laws, except as otherwise agreed by the
      committee.




88





**Security
      Ownership of Certain Beneficial Owners and Management**





The
      following table sets forth, as of September 30, 2007, certain information with
      respect to the beneficial ownership of our common stock by (i) each director
      and
      executive officer, (ii) each person known by us to be the beneficial owner
      of
      five percent or more of the outstanding shares of common stock, and (iii) all
      directors and executive officers as a group. Unless otherwise indicated, the
      person or entity listed in the table is the beneficial owner of, and has sole
      voting and investment power with respect to, the shares indicated.





**Amount
                and Nature of Beneficial Ownership****(1)****Name
                of Beneficial Owner**
            
            **Number
                of Shares****(2)**
            
            **Percent
                of Voting Stock****(3)**Xiangqian
                Li
            
            
            19,053,887
            (4)
            
            38.7
            %BAK
                Industrial Park, No. 1 BAK Street
              Kuichong
                Town
              Longgang
                District, Shenzhen
              People’s
                Republic of ChinaHuanyu
                Mao
            
            
            329,805
            
            
            *BAK
                Industrial Park, No. 1 BAK Street
              Kuichong
                Town
              Longgang
                District, Shenzhen
              People’s
                Republic of ChinaTony
                Shen
            
            
            30,000
            
            
            *BAK
                Industrial Park, No. 1 BAK Street
              Kuichong
                Town
              Longgang
                District, Shenzhen
              People’s
                Republic of ChinaCharlene
                Spoede Budd
            
            
            5,500
            
            
            *99
                Air Strip Road
              Jackson,
                Georgia 30233
              United
                StatesChunzhi
                Zhang
            
            
            5,000
            
            
            *Room
                1505, Block B Tairan 9th Road
              Chengongmiao,
                Futian District
              Shenzhen
                F4 518000Richard
                Goodner
            
            
            10,000
            
            
            *6608
                Emerald Drive
              Colleyville,
                TX 76034
              United
                StatesYongbin
                Han
            
            
            136,566
            
            
            *BAK
                Industrial Park, No. 1 BAK Street
              Kuichong
                Town
              Longgang
                District, Shenzhen
              People’s
                Republic of ChinaXinggang
                Cao
            
            
            12,291
            
            
            *BAK
                Industrial Park, No. 1 BAK Street
              Kuichong
                Town
              Longgang
                District, Shenzhen
              People’s
                Republic of ChinaKenneth
                G. Broom
            
            
            -
            
            
            -31061
                Gunn Ave. Mission
              B.C.
                AI V45157Directors
                and executive officers as a group (9 persons)
            
            
            19,568,039
            
            
            39.7
            %







*
            Denotes
                less than 1% of the outstanding shares of common stock(1)
            On
                September 30, 2007, there were 49,250,853 shares of common stock
                outstanding and no issued and outstanding preferred stock. Each person
                named above has the sole investment and voting power with respect
                to all
                shares of common stock shown as beneficially owned by the person,
                except
                as otherwise indicated below.




89




(2)
            Under
                applicable SEC rules, a person is deemed to be the “beneficial owner” of a
                security with regard to which the person directly or indirectly,
                has or
                shares (a) the voting power, which includes the power to vote or
                direct the voting of the security, or (b) the investment power, which
                includes the power to dispose, or direct the disposition, of the
                security,
                in each case irrespective of the person’s economic interest in the
                security. Under these SEC rules, a person is deemed to beneficially
                own
                securities which the person has the right to acquire within 60 days
                through the exercise of any option or warrant or through the conversion
                of
                another security.(3)
            In
                determining the percent of voting stock owned by a person on September
                30,
                2007, (a) the numerator is the number of shares of common stock
                beneficially owned by the person, including shares the beneficial
                ownership of which may be acquired within 60 days upon the exercise
                of
                options or warrants or conversion of convertible securities, and
                (b) the denominator is the total of (i) the shares in the
                aggregate of common stock outstanding on September 30, 2007, and
                (ii) any shares of common stock which the person has the right to
                acquire within 60 days upon the exercise of options or warrants or
                conversion of convertible securities. Neither the numerator nor the
                denominator includes shares which may be issued upon the exercise
                of any
                other options or warrants or the conversion of any other convertible
                securities.(4)
            Mr.
                Li is a party to an Escrow Agreement pursuant to which he agreed
                to place
                2,179,550 shares of his common stock into escrow for the benefit
                of the
                new investors relating to the share issuance in January 2005 in the
                event
                we fail to satisfy certain “performance thresholds”, as defined in the
                Escrow Agreement for the fiscal years ending September 30, 2005 and
                2006.
                Our previously reported net income for the fiscal year ended September
                30,
                2005 exceeded the “performance threshold” for such period; accordingly,
                1,089,775 of the shares placed in escrow by Mr. Li were released
                to Mr.
                Li. Because the recognition of a compensation charge in connection
                with
                the release of the escrowed shares back to Mr. Li would cause our
                net
                income for fiscal 2005 to fall below $12.0 million, and based on
                Mr. Li’s
                understanding that the investors in the January 2005 share issuance
                would
                therefore become entitled to the 1,089,775 shares released to him,
                Mr. Li
                undertook on August 21, 2006 to transfer those shares to such investors
                on
                a pro rata basis. Notwithstanding this undertaking, however, the
                1,089,775
                shares were not delivered to such investors. Pursuant to a Delivery
                of
                Make Good Shares, Settlement and Release Agreement (the “Settlement
                Agreement”) entered into among the Company, Mr. Li and BAK International
                dated October 22, 2007, Mr. Li agreed to deliver the 1,089,775 shares
                to
                BAK International; BAK International in turn agreed to deliver the
                shares
                to the Company. Upon receipt of these shares, the Company agreed
                to
                release all claims and causes of action against Mr. Li and certain other
                persons regarding the shares. On October 25, 2007, the 1,089,775
                shares
                were delivered to the Company, and such shares are now held as treasury
                shares. Under the terms of the Settlement Agreement, the Company
                is
                obligated to commence negotiations with the investors who participated
                in
                the Company’s January 2005 private placement in order to achieve a
                complete settlement of BAK International’s obligations (and the Company’s
                obligations to the extent it has any) under the applicable agreements
                with
                such investors. The shares listed under Mr. Li in this table do not
                include the 1,089,775 shares described herein. Mr. Li is also a party
                to a
                guarantee agreement under which he has pledged certain of his shares
                of
                our common stock to China Development Bank as collateral for a long-term
                loan agreement entered into by Shenzhen BAK. Such shares had previously
                been subject to a pledge in favor of Shenzhen Development Bank which
                was
                released by Shenzhen Development Bank on August 25,
                2006.





**Changes
      in Control**





There
      are
      no arrangements known to us, including any pledge by any person of our
      securities, the operation of which may at a subsequent date result in a change
      in control of the Company.





**Item
      13. Certain Relationships and Related Party Transactions.**





*Related
      Party Transactions*





None.




90





*Director
      Independence*





The
      Board
      of Directors has determined that each of our non-employee directors is
      independent and that each director who serves on each of its committees is
      independent, as the term is defined under the Nasdaq listing standards and
      the
      Securities and Exchange Commission.





**Item
      14. Principal Accounting Fees and Services.** ******





**Independent
      Auditors’ Fees**





Schwartz
      Levitsky Feldman LLP and KPMG performed services for us in fiscal years 2006
      and
      2007, and PKF performed services for us in fiscal year 2007, related to
      financial statement audit work, quarterly reviews, audit of internal control
      over financial reporting and registration statement. Fees paid or payable to
      George Stewart, C.P.A., Schwartz Levitsky Feldman LLP, KPMG, and PKF in fiscal
      2007 and 2006 were as follows:





**Year
                Ended September 30,**
            
            **2007**
            
            **2006**Audit
                Fees
            
            $
            223,630
            
            $
            935,826Audit-Related
                Fees
            
            
            24,375
            
            
            9,342Tax
                Fees
            
            
            -
            
            
            -All
                Other Fees
            
            
            -
            
            
            -Total
            
            $
            248,005
            
            $
            945,168





**Pre-Approval
      Policies and Procedures**





Under
      the
      Sarbanes-Oxley Act of 2002, all audit and non-audit services performed by our
      auditors must be approved in advance by our audit committee to assure that
      such
      services do not impair the auditors’ independence from us. In accordance with
      its policies and procedures, our audit committee pre-approved the audit service
      performed by KPMG and PKF for our consolidated financial statements as of and
      for the year ended September 30, 2007 and our internal control over financial
      reporting as of September 30, 2007. As our audit committee was formed only
      in
      May 2006, there was no such pre-approval by our audit committee before George
      Stewart, C.P.A. and Schwartz Levitsky Feldman LLP performed their audit in
      fiscal 2005 and before KPMG performed the re-audit of our consolidated financial
      statements for fiscal 2003, 2004 and 2005.





**PART
      IV**





**Item
      15.*****Exhibits,
      Financial Statement Schedules.***





(a)
            Financial
                Statements and Schedules





The
      financial statements are set forth under Item 8 of this Annual Report on
      Form 10-K. Financial statement schedules have been omitted since they are either
      not required, not applicable, or the information is otherwise included.





(b)
            Exhibit
                Listing




**Exhibit**
              **Number**
            
            **Description
                of Document**3.1
            
            Articles
                of Incorporation of the Registrant (incorporated by reference to
                Exhibit
                3.1 to the Registrant’s Annual Report on Form 10-K filed with the
                Commission on December 8, 2006)3.2
            
            By-laws
                of the Registrant4.1
            
            Form
                of Registration Rights Agreement, dated November 5, 2007 (incorporated
                by
                reference to Exhibit 4.1 to the Registrant’s Current Report on Form 8-K
                filed with the Commission on November 6, 2007).10.1
            
            China
                BAK Battery, Inc. Stock Option Plan (incorporated by reference to
                Exhibit
                10.1 to the Registrant’s Quarterly Report on Form 10-Q filed with the
                Commission on August 22, 2006)10.2
            
            China
                BAK Battery, Inc. Compensation Plan for Non-Employee Directors
                (incorporated by reference to Exhibit 10.2 to the Registrant’s Quarterly
                Report on Form 10-Q filed with the Commission on August 22,
                2006)




91




10.3
            
            Form
                of Indemnification Agreement with the Registrant’s directors (incorporated
                by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form
                10-Q filed with the Commission on August 22, 2006)10.4
            
            Employment
                Agreement between the Registrant and Xiangqian Li , dated June 30,
                200610.5
            
            Employment
                Agreement between the Registrant and Yongbin Han, dated June 30,
                200610.6
            
            Employment
                Agreement between the Registrant and Huanyu Mao, dated June 30,
                200610.7
            
            Employment
                Agreement between the Registrant and Kenneth G. Broom, dated December
                20,
                200610.8
            
            Employment
                Agreement between the Registrant and Tony Shen, dated May 13,
                200710.9
            
            Warrant
                issued by China BAK Battery, Inc. to Roth Capital Partners, LLC on
                September 16, 2005 (incorporated by reference to Exhibit 10.50 to
                the
                Registrant’s Annual Report on Form 10-KSB filed with the Commission on
                December 30, 2005)10.10
            
            Warrant
                issued by China BAK Battery, Inc. to Global Hunter Securities LLC
                on
                September 16, 2005 (incorporated by reference to Exhibit 10.51 to
                the
                Registrant’s Annual Report on Form 10-KSB filed with the Commission on
                December 30, 2005)10.11
            
            Summary
                of Comprehensive Credit Facility Agreement entered into between Shenzhen
                BAK Battery Co., Ltd. and Shuibei Branch, Shenzhen Commercial Bank
                on
                August 7, 2007 (incorporated by referent to Exhibit 10.8 to the
                Registrant’s Quarterly Report on Form 10-Q filed with the Commission on
                August 22, 2006)10.12
            
            Guaranty
                Contract of Maximum Amount, dated as of April 21, 2006, by and between
                BAK
                International Limited and Shuibei Branch, Shenzhen Commercial Bank
                (incorporated by referent to Exhibit 10.7 to the Registrant’s Quarterly
                Report on Form 10-Q filed with the Commission on August 22,
                2006)10.13
            
            Individual
                Guaranty Contract of Maximum Amount, dated as of April 21, 2006,
                by and
                between Xiangqian Li and Shuibei Branch, Shenzhen Commercial Bank
                (incorporated by referent to Exhibit 10.8 to the Registrant’s Quarterly
                Report on Form 10-Q filed with the Commission on August 22,
                2006)10.14
            
            Mortgage
                Contract, dated November 23, 2006, by and between Shenzhen Eastern
                Branch,
                Agricultural Bank of China and Shenzhen BAK Battery Co., Ltd.
                (incorporated by referent to Exhibit 10.8 to the Registrant’s Quarterly
                Report on Form 10-Q filed with the Commission on February 9,
                2007)10.15
            
            Summary
                of Comprehensive Credit Facility Agreement of Maximum Amount, dated
                June
                8, 2007, by and between Shenzhen BAK Battery Co., Ltd. and Shenzhen
                Eastern Branch, Agricultural Bank of China (incorporated by reference
                to
                Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q filed with
                the Commission on August 7, 2007)10.16
            
            Guaranty
                Contract of Maximum Amount, dated June 8, 2007, among BAK International
                Limited, Xiangqian Li and Shenzhen Eastern Branch, Agricultural Bank
                of
                China (incorporated by reference to Exhibit 10.2 to the Registrant’s
                Quarterly Report on Form 10-Q filed with the Commission on August
                7,
                2007)10.17
            
            Summary
                of Loan Agreement, dated as of June 22, 2007, by and between Shenzhen
                BAK
                Battery Co., Ltd. and Shenzhen Eastern Branch, Agricultural Bank
                of China
                (incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly
                Report on Form 10-Q filed with the Commission on August 7,
                2007)10.18
            
            Summary
                of Comprehensive Credit Facilities Agreement, dated June 20, 2007,
                by and
                between Shenzhen BAK Battery Co., Ltd. and Longgang Branch, Shenzhen
                Development Bank (incorporated by reference to Exhibit 10.4 to the
                Registrant’s Quarterly Report on Form 10-Q filed with the Commission on
                August 7, 2007)10.19
            
            Guaranty
                Contract of Maximum Amount Pledge, dated June 20, 2007, by and between
                Xiangqian Li and Longgang Branch, Shenzhen Development Bank (incorporated
                by reference to Exhibit 10.5 to the Registrant’s Quarterly Report on Form
                10-Q filed with the Commission on August 7, 2007)10.20
            
            Guaranty
                Contract of Maximum Amount, dated June 21, 2007, by and between BAK
                International Limited and Longgang Branch, Shenzhen Development Bank
                (incorporated by reference to Exhibit 10.6 to the Registrant’s Quarterly
                Report on Form 10-Q filed with the Commission on August 7,
                2007)10.21
            
            Guaranty
                Contract of Maximum Amount, dated June 20, 2007, by and between Xiangqian
                Li and Longgang Branch, Shenzhen Development Bank (incorporated by
                reference to Exhibit 10.7 to the Registrant’s Quarterly Report on Form
                10-Q filed with the Commission on August 7, 2007)10.22
            
            Summary
                of Comprehensive Credit Facility Agreement, dated May 15, 2007, by
                and
                between Shenzhen BAK Battery Co., Ltd. and Shuibei Branch, Shenzhen
                Ping
                An Bank (f/k/a Shenzhen Commercial Bank) (incorporated by reference
                to
                Exhibit 10.8 to the Registrant’s Quarterly Report on Form 10-Q filed with
                the Commission on August 7, 2007)




92




10.23
            
            Individual
                Guaranty Contract of Maximum Amount, dated May 15, 2007, by and between
                Xiangqian Li and Longgang Branch, Shenzhen Ping An Bank (f/k/a Shenzhen
                Commercial Bank) (incorporated by reference to Exhibit 10.9 to the
                Registrant’s Quarterly Report on Form 10-Q filed with the Commission on
                August 7, 2007)10.24
            
            Guaranty
                Contract of Maximum Amount, dated May 15, 2007, by and between BAK
                International Limited and Longgang Branch, Shenzhen Ping An Bank
                (f/k/a
                Shenzhen Commercial Bank) (incorporated by reference to Exhibit 10.10
                to
                the Registrant’s Quarterly Report on Form 10-Q filed with the Commission
                on August 7, 2007)10.25
            
            Loan
                Certificate, dated June 20, 2007, by and between Shenzhen BAK Battery
                Co.,
                Ltd and Shuibei Branch, Shenzhen Ping An Bank (f/k/a Shenzhen Commercial
                Bank) (incorporated by reference to Exhibit 10.13 to the Registrant’s
                Quarterly Report on Form 10-Q filed with the Commission on August
                7,
                2007)10.26
            
            Summary
                of Comprehensive Credit Facility Agreement of Maximum Amount entered
                into
                between Shenzhen BAK Battery Co., Ltd. And Shenzhen Branch, China
                CITIC
                Bank on March 14, 2007 (incorporated by reference to Exhibit 10.1
                to the
                Registrant’s Quarterly Report on Form 10-Q filed with the Commission on
                May 8, 2007)10.27
            
            Summary
                of Guaranty Contract of Maximum Amount, dated March 14, 2007, by
                and
                between BAK International Limited and China CITIC Bank (incorporated
                by
                reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form
                10-Q filed with the Commission on May 8, 2007)10.28
            
            Summary
                of Guaranty Contract of Maximum Amount, dated March 14, 2007, by
                and
                between Xiangqian Li and China CITIC Bank (incorporated by reference
                to
                Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q filed with
                the Commission on May 8, 2007)10.29
            
            Loan
                Certificate between Shenzhen BAK Battery Co., Ltd and China CITIC
                Bank on
                April 16, 2007 (incorporated by reference to Exhibit 10.11 to the
                Registrant’s Quarterly Report on Form 10-Q filed with the Commission on
                August 7, 2007)10.30
            
            Loan
                Certificate between Shenzhen BAK Battery Co., Ltd and China CITIC
                Bank on
                April 18, 2007 (incorporated by reference to Exhibit 10.12 to the
                Registrant’s Quarterly Report on Form 10-filed with the Commission on
                August 7, 2007)10.31
            
            Summary
                of Comprehensive Credit Facility Agreement entered into between Shenzhen
                BAK Battery Co., Ltd and Shenzhen Branch, China Construction Bank
                on
                February 14, 2007 (incorporated by reference to Exhibit 10.4 to the
                Registrant’s Quarterly Report on Form 10-Q filed with the Commission on
                May 8, 2007)10.32
            
            Summary
                of Guaranty Agreement of Maximum Amount entered into between Shenzhen
                BAK
                Battery Co., Ltd and Shenzhen Branch, China Construction Bank on
                February
                14, 2007 (incorporated by reference to Exhibit 10.5 to the Registrant’s
                Quarterly Report on Form 10-Q filed with the Commission on May 8,
                2007)10.33
            
            Summary
                of Loan Agreement entered into between Shenzhen BAK Battery Co.,
                Ltd and
                Shenzhen Branch, China Construction Bank on February 14, 2007
                (incorporated by reference to Exhibit 10.6 to the Registrant’s Quarterly
                Report on Form 10-Q filed with the Commission on May 8,
                2007)10.34
            
            Summary
                of Loan Agreement, effective December 18, 2006, between Shenzhen
                BAK
                Battery Co., Ltd. and Shenzhen Eastern Branch, Agricultural Bank
                of China
                (incorporated by reference to Exhibit 10.1 to the Registrant’s Current
                Report on Form 8-K filed with the Commission on December 22,
                2006)10.35
            
            Summary
                of Loan Agreement, dated December 26, 2006, between Shenzhen BAK
                Battery
                Co., Ltd. and Shenzhen Branch, China Development Bank. (incorporated
                by
                reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K
                filed with the Commission on January 3, 2007)10.36
            
            Summary
                of Guaranty Agreement, dated December 26, 2006, between Xiangqian
                Li and
                Shenzhen Branch, China Development Bank. (incorporated by reference
                to
                Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed with the
                Commission on January 3, 2007)10.37
            
            Summary
                of Loan Agreement, dated as of January 11, 2006, by and between Shenzhen
                Tongli Hi-tech Co., Ltd. and Shenzhen Nanshan Branch of Guangdong
                Development Bank (incorporated by reference to Exhibit 10.1 to the
                Registrant’s Current Report on Form 8-K filed with the Commission on
                January 18, 2006)10.38
            
            Summary
                of Guaranty Contract, dated as of January 11, 2006, by and between
                Shenzhen BAK Battery Co., Ltd. and Shenzhen Nanshan Branch of Guangdong
                Development Bank to secure indebtedness of Shenzhen Tongli Hi-tech
                Co.,
                Ltd. (incorporated by reference to Exhibit 10.2 to the Registrant’s
                Current Report on Form 8-K filed with the Commission on January 18,
                2006)




93




10.39
            
            Guaranty
                Contract of Maximum Amount, dated as of September 16, 2005, by and
                between
                Shenzhen BAK Battery Co., Ltd. and Longhua Branch, Shenzhen Development
                Bank to secure indebtedness of Shenzhen Tongli Hi-tech Co., Ltd.
                (incorporated by reference to Exhibit 10.49 to the Registrant’s
                Registration Statement on Form SB-2/A filed with the Commission on
                November 29, 2005)10.40
            
            Facility
                Letter, dated July 5, 2006, by and between BAK International Limited
                and
                CITIC Ka Wah Bank (incorporated by reference to Exhibit 10.47 to
                the
                Registrant’s Annual Report on Form 10-K filed with the Commission on
                December 8, 2006)10.41
            
            Summary
                of Loan Agreement dated July 2, 2007, by and between Shenzhen BAK
                Co.,
                Ltd. and Agricultural Bank of China, Shenzhen Eastern
                Branch10.42
            
            Summary
                of Loan Agreement dated August 27, 2007, by and between Shenzhen
                BAK Co.,
                Ltd. and Agricultural Bank of China, Shenzhen Eastern
                Branch10.43
            
            Loan
                Certificate, dated July 2, 2007, by and between Shenzhen BAK Battery
                Co.,
                Ltd. and Shenzhen Development Bank, Shenzhen Branch10.44
            
            Loan
                Certificate, dated August 14, 2007, by and between Shenzhen BAK Co.,
                Ltd.
                and Bank of China, Shenzhen Branch10.45
            
            Loan
                Certificate, dated August 15, 2006, by and between Shenzhen BAK Battery
                Co., Ltd and Bank of China, Shenzhen Branch10.46
            
            Loan
                Certificate, dated September 3, 2007, by and between Shenzhen BAK
                Battery
                Co., Ltd. and Shenzhen Ping An Bank, Shuibei Branch (f/k/a Shenzhen
                Commercial Bank)10.47
            
            Loan
                Certificate, dated September 6, 2007, by and between Shenzhen BAK
                Battery
                Co., Ltd. and Shenzhen Ping An Bank, Shuibei Branch (f/k/a Shenzhen
                Commercial Bank)10.48
            
            Loan
                Certificate, dated July 9, 2007, by and between Shenzhen BAK Co.,
                Ltd. and
                Agricultural Bank of China, Shenzhen Eastern Branch10.49
            
            Form
                of Securities Purchase Agreement, dated November 5, 2007 (incorporated
                by
                reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K
                filed with the Commission on November 6, 2007)10.50
            
            Delivery
                of Make Good Shares, Settlement and Release Agreement, by and among
                China
                BAK Battery, Inc., Xiangqian Li, and BAK International, Ltd., dated
                October 22, 2007 (incorporated by reference to Exhibit 10.2 to the
                Registrant’s Current Report on Form 8-K filed with the Commission on
                November 6, 2007)10.51
            
            Escrow
                Agreement by and among Medina Coffee, Inc., certain investors indicated
                therein, Xiangqian Li, and Securities Transfer Corporation, dated
                as of
                January 20, 2005 (incorporated by reference to Exhibit 10.2 to the
                Company’s Current Report on Form 8-K filed with the Commission on January
                21, 2005)10.52
            
            Form
                of Termination and Release Agreement (incorporated by reference to
                Exhibit
                10.1 to the Registrant’s Current Report on Form 8-K filed with the
                Commission on October 2, 2006)10.53
            
            Form
                of Restricted Stock Grant Award Agreement (incorporated by reference
                to
                Exhibit 10.2 to the Registrant’s Current Report on Form 8-K filed with the
                Commission on October 2, 2006)10.54
            
            Form
                of Restricted Stock Grant Agreement (incorporated by reference to
                Exhibit
                10.1 to the Registrant’s Quarterly Report on Form 10-Q filed with the
                Commission on February 9, 2007)14.1
            
            Code
                of Business Conduct and Ethics of the Registrant (incorporated by
                reference to Exhibit 14.1 to the Registrant’s Quarterly Report on
                Form 10-Q filed with the Commission on August 22, 2006)16.1
            
            Letter
                from KPMG to Securities and Exchange Commission, dated April 13,
                2007
                (incorporated by reference to Exhibit 16 to the Registrant’s Current
                Report on Form 8-K/A filed with the Commission on April 17,
                2007)21.1
            
            Subsidiaries
                of the Registrant (incorporated by reference to Exhibit 21.1 to the
                Registrant’s Form S-1 filed with the Commission on October 11,
                2006)23.1
            
            Consent
                of PKF23.2
            
            Consent
                of KPMG31.1
            
            Certifications
                of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley
                Act of 200231.2
            
            Certifications
                of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley
                Act of 2002




94




32.1
            
            Certifications
                of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley
                Act of 200232.2
            
            Certifications
                of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley
                Act of 2002








95




**CHINA
      BAK BATTERY, INC.**


**INDEX
      TO CONSOLIDATED FINANCIAL STATEMENTS FOR THE YEARS**


**ENDED
      SEPTEMBER 30, 2005, 2006 AND 2007**




**Contents**
            
            **Page(s)**Report
                of Independent Registered Public Accounting Firm - PKF
            
            F-1Report
                of Independent Registered Public Accounting Firm - KPMG
            
            F-2Consolidated
                Balance Sheets as of September 30, 2006 and 2007
            
            F-3Consolidated
                Statements of Income and Comprehensive Income for the years ended
                September 30, 2005, 2006 and 2007
            
            F-5Consolidated
                Statements of Shareholders’ Equity for the years ended September 30, 2005,
                2006 and 2007
            
            F-6Consolidated
                Statements of Cash Flows for the years ended September 30, 2005,
                2006 and
                2007
            
            F-7Notes
                to the Consolidated Financial Statements
            
            F-9




96





**Report
      of Independent Registered Public Accounting Firm**





The
      Board
      of Directors and Shareholders of


China
      BAK
      Battery, Inc.:





We
      have
      audited the accompanying consolidated balance sheet of China BAK Battery, Inc.
      and subsidiaries (the “Company”) as of September 30, 2007 and the related
      consolidated statements of income and comprehensive  income,
      shareholders’ equity and cash flows for the year ended September 30, 2007. These
      consolidated financial statements are the responsibility of the Company’s
      management. Our responsibility is to express an opinion on these consolidated
      financial statements based on our audit.





We
      conducted our audit in accordance with the standards of the Public Company
      Accounting Oversight Board (United States). Those standards require that we
      plan
      and perform the audit to obtain reasonable assurance about whether the financial
      statements are free of material misstatement. An audit includes examining,
      on a
      test basis, evidence supporting the amounts and disclosures in the financial
      statements. An audit also includes assessing the accounting principles used
      and
      significant estimates made by management, as well as evaluating the overall
      financial statement presentation. We believe that our audit provides a
      reasonable basis for our opinion.





In
      our
      opinion, the consolidated financial statements referred to above present fairly,
      in all material respects, the financial position of the Company as of September
      30, 2007, and the results of its operations and its cash flows for the year
      ended September 30, 2007, in conformity with U.S. generally accepted accounting
      principles.





We
      also
      have audited, in accordance with the standards of the Public Company Accounting
      Oversight Board (United States), the effectiveness of the Company’s internal
      control over financial reporting as of September 30, 2007, based on criteria
      established in Internal Control — Integrated Framework issued by the Committee
      of Sponsoring Organizations of the Treadway Commission, and our report dated
      December 11, 2007, expressed an unqualified opinion on management’s assessment
      of, and an adverse opinion on the effective operation of, internal control
      over
      financial reporting.





/s/
      PKF


Certified
      Public Accountants


Hong
      Kong


December
      11, 2007





F-1




**Report
      of Independent Registered Public Accounting Firm**





The
      Board
      of Directors and Shareholders of


China
      BAK
      Battery, Inc.:





We
      have
      audited the accompanying consolidated balance sheet of China BAK Battery, Inc.
      and subsidiaries (hereinafter collectively referred to as the “Group”) as of
      September 30, 2006, and the related consolidated statements of income and
      comprehensive income, shareholders’ equity, and cash flows for each of the years
      in the two-year period ended September 30, 2006. These consolidated financial
      statements are the responsibility of the Group’s management. Our responsibility
      is to express an opinion on these consolidated financial statements based on
      our
      audits.





We
      conducted our audits in accordance with the standards of the Public Company
      Accounting Oversight Board (United States). Those standards require that we
      plan
      and perform the audit to obtain reasonable assurance about whether the financial
      statements are free of material misstatement. An audit includes examining,
      on a
      test basis, evidence supporting the amounts and disclosures in the financial
      statements. An audit also includes assessing the accounting principles used
      and
      significant estimates made by management, as well as evaluating the overall
      financial statement presentation. We believe that our audits provide a
      reasonable basis for our opinion.





In
      our
      opinion, the consolidated financial statements referred to above present fairly,
      in all material respects, the financial position of the Group as of September
      30, 2006, and the results of their operations and their cash flows for each
      of
      the years in the two-year period ended September 30, 2006, in conformity with
      U.S. generally accepted accounting principles.





As
      discussed in note 2(q) to the consolidated financial statements, on October
      1,
      2005, the Group adopted Statement of Financial Accounting Standards (“SFAS”)
      No.123 ( *Revised* 2004),
“ *Share-Based
      Payment* ”,
      using
      the modified prospective method, representing a change in the Group’s method of
      accounting for stock-based compensation.







/s/
      KPMG


Hong
      Kong, China





December
      8, 2006





F-2




**China
      BAK Battery, Inc. and subsidiaries**


**Consolidated
      balance sheets**


**As
      of September 30, 2006 and 2007**




(In
      US$)


*Note*
              
              *2006*
              
              *2007***Assets***Current
                  assets*Cash
                  and cash equivalents
              
              
              
              
              $
              21,099,555
              
              $
              14,196,513Pledged
                  deposits
              
              
              3
              
              
              12,971,989
              
              
              4,594,727Trade
                  accounts receivable, net
              
              
              4
              
              
              64,332,171
              
              
              63,150,872Inventories
              
              
              5
              
              
              47,388,936
              
              
              59,827,232Prepayments
                  and other receivables
              
              
              6
              
              
              1,134,770
              
              
              1,656,494Deferred
                  tax assets
              
              
              7(b
              )
              
              -
              
              
              502,916Total
                  current assets
              
              
              
              
              
              146,927,421
              
              
              143,928,754Property,
                  plant and equipment, net
              
              
              8,
                  20
              
              
              109,406,116
              
              
              145,123,022Lease
                  prepayments, net
              
              
              9
              
              
              3,161,477
              
              
              17,884,436Intangible
                  assets, net
              
              
              10
              
              
              74,682
              
              
              121,038Deferred
                  tax assets
              
              
              7(b
              )
              
              85,598
              
              
              171,774Total
                  assets
              
              
              
              
              $
              259,655,294
              
              $
              307,229,024




See
      accompanying notes to the consolidated financial statements.





F-3




**China
      BAK Battery** **,** **Inc** **.** **and subsidiaries**


**Consolidated
      balance sheets**


**As
      of September 30, 2006 and 2007 (continued)**




(In
      US$)


*Note*
              
              *2006*
              
              *2007***Liabilities***Current
                  liabilities*Short-term
                  bank loans
              
              
              11
              
              $
              67,899,908
              
              $
              89,870,586Accounts
                  and bills payable
              
              
              
              
              
              48,316,250
              
              
              45,588,583Accrued
                  expenses and other payables
              
              
              13
              
              
              25,880,985
              
              
              15,467,192Share-based
                  payment liabilities
              
              
              18
              
              
              3,625,165
              
              
              -Total
                  current liabilities
              
              
              
              
              
              145,722,308
              
              
              150,926,361Long-term
                  bank loans
              
              
              12
              
              
              -
              
              
              29,291,154Deferred
                  tax liabilities
              
              
              7(b
              )
              
              304,957
              
              
              279,597Total
                  liabilities
              
              
              
              
              
              146,027,265
              
              
              180,497,112Commitments
                  and contingencies
              
              
              20**Shareholders’
                  equity**Ordinary
                  shares US$ 0.001 par value;100,000,000
                  authorized; 48,885,896 and 49,250,853 issued and outstanding as
                  of
                  September 30, 2006 and 2007 respectively
              
              
              
              
              
              48,886
              
              
              49,251Additional
                  paid-in-capital
              
              
              
              
              
              68,126,689
              
              
              74,310,509Statutory
                  reserves
              
              
              
              
              
              5,791,718
              
              
              6,426,977Retained
                  earnings
              
              
              
              
              
              36,212,357
              
              
              36,060,426Accumulated
                  other comprehensive income
              
              
              
              
              
              3,448,379
              
              
              9,884,749Total
                  shareholders’ equity
              
              
              
              
              
              113,628,029
              
              
              126,731,912Total
                  liabilities and shareholders’ equity
              
              
              
              
              $
              259,655,294
              
              $
              307,229,024





See
      accompanying notes to the consolidated financial statements.




F-4




**China
      BAK Battery** **,
      I** **nc** **.** **and subsidiaries**


**Consolidated
      statements of income and comprehensive income**


**For
      the years ended September 30, 2005, 2006 and 2007**




(In
      US$)


*Note*
              
              *2005*
              
              *2006*
              
              *2007*Net
                  revenues
              
              
              23
              
              $
              101,921,583
              
              $
              143,829,016
              
              $
              145,860,899Cost
                  of revenues
              
              
              8,
                  17
              
              
              (76,046,927
              )
              
              (104,196,278
              )
              
              (120,254,925
              )Gross
                  profit
              
              
              
              
              
              25,874,656
              
              
              39,632,738
              
              
              25,605,974Operating
                  expenses:Research
                  and development costs
              
              
              8,
                  17
              
              
              (541,735
              )
              
              (2,935,134
              )
              
              (3,957,145
              )Sales
                  and marketing expenses
              
              
              8,
                  17
              
              
              (3,854,490
              )
              
              (5,054,624
              )
              
              (4,695,604
              )General
                  and administrative expenses
              
              
              8,
                  17
              
              
              (5,994,600
              )
              
              (9,071,615
              )
              
              (12,371,873
              )Total
                  operating expenses
              
              
              
              
              
              (10,390,825
              )
              
              (17,061,373
              )
              
              (21,024,622
              )Operating
                  income
              
              
              
              
              
              15,483,831
              
              
              22,571,365
              
              
              4,581,352Finance
                  costs, net
              
              
              16
              
              
              (845,327
              )
              
              (1,888,313
              )
              
              (5,224,800
              )Gain
                  on trading securities
              
              
              
              
              
              -
              
              
              279,260
              
              
              -Government
                  grant income
              
              
              
              
              
              -
              
              
              -
              
              
              1,034,685Other
                  expenses
              
              
              
              
              
              (490,018
              )
              
              (204,854
              )
              
              (103,430
              )Income
                  before income taxes
              
              
              
              
              
              14,148,486
              
              
              20,757,458
              
              
              287,807Income
                  taxes
              
              
              7(a
              )
              
              (651,938
              )
              
              (592,892
              )
              
              195,521Net
                  income
              
              
              
              
              $
              13,496,548
              
              $
              20,164,566
              
              $
              483,328Other
                  comprehensive income-
                  Foreign currency translation adjustment
              
              
              
              
              
              1,005,425
              
              
              2,443,124
              
              
              6,436,370Comprehensive
                  income
              
              
              
              
              $
              14,501,973
              
              $
              22,607,690
              
              $
              6,919,698Net
                  income per share:-Basic
              
              
              15
              
              $
              0.35
              
              $
              0.41
              
              $
              0.01-Diluted
              
              
              15
              
              $
              0.35
              
              $
              0.41
              
              $
              0.01Weighted
                    average number of ordinary shares:-Basic
              
              
              15
              
              
              38,288,874
              
              
              48,879,608
              
              
              48,979,115-Diluted
              
              
              15
              
              
              38,408,625
              
              
              48,912,963
              
              
              49,442,285




See
      accompanying notes to the consolidated financial statements.




F-5




**China
      BAK Battery, Inc. and subsidiaries**


**Consolidated
      statements of shareholders’ equity**


**For
      the years ended September 30, 2005, 2006 and 2007**




(In
      US$)




Ordinary
                    shares
                
                Additional
                
                
                
                
                
                Accumulated
                    other comprehensive
                
                Total
                    share-Number
                    of
                
                
                
                paid-in-
                
                Statutory
                
                Retained
                
                income/
                
                holders’Note
                
                shares
                
                amount
                
                capital
                
                reserves
                
                earnings
                
                (loss)
                
                equityBalance
                    as of October 1, 2004
                
                
                
                
                
                31,225,642
                
                $
                31,226
                
                $
                12,052,845
                
                $
                1,724,246
                
                $
                6,621,539
                
                $
                (170
                )
                $
                20,429,686Net
                    income
                
                
                
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                13,496,548
                
                
                -
                
                
                13,496,548Reverse
                    acquisition
                
                
                1
                
                
                1,152,458
                
                
                1,152
                
                
                -
                
                
                -
                
                
                (2,824
                )
                
                -
                
                
                (1,672
                )Issuance
                    of ordinary shares, net of transaction costs of US$
                    5,070,091
                
                
                14
                
                
                16,500,296
                
                
                16,500
                
                
                55,362,656
                
                
                -
                
                
                -
                
                
                -
                
                
                55,379,156Appropriation
                    to statutory reserves
                
                
                
                
                
                -
                
                
                -
                
                
                -
                
                
                1,309,895
                
                
                (1,309,895
                )
                
                -
                
                
                -Foreign
                    currency translation adjustment
                
                
                
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                1,005,425
                
                
                1,005,425Balance
                    as of September 30, 2005
                
                
                
                
                
                48,878,396
                
                
                48,878
                
                
                67,415,501
                
                
                3,034,141
                
                
                18,805,368
                
                
                1,005,255
                
                
                90,309,143Net
                    income
                
                
                
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                20,164,566
                
                
                -
                
                
                20,164,566Share-based
                    compensation for employee stock awards
                
                
                18
                
                
                -
                
                
                -
                
                
                2,625,269
                
                
                -
                
                
                -
                
                
                -
                
                
                2,625,269Cancellation
                    of 1,400,000employee
                    stock options, replaced by restricted shares awards which are
                    classified
                    as liability award
                
                
                18
                
                
                -
                
                
                -
                
                
                (2,045,393
                )
                
                -
                
                
                -
                
                
                -
                
                
                (2,045,393
                )Share-based
                    compensation for common stock granted to non-employee
                    directors
                
                
                18
                
                
                -
                
                
                -
                
                
                131,320
                
                
                -
                
                
                -
                
                
                -
                
                
                131,320Issuance
                    of common stock to non-employee directors
                
                
                18
                
                
                7,500
                
                
                8
                
                
                (8
                )
                
                -
                
                
                -
                
                
                -
                
                
                -Appropriation
                    to statutory reserves
                
                
                
                
                
                -
                
                
                -
                
                
                -
                
                
                2,757,577
                
                
                (2,757,577
                )
                
                -
                
                
                -Foreign
                    currency translation adjustment
                
                
                
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                2,443,124
                
                
                2,443,124Balance
                    as of September 30, 2006
                
                
                
                
                
                48,885,896
                
                
                48,886
                
                
                68,126,689
                
                
                5,791,718
                
                
                36,212,357
                
                
                3,448,379
                
                
                113,628,029Net
                    income
                
                
                
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                483,328
                
                
                -
                
                
                483,328Issuance
                    of 914,994 shares of restricted stock and reclassification of
                    liability-classified awards
                
                
                18
                
                
                -
                
                
                -
                
                
                4,969,974
                
                
                -
                
                
                -
                
                
                -
                
                
                4,969,974Share-based
                    compensation for stock options awards
                
                
                18
                
                
                -
                
                
                -
                
                
                1,173,033
                
                
                -
                
                
                -
                
                
                -
                
                
                1,173,033Share-based
                    compensation for common stock granted to non-employee
                    directors
                
                
                18
                
                
                -
                
                
                -
                
                
                41,178
                
                
                -
                
                
                -
                
                
                -
                
                
                41,178Issuance
                    of common stock to employees and non-employee directors
                
                
                18
                
                
                364,957
                
                
                365
                
                
                (365
                )
                
                -
                
                
                -
                
                
                -
                
                
                -Appropriation
                    to statutory reserves
                
                
                
                
                
                -
                
                
                -
                
                
                -
                
                
                635,259
                
                
                (635,259
                )
                
                -
                
                
                -Foreign
                    currency translation adjustment
                
                
                
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                -
                
                
                6,436,370
                
                
                6,436,370Balance
                    as of September 30, 2007
                
                
                
                
                
                49,250,853
                
                $
                49,251
                
                $
                74,310,509
                
                $
                6,426,977
                
                $
                36,060,426
                
                $
                9,884,749
                
                $
                126,731,912


See
      accompanying notes to the consolidated financial statements.




F-6




**China
      BAK Battery, Inc. and subsidiaries**


**Consolidated
      statements of cash flows**


**For
      the years ended September 30, 2005, 2006 and 2007**




(In
      US$)


*2005*
              
              *2006*
              
              *2007***Cash
                  flow from operating activities**Net
                  income
              
              $
              13,496,548
              
              $
              20,164,566
              
              $
              483,328Adjustments
                  to reconcile net income to net cash provided by / (used in) operating
                  activities:Depreciation
                  and amortization
              
              
              3,580,791
              
              
              5,815,706
              
              
              8,911,704Provision
                  for / (recovery of) doubtful debts
              
              
              769,807
              
              
              (555,593
              )
              
              1,825,149Provision
                  for obsolete inventories
              
              
              -
              
              
              -
              
              
              1,639,024Share-based
                  compensation
              
              
              -
              
              
              4,336,361
              
              
              2,559,020Deferred
                  income taxes
              
              
              98,288
              
              
              72,810
              
              
              (609,684
              )Changes
                  in operating assets and liabilities:Trade
                  accounts receivable
              
              
              (23,675,275
              )
              
              (19,938,136
              )
              
              2,617,075Inventories
              
              
              7,839,759
              
              
              (25,692,710
              )
              
              (11,306,910
              )Prepayments
                  and other receivables
              
              
              (572,594
              )
              
              456,086
              
              
              (218,914
              )Accounts
                  and bills payable
              
              
              5,005,424
              
              
              4,273,690
              
              
              (3,037,756
              )Accrued
                  expenses and other payables
              
              
              1,471,678
              
              
              5,382,463
              
              
              123,504Net
                  cash provided by / (used in) operating activities
              
              
              8,014,426
              
              
              (5,684,757
              )
              
              2,985,540**Cash
                  flow from investing activities**Purchases
                  of property, plant and equipment
              
              
              (30,593,615
              )
              
              (41,382,163
              )
              
              (48,792,746
              )Addition
                  in lease prepayment
              
              
              -
              
              
              -
              
              
              (17,041,954
              )Purchases
                  of intangible assets
              
              
              (2,015
              )
              
              (33,738
              )
              
              (60,756
              )Net
                  cash used in investing activities
              
              $
              (30,595,630
              )
              $
              (41,415,901
              )
              $
              (65,895,456
              )





See
      accompanying notes to the consolidated financial statements.




F-7




**China
      BAK Battery, Inc. and subsidiaries**


**Consolidated
      statements of cash flows**


**For
      the years ended September 30, 2005, 2006 and 2007
      (continued)**




(In
      US$)


*2005*
              
              *2006*
              
              *2007***Cash
                  flow from financing activities**Proceeds
                  from borrowings
              
              $
              63,011,550
              
              $
              99,036,333
              
              $
              157,532,382Repayment
                  of borrowings
              
              
              (52,582,798
              )
              
              (70,681,655
              )
              
              (111,115,433
              )(Increase)
                  / decrease in pledged deposits
              
              
              (12,272,211
              )
              
              6,420,291
              
              
              8,827,193Amounts
                  received from related parties
              
              
              639,220
              
              
              271,873
              
              
              -Repayments
                  to ChangzhouLihai
                  Investment Consulting Co., Ltd.
              
              
              (1,812,316
              )
              
              -
              
              
              -Proceeds
                  from issuance of capital stock, net
              
              
              55,379,156
              
              
              -
              
              
              -Contribution
                  from shareholders acquiring shares of BAK International
                  Limited
              
              
              11,500,000
              
              
              -
              
              
              -Distribution
                  to shareholders in connection with the acquisition of shares of
                  China BAK
                  Battery, Inc.
              
              
              (11,500,000
              )
              
              -
              
              
              -Net
                  cash provided by financing activities
              
              
              52,362,601
              
              
              35,046,842
              
              
              55,244,142**Effect
                      of exchange rate changes on cash and cash
                      equivalents**
              
              
              **62,211**
              ****
              ****
              **97,587**
              ****
              ****
              **762,732****Net
                  increase / (decrease) in cash and cash
                  equivalents**
              ****
              ****
              **29,843,608**
              ****
              ****
              **(11,956,229**
              **)**
              ****
              **(6,903,042**
              **)****Cash
                  and cash equivalents at the beginning of year**
              ****
              ****
              **3,212,176**
              ****
              ****
              **33,055,784**
              ****
              ****
              **21,099,555****Cash
                      and cash equivalents at the end of
                      year**
              ****
              **$**
              **33,055,784**
              ****
              **$**
              **21,099,555**
              ****
              **$**
              **14,196,513****Supplemental
                  disclosure of cash flow information:**Cash
                  received during the year for:Bills
                  receivable discounted to bank
              
              $
              11,726,378
              
              $
              19,813,271
              
              $
              7,019,450Proceeds
                  from disposal of trading securities
              
              $
              -
              
              $
              3,981,274
              
              $
              -Cash
                  paid during the year for:Income
                  taxes
              
              $
              487,808
              
              $
              747,548
              
              $
              306,992Interest,
                  net of amounts capitalized
              
              $
              842,145
              
              $
              1,874,351
              
              $
              5,659,556Purchases
                  of trading securities
              
              $
              -
              
              $
              3,702,014
              
              $
              -Investing
                  activities not requiring the use of cash and cash
                  equivalents:Sale
                  of equipment in exchange for inventories
              
              $
              -
              
              $
              1,076,226
              
              $
              -Purchase
                  of equipment in exchange forsettlement
                  of prepayments and other receivables
              
              $
              -
              
              $
              561,588
              
              $
              -




See
      accompanying notes to the consolidated financial statements.




F-8


**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007**




**1.**
            **Principal
                Activities, Basis of Presentation and
                Organization**





*Principal
      Activities*





China
      BAK
      Battery, Inc. (“China BAK”) is a corporation formed in the State of Nevada on
      October 4, 1999 as Medina Copy, Inc. The Company changed its name to Medina
      Coffee, Inc. on October 6, 1999 and subsequently changed its name to China
      BAK
      Battery, Inc. on February 14, 2005. China BAK and its subsidiaries (hereinafter,
      collectively referred to as the “Company”) are principally engaged in the
      manufacture, commercialization and distribution of a wide variety of standard
      and customized lithium ion (known as "Li-ion" or "Li-ion cell") rechargeable
      batteries for use in cellular telephones, as well as various other portable
      electronic applications, including high-power handset telephones, laptop
      computers, power tools, digital cameras, video camcorders, MP3 players, electric
      bicycles, hybrid/electric motors, and general industrial
      applications.





The
      shares of the Company traded in the over-the-counter market through the
      Over-the-Counter Bulletin Board from 2005 until May 31, 2006, when the Company
      obtained approval to list its common stock on The NASDAQ Global Market, and
      trading commenced that same date under the symbol "CBAK".





*Basis
      of Presentation and Organization*





As
      of
      September 30, 2007, the Company’s subsidiaries consist of: i) BAK International
      Limited (“BAK International”), a wholly owned limited liability company
      incorporated in Hong Kong on December 29, 2003 as BATCO International Limited,
      which changed its name to BAK International Limited on November 3, 2004; ii)
      Shenzhen BAK Battery Co., Ltd. (“Shenzhen BAK”), a wholly owned limited
      liability company established on August 3, 2001 in the People’s Republic of
      China (“PRC”); iii) BAK Electronics (Shenzhen) Co., Ltd. (“BAK Electronics”), a
      wholly owned limited liability company established on August 15, 2005 in the
      PRC; iv) BAK International (Tianjin) Ltd. (“BAK Tianjin”), a wholly owned
      limited liability company established on December 12, 2006 in the PRC; and
      v)
      BAK Battery Canada Ltd. (“BAK Canada”), a wholly owned limited liability company
      established on December 20, 2006 in Canada as BAK Canada Battery Ltd., which
      changed its name to BAK Battery Canada Ltd. on December 22, 2006.





BAK
      Tianjin was established in Tianjin Technology Industrial District on December
      12, 2006 as a wholly owned subsidiary of BAK International with registered
      capital of US$99,990,000. Pursuant to BAK Tianjin’s articles of association and
      relevant PRC regulations, BAK International is required to contribute
      US$20,000,000 to BAK Tianjin as capital (representing 20% of BAK Tianjin’s
      registered capital) before March 11, 2007. The remaining US$79,990,000 shall
      be
      fully contributed no later than December 11, 2008. BAK Tianjin will be
      principally engaged in the manufacture of advanced lithium ion batteries for
      use
      in light electric vehicles and uninterruptible power supply. As of September
      30,
      2007, BAK International had not contributed the US$20,000,000 capital to BAK
      Tianjin, and was in the course of negotiating with the relevant government
      bureau for the extension of the injection period.




F-9


**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




*Basis
      of Presentation and Organization (continued)*





BAK
      International, a non-operating holding company that had substantially the same
      shareholders as Shenzhen BAK, entered into a share swap transaction with
      Shenzhen BAK on November 6, 2004 for the purpose of the subsequent reverse
      acquisition of the interest of China BAK as described below. Pursuant to the
      terms of the transaction, the parties exchanged all outstanding shares of their
      capital stock for US$11.5 million in cash, and as a result, BAK International
      became the parent company of Shenzhen BAK. Certain shareholders of Shenzhen
      BAK,
      representing ownership interests of approximately 1.85%, elected not to acquire
      shares in BAK International. The non-participating shareholders of Shenzhen
      BAK
      sold their right to acquire their proportional ownership interests in BAK
      International for cash, and the proportionate interests in BAK International
      to
      which the non-participating shareholders were entitled were acquired by the
      transferees. After the share swap transaction between BAK International and
      the
      shareholders of Shenzhen BAK was complete, there were 31,225,642 shares of
      BAK
      International stock outstanding, exactly the same as the number of shares of
      capital stock of Shenzhen BAK outstanding immediately prior to the share swap,
      and the shareholders of BAK International were substantially the same as the
      shareholders of Shenzhen BAK prior to the share purchases. Consequently, the
      share purchases between BAK International and the shareholders of Shenzhen
      BAK
      have been accounted for as a reverse acquisition of Shenzhen BAK with no
      adjustment to the historical basis of the assets and liabilities of Shenzhen
      BAK, and the operations were consolidated as though the transactions occurred
      as
      of the beginning of the first accounting period presented in the accompanying
      consolidated financial statements.





On
      January 20, 2005, the Company completed a share swap transaction with the
      shareholders of BAK International. The swap was consummated under Nevada law
      pursuant to the terms of a Securities Exchange Agreement entered by and among
      China BAK, BAK International and the shareholders of BAK International on
      January 20, 2005. Pursuant to the Agreement, the Company issued 39,826,075
      shares of common stock, par value US$0.001 per share, to the shareholders of
      BAK
      International (including 31,225,642 shares to the original shareholders and
      8,600,433 shares to new investors who had purchased shares in the private
      placement described below), representing approximately 97.2% of the Company’s
      post-exchange issued and outstanding common stock, in exchange for 100% of
      the
      outstanding capital stock of BAK International.





The
      share
      swap transaction has been accounted for as a capital-raising transaction of
      the
      Company whereby the historical financial statements and operations of Shenzhen
      BAK are consolidated using historical carrying amounts. The 1,152,458 shares
      of
      China BAK outstanding prior to the stock exchange transaction were accounted
      for
      at the net book value at the time of the transaction, which was a deficit of
      US$1,672. The accompanying consolidated financial statements reflect the
      capital-raising transaction of the Company as if the transaction occurred as
      of
      the beginning of the first period presented.





Also
      on
      January 20, 2005, immediately prior to consummating the share swap transaction,
      BAK International executed a private placement of its common stock with
      unrelated investors whereby it issued an aggregate of 8,600,433 shares of common
      stock for gross proceeds of US$17,000,000. In conjunction with this financing,
      Mr. Xiangqian Li, the Chairman and Chief Executive Officer of the Company,
      agreed to place 2,179,550 shares of the Company's common stock owned by him
      into
      an escrow account pursuant to an Escrow Agreement dated January 20, 2005 (the
      “Escrow Agreement”). Pursuant to the Escrow Agreement, 50% of the escrowed
      shares were to be released to the investors in the private placement if audited
      net income of the Company for the fiscal year ended September 30, 2005 was
      not
      at least US$12,000,000, and the remaining 50% were to be released to investors
      in the private placement if audited net income of the Company for the fiscal
      year ended September 30, 2006 was not at least US$27,000,000. If the audited
      net
      income of the Company for the fiscal years ended September 30, 2005 and 2006
      reached the above-mentioned targets, the 2,179,550 shares would be released
      to
      Mr. Xiangqian Li in the same manner: 50% upon reaching the 2005 target and
      the
      remaining 50% upon reaching the 2006 target.





F-10





**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**





*Basis
      of Presentation and Organization (continued)*




Under
      generally accepted accounting principles in the United States of America (“US
      GAAP”), the Escrow Arrangement constitutes a compensatory plan to Mr. Xiangqian
      Li. Accordingly, a compensation charge is required to be recorded in the
      financial statements of the Company should shares be released from escrow to
      Mr.
      Xiangqian Li upon the performance thresholds being achieved. The Company
      determined that, without consideration of the compensation charge, the
      performance thresholds for the year ended September 30, 2005 would be achieved.
      However, after consideration of the related compensation charge, the Company
      determined that such thresholds would not have been achieved. The Company also
      determined that, even without consideration of the compensation charge, the
      performance thresholds for the year ended September 30, 2006 would not be
      achieved. No compensation charge was recorded by the Company for the years
      ended
      September 30, 2005 and 2006.





While
      the
      1,089,775 escrow shares relating to the 2005 performance threshold were
      previously released to Mr. Xiangqian Li, Mr. Xiangqian Li had undertaken on
      August 21, 2006 to return those shares to the escrow agent for the distribution
      to the relevant investors based on his understanding that such investors would
      become entitled to those shares upon the Company’s recognition of the related
      compensation charge although, absent the compensation charge, the 2005
      performance targets would be met and such investors would not be entitled to
      such shares. However, such shares were not returned to the escrow agent, but,
      pursuant to the settlement agreement described below, have been returned to
      the
      Company. Because the Company failed to satisfy the performance threshold for
      the
      fiscal year ended September 30, 2006, the remaining 1,089,775 escrow shares
      relating to the fiscal year 2006 performance threshold were released to the
      relevant investors.





On
      October 22, 2007, the Company entered into a Delivery of Make Good Shares,
      Settlement and Release Agreement (the “Settlement Agreement”) with Mr. Xiangqian
      Li and BAK International. Pursuant to the Settlement Agreement, Mr. Xiangqian
      Li
      agreed to deliver the 1,089,775 shares related to the 2005 performance threshold
      to BAK International; BAK International in turn agreed to deliver the shares
      to
      the Company. Upon receipt of these shares, the Company agreed to release all
      claims and causes of action against Mr. Xiangqian Li and certain other persons
      regarding the shares. On October 25, 2007, the 1,089,775 shares were delivered
      to the Company, and such shares are now held as treasury shares. Under the
      terms
      of the Settlement Agreement, the Company is obligated to commence negotiations
      with the investors who participated in the Company’s January 2005 private
      placement in order to achieve a complete settlement of BAK International’s
      obligations (and the Company’s obligations to the extent it has any) under the
      applicable agreements with such investors.





The
      Company’s consolidated financial statements have been prepared in accordance
      with US GAAP.





This
      basis of accounting differs in certain material respects from that used for
      the
      preparation of the books of account of the Company’s principal subsidiaries,
      which are prepared in accordance with the accounting principles and the relevant
      financial regulations applicable to enterprises with limited liabilities
      established in the PRC (“PRC GAAP”), in Hong Kong or in Canada, the accounting
      standards used in the places of their domicile. The accompanying consolidated
      financial statements reflect necessary adjustments not recorded in the books
      of
      account of the Company's subsidiaries to present them in conformity with US
      GAAP.




F-11




**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




**2**
            **Summary
                of Significant Accounting Policies and
                Practices**





***(a)***
            ***Principles
                of Consolidation***





The
      consolidated financial statements include the financial statements of the
      Company and its subsidiaries. All significant inter-company balances and
      transactions have been eliminated on consolidation.





***(b)***
            ***Cash
                and Cash Equivalents***





Cash
      consists of cash on hand and in banks. The Company considers all highly liquid
      debt instruments, with initial terms of less than three months to be cash
      equivalents. As of September 30, 2006 and 2007, there were no cash
      equivalents.





***(c)***
            ***Trade
                Accounts Receivable***





Trade
      accounts receivable are recorded at the invoiced amount, net of allowances
      for
      doubtful accounts and sales returns. The allowance for doubtful accounts is
      the
      Company’s best estimate of the amount of probable credit losses in the Company’s
      existing trade accounts receivable. The Company determines the allowance based
      on historical write-off experience, customer specific facts and economic
      conditions. Bad debt expense is included in the general and administrative
      expenses.





Outstanding
      accounts balances are reviewed individually for collectability. Accounts
      balances are charged off against the allowance after all means of collection
      have been exhausted and the potential for recovery is considered remote. To
      date, the Company has not charged off any balances as it has yet to exhaust
      all
      means of collection. The Company does not have any off-balance-sheet credit
      exposure to its customers, except for outstanding bills receivable discounted
      with banks (see note 20) that are subject to recourse for
      non-payment.





***(d)***
            ***Inventories***





Inventories
      are stated at the lower of cost and market. The cost of inventories is
      determined using weighted average cost method, and includes expenditure incurred
      in acquiring the inventories and bringing them to their existing location and
      condition. In case of finished goods and work in progress, cost includes an
      appropriate share of production overheads based on normal operating
      capacity.





The
      Company regularly reviews the cost of inventories against their estimated fair
      market value and records a lower of cost or market write-down for inventories
      that have cost in excess of estimated market value.





***(e)***
            ***Investment
                Securities***





The
      Company classifies its equity securities into trading securities or
      available-for-sale securities. Trading securities are bought and held
      principally for the purpose of selling them in the near term. All securities
      not
      included in trading securities are classified as available-for-sale
      securities.





Trading
      and available-for-sale securities are recorded at fair value. Unrealized holding
      gains and losses on trading securities are included in the net income.
      Unrealized holding gains and losses, net of the related tax effect, on
      available-for-sale securities are excluded from net income and are reported
      as a
      separate component of accumulated other comprehensive income until realized.
      Realized gains and losses from the sale of available-for-sale securities are
      determined on a specific-identification basis.





F-12





**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




***(e)***
            ***Investment
                Securities
                (continued)***





A
      decline
      in the market value of any available-for-sale security below cost that is deemed
      to be other-than-temporary results in a reduction in carrying amount to fair
      value. The impairment is charged as an expense to the statement of income and
      comprehensive income and a new cost basis for the security is established.
      To
      determine whether an impairment is other-than-temporary, the Company considers
      whether it has the ability and intent to hold the investment until a market
      price recovery and considers whether evidence indicating the cost of the
      investment is recoverable outweighs evidence to the contrary. Evidence
      considered in this assessment includes the reasons for the impairment, the
      severity and duration of the impairment, changes in value subsequent to year
      end, and forecasted performance of the investee.





Premiums
      and discounts are amortized or accreted over the life of the related
      available-for-sale security as an adjustment to yield using the
      effective-interest method. Dividend and interest income are recognized when
      earned.





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





Property,
      plant and equipment are stated at cost less accumulated depreciation.
      Depreciation and amortization are calculated based on the straight-line method
      (after taking into account their respective estimated residual values) over
      the
      estimated useful lives of the assets as follows:





Buildings
            30-40
                yearsMachinery
                and equipment
            5-12
                yearsOffice
                equipment
            5
                yearsMotor
                vehicles
            8
                yearsLeasehold
                improvements
            1-5
                years





Construction
      in progress mainly represents expenditures in respect of the Company’s new
      corporate campus, including offices, factories and staff dormitories, under
      construction. All direct costs relating to the acquisition or construction
      of
      the Company’s new corporate campus and equipment, including interest charges on
      borrowings, are capitalized as construction in progress. No depreciation is
      provided in respect of construction in progress.





***(g)***
            ***Lease
                Prepayments***





Lease
      prepayments represent the cost of land use rights in the PRC. Land use rights
      are carried at cost and amortized on a straight-line basis over the period
      of
      rights of 50 years.





***(h)***
            ***Foreign
                Currency Transactions and
                Translation***





The
      reporting currency of the Company is the United States dollar (“US dollar”).
      Transactions denominated in currencies other than US dollar are translated
      into
      US dollar at the average rates for the period. Monetary assets and liabilities
      denominated in currencies other than US dollar are translated into US dollar
      at
      the rates of exchange ruling at the balance sheet date. The resulting exchange
      differences are recorded in the other expenses in the statement of income and
      comprehensive income.





The
      financial records of the Company’s operating subsidiaries are maintained in
      their local currency, the Renminbi (“RMB”), which is the functional currency.
      Assets and liabilities are translated at the exchange rates at the balance
      sheet
      date, equity accounts are translated at historical exchange rates, and income
      and expenses items are translated using the
      average rate for the period .
      The
      translation adjustments are recorded in accumulated other comprehensive income
      under shareholders’ equity.





F-13


**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




***(h)***
            ***Foreign
                Currency Transactions and Translation
                (continued)***





RMB
      is
      not a fully convertible currency. All foreign exchange transactions involving
      RMB must take place either through the People’s Bank of China (the “PBOC”) or
      other institutions authorized to buy and sell foreign exchange. The exchange
      rates adopted for the foreign exchange transactions are the rates of exchange
      quoted by the PBOC, which are determined largely by supply and demand.
      Translation of amounts from RMB into US dollar has been made at the following
      exchange rates for the respective years:





September
                30, 2007Balance
                sheet
            RMB
                7.5108 to US$ 1.00Statement
                of income and comprehensive income
            RMB
                7.7127 to US$ 1.00September
                30, 2006Balance
                sheet
            RMB
                7.90870 to US$ 1.00Statement
                of income and comprehensive income
            RMB
                8.02857 to US$ 1.00September
                30, 2005Balance
                sheet
            RMB
                8.0920 to US$ 1.00Statement
                of income and comprehensive income
            RMB
                8.2413 to US$ 1.00


Commencing
      from July 21, 2005, China has adopted a managed floating exchange rate regime
      based on market demand and supply with reference to a basket of currencies.
      The
      exchange rate of the US dollar against the RMB was adjusted from approximately
      RMB 8.28 per US dollar to approximately RMB 8.11 per US dollar on July 21,
      2005.
      Since then, the PBOC administers and regulates the exchange rate of US dollar
      against RMB taking into account demand and supply of RMB, as well as domestic
      and foreign economic and financial conditions.





***(i)***
            ***Intangible
                Assets***





Intangible
      assets are stated in the balance sheet at cost less accumulated amortization.
      The costs of the intangible assets are amortized on a straight-line basis over
      their estimated useful lives. The respective amortization periods for the
      intangible assets are as follows:





Trademarks
            10
                yearsTechnology
            7
                yearsSoftware
            5
                years





***(j)***
            ***Impairment
                of Long-lived Assets***





Long-lived
      assets, which include property, plant and equipment and intangible assets,
      are
      reviewed for impairment whenever events or changes in circumstances indicate
      that the carrying amount of an asset may not be recoverable.





Recoverability
      of long-lived assets to be held and used is measured by a comparison of the
      carrying amount of an asset to the estimated undiscounted future cash flows
      expected to be generated by the asset. If the carrying amount of an asset
      exceeds its estimated undiscounted future cash flows, an impairment charge
      is
      recognized by the amount by which the carrying amount of the asset exceeds
      the
      fair value of the asset.





F-14




**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




***(k)***
            ***Revenue
                Recognition***





The
      Company recognizes revenue on product sales when products are delivered and
      the
      customer takes ownership and assumes risk of loss, collection of the relevant
      receivable is probable, persuasive evidence of an arrangement exists and the
      sales price is fixed or determinable.





Net
      sales
      of products represent the invoiced value of goods, net of value added taxes
      (“VAT”), sales returns, trade discounts and allowances. The Company is subject
      to VAT which is levied on the majority of the products of Shenzhen BAK and
      BAK
      Electronics at the rate of 17% on the invoiced value of sales. Output VAT is
      borne by customers in addition to the invoiced value of sales and input VAT
      is
      borne by the Company in addition to the invoiced value of purchases to the
      extent not refunded for export sales. Provision for sales returns are recorded
      as a reduction of revenue in the same period that revenue is recognized. The
      provision for sales returns, which is based on historical sales returns data,
      is
      the Company’s best estimate of the amounts of goods that will be returned from
      its customers.





***(l)***
            ***Cost
                of Revenues***





Cost
      of
      revenues consists primarily of material costs, employee compensation,
      depreciation and related expenses, which are directly attributable to the
      production of products. Write-down of inventory to lower of cost or market
      is
      also recorded in cost of revenues.





***(m)***
            ***Income
                Taxes***




Income
      taxes are accounted for under the asset and liability method. Deferred tax
      assets and liabilities are recognized for the future tax consequences
      attributable to differences between the financial statement carrying amounts
      of
      existing assets and liabilities and their respective tax bases and operating
      loss and tax credit carry-forwards. Deferred tax assets are reduced by a
      valuation allowance to the extent management concludes it is more likely than
      not that the assets will not be realized. Deferred tax assets and liabilities
      are measured using enacted tax rates expected to apply to taxable income in
      the
      years in which those temporary differences are expected to be recovered or
      settled. The effect on deferred tax assets and liabilities of a change in tax
      rates is recognized in the statement of income and comprehensive income in
      the
      period that includes the enactment date.




***(n)***
            ***Research
                and Development and Advertising
                Costs***





Research
      and development and advertising costs are expensed as incurred. Research and
      development costs consist primarily of remuneration for research and development
      staff, depreciation and maintenance expenses of research and development
      equipment and material costs for research and development. Advertising cost,
      included in sales and marketing expenses, amounted to US$297,998, US$234,379
      and
      US$138,639 for the years ended September 30, 2005, 2006 and 2007 respectively.




***(o)***
            ***Bills
                Payable***





Bills
      payable represent bills issued by financial institutions to the Company’s
      vendors. The Company’s vendors receive payments from the financial institutions
      directly upon maturity of the bills and the Company is obliged to repay the
      face
      value of the bills to the financial institutions.




F-15


**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




***(p)***
            ***Government
                Grants***





Receipts
      of government grants to encourage research and development activities which
      are
      non-refundable are credited to deferred income upon receipt. Government grants
      are used either for purchases of assets or to subsidize the research and
      development expenses incurred.





For
      purchases of assets, government grants are deducted from the carrying amount
      of
      the assets. For the research and development expenses, the Company matches
      and
      offsets the government grants with the expenses of the research and development
      activities as specified in the grant approval document in the corresponding
      period when such expenses are incurred.





Government
      grants received as compensation for expenses already incurred are recognised
      as
      income in the period they become recognizable.





Government
      grants of US$60,670 and US$62,278 were offset against the research and
      development costs for the years ended September 30, 2005 and 2006 respectively.
      No government grants were offset against the research and development costs
      for
      the year ended September 30, 2007. Government grants recorded as deferred income
      amounted to US$777,625 and US$579,166 as of September 30, 2006 and 2007
      respectively.





During
      the year ended September 30, 2007, the Company received grants of US$1,034,685.
      US$777,289 of the grant was received to subsidize the interest expenses incurred
      by the Company in prior years for research and development activities and
      US$257,396 represents refund of value-added tax paid by Shenzhen BAK in prior
      years since Shenzhen BAK qualifies as a new and high technology
      enterprise.




***(q)***
            ***Share-based
                Compensation***




Prior
      to
      October 1, 2005, the Company applied the intrinsic-value-based method of
      accounting prescribed by Accounting Principles Board Opinions No. 25 “Accounting
      for Stock Issued to Employees” (“APB 25”) and related interpretations including
      Financial Accounting Standard Board (“FASB”) Interpretation (“FIN”) No. 44
“Accounting for Certain Transactions involving Stock Compensation, an
      interpretation of APB 25” to account for its fixed-plan stock options. Under
      this method, compensation expense is recorded only if on the date of grant,
      the
      market price of the underlying stock exceeded the exercise price. Statement
      of
      Financial Accounting Standards (“SFAS”) No. 123 “Accounting for Stock-Based
      Compensation” (“SFAS 123”) established accounting and disclosure requirements
      using a fair-value-based method of accounting for stock-based employee
      compensation plans. As permitted by the accounting standards, the Company
      elected to apply the intrinsic-value-based method of accounting described above,
      and has adopted only the disclosure requirements of SFAS 123, as
      amended.




In
      December 2004, the FASB issued SFAS 123 (Revised 2004) “Share-Based Payment”
(“SFAS 123R”). SFAS 123R requires the Company to measure and recognize
      compensation expenses for an award of equity instrument based on the grant-date
      fair value. The cost is recognized over the vesting period (or the requisite
      service period). SFAS 123R also requires the Company to measure the cost of
      a
      liability-classified award based on its current fair value. The fair value
      of
      the award will be remeasured subsequently at each reporting date through the
      settlement date. Changes in far value during the requisite service period will
      be recognized as compensation cost over that period. Further, SFAS 123R requires
      the Company to estimate forfeitures in calculating the expense related to
      stock-based compensation.




This
      statement replaces SFAS 123 and supersedes APB 25. The Company adopted SFAS
      123R
      commencing from October 1, 2005.




The
      Company has used the “modified prospective method” for recognizing the expense
      over the remaining vesting period for awards that were outstanding but unvested
      as of October 1, 2005. Under the modified prospective method, the Company has
      not adjusted the financial statements for periods ended on or prior to September
      30, 2005. Under the modified prospective method, the adoption of SFAS 123R
      applies to new awards and to awards modified, repurchased, or cancelled after
      September 30, 2005, as well as to the unvested portion of awards outstanding
      as
      of October 1, 2005.




F-16


**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




The
      following table illustrates the effect on net income and net income per share
      for the year ended September 30, 2005 as if the Company’s stock-based
      compensation had been determined based on the fair value at the grant
      dates:


*September
                  30,*
                *2005*Net
                  income, as reported
              
              $
              13,496,548Deduct:
                  Total stock-based employee compensationexpenses
                  determined under thefair
                  value, net of related tax effects
              
              
              (1,068,243
              )Pro
                  forma net income
              
              $
              12,428,305Net
                  income per shareAs
                  reported - Basic
              
              $
              0.35-
                  Diluted
              
              $
              0.35Pro-forma
                  - Basic
              
              $
              0.32-
                  Diluted
              
              $
              0.32




The
      fair
      value of each option award is estimated on the date of grant using the
      Black-Scholes Option Valuation Model that uses the assumptions noted in the
      following table. The expected volatility was based on the historical
      volatilities of the Company’s listed common stock in the United States and other
      relevant market information. The Company uses historical data to estimate share
      option exercises and employee departure behaviour used in the valuation model.
      The expected terms of share options granted is derived from the output of the
      option pricing model and represents the period of time that share options
      granted are expected to be outstanding. Since the share options once exercised
      will primarily trade in the U.S. capital market, the risk-free rate for periods
      within the contractual term of the share option is based on the U.S. Treasury
      yield curve in effect at the time of grant.




***(r)***
            ***Retirement
                and Other Postretirement
                Benefits***





Contributions
      to retirement schemes (which are defined contribution plans) are charged to
      cost
      of revenues, research and development costs, sales and marketing expenses and
      general and administrative expenses in the statement of income and comprehensive
      income as and when the related employee service is provided.





***(s)***
            ***Earnings
                per share***





Basic
      earnings per share is computed by dividing net income by the weighted average
      number of ordinary shares outstanding during the period. Diluted earnings per
      share is computed by dividing net income by the sum of the weighted average
      number of ordinary shares outstanding and dilutive potential ordinary shares
      during the period. In fiscal year 2007, dilutive potential ordinary shares
      consist of restricted stock granted to employees and non-employee
      directors.




F-17


****** **China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




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





The
      preparation of the consolidated financial statements in accordance with US
      GAAP
      requires management of the Company to make a number of estimates and assumptions
      relating to the reported amount of assets and liabilities and the disclosure
      of
      contingent assets and liabilities at the date of the consolidated financial
      statements and the reported amounts of revenues and expenses during the period.
      Actual results could differ from those estimates. Significant items subject
      to
      such estimates and assumptions include the recoverability of the carrying amount
      of long-lived assets; provisions for inventories; valuation allowances for
      receivables; and provision for sales returns. Actual results could differ from
      those estimates.





***(u)***
            ***Segment
                Reporting***





The
      Company uses the “management approach” in determining reportable operating
      segments. The management approach considers the internal organization and
      reporting used by the Company’s chief operating decision maker for making
      operating decisions and assessing performance as the source for determining
      the
      Company’s reportable segments. Management, including the chief operating
      decision maker, reviews operating results solely by monthly revenue of Li-ion
      rechargeable batteries (but not by sub-product type or geographic area) and
      operating results of the Company and, as such, the Company has determined that
      the Company has one operating segment as defined by SFAS 131 “Disclosures about
      Segments of an Enterprise and Related Information”.





***(v)***
            ***Commitments
                and Contingencies***





Liabilities
      for loss contingencies arising from claims, assessments, litigation, fines
      and
      penalties and other sources are recorded when it is probable that a liability
      has been incurred and the amount of the assessment can be reasonably
      estimated.





***(w)***
            ***Recently
                Issued Accounting
                Standards***





*FASB
      Interpretation No. 48 “Accounting for Uncertainty in Income Taxes-an
      Interpretation of FASB Statement No. 109”*





In
      July
      2006, the FASB issued FIN 48 “Accounting for Uncertainty in Income Taxes-an
      Interpretation of FASB Statement No. 109” ** which
      clarifies the accounting for uncertainty in tax positions. This Interpretation
      requires that the Company recognizes in its consolidated financial statements
      the impact of a tax position if that position is more likely than not of being
      sustained on audit, based on the technical merits of the position. The
      provisions of FIN 48 become effective for the Company on October 1, 2007, with
      the cumulative effect of the change in accounting principle, if any, recorded
      as
      an adjustment to opening retained earnings. The management is in the process
      of
      evaluating this interpretation and therefore has not yet determined the impact
      that FIN 48 will have on the Company’s financial statements upon adoption.




*SFAS
      157 “Fair Value Measurements”*





In
      September 2006, the FASB issued SFAS 157 “Fair Value Measurements” which defines
      fair value *,* establishes a framework for measuring fair value in generally accepted
      accounting principles, and expands disclosures about fair value measurements.
      SFAS 157 applies under other accounting pronouncements that require or permit
      fair value measurements, where fair value is the relevant measurement attribute.
      The standard does not require any new fair value measurements. SFAS 157 is
      effective for financial statements issued for fiscal years beginning after
      November 15, 2007, and interim periods within those fiscal years. The management
      is in the process of evaluating the impact SFAS 157 will have on the Company’s
      financial statements upon adoption.




F-18


**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**





*SFAS
      159 “The Fair Value Option for Financial Assets and Financial
      Liabilities-Including an Amendment of FASB Statement No. 115”*





In
      February 2007, the FASB issued SFAS No. 159 “The Fair Value Option for Financial
      Assets and Financial Liabilities - Including an Amendment of FASB Statement
      No.
      115”. SFAS 159 permits entities to choose to measure many financial instruments
      and certain other items at fair value. Entities that elect the fair value option
      will report unrealized gains and losses in earnings at each subsequent reporting
      date. The fair value option may be elected on an instrument-by-instrument basis,
      with a few exceptions. SFAS 159 also establishes presentation and disclosure
      requirements to facilitate comparisons between entities that choose different
      measurement attributes for similar assets and liabilities. The requirements
      of
      SFAS 159 are effective for the fiscal year beginning on October 1, 2008. The
      management is in the process of evaluating this guidance and therefore has
      not
      yet determined the impact that SFAS 159 will have on the Company’s financial
      statements upon adoption.





*SFAS
      160 “Noncontrolling Interests in Consolidated Financial Statements-an amendment
      of ARB No. 51”*





In
      December 2007, the FASB issued SFAS No. 160 “Noncontrolling Interests in
      Consolidated Financial Statements-an amendment of ARB No. 51”. SFAS 160
      establishes accounting and reporting standards for the noncontrolling interest
      in a subsidary and for the deconsolidation of a subsidiary. The guidance will
      become effective for the fiscal year beginning after December 15, 2008. The
      management is in the process of evaluating the impact SFAS 160 will have on
      the
      Company’s financial statements upon adoption.





*SFAS
      141(Revised) “Business Combinations”*





In
      December 2007, the FASB issued SFAS No. 141 (Revised) “Business Combinations”.
      SFAS 141 (Revised) establishes principles and requirements for how the acquirer
      of a business recognizes and measures in its financial statements the
      identifiable assets acquired, the liabilities assumed, and any noncontrolling
      interest in the acquiree. The statement also provides guidance for recognizing
      and measuring the goodwill acquired in the business combination and determines
      what information to disclose to enable users of the financial statements to
      evaluate the nature and financial effects of the business combination. The
      guidance will become effective for the fiscal year beginning after December
      15,
      2008. The management is in the process of evaluating the impact SFAS 141
      (Revised) will have on the Company’s financial statements upon
      adoption.





*SAB
      108 “Considering the Effects of Prior Year Misstatements when quantifying
      Misstatements in Current Year Financial Statements”*


In
        September 2006, the Securities and Exchange Commission (“SEC”) issued Staff
        Accounting Bulletin (“SAB”) No. 108, which provides guidance on the process of
        quantifying financial statement misstatements. In SAB No. 108, the SEC staff
        establishes an approach that requires quantification of financial statement
        errors, under both the iron-curtain and the roll-over methods, based on the
        effects of the error on each of our financial statements and the related
        financial statement disclosures. SAB No. 108 is generally effective for annual
        financial statements in the first fiscal year ended after November 15, 2006.
        The
        transition provisions of SAB No. 108 permits existing public companies to
        record
        the cumulative effect in the first year ended after November 15, 2006 by
        recording correcting adjustments to the carrying values of assets and
        liabilities as of the beginning of that year with the offsetting adjustment
        recorded to the opening balance of retained earnings. The adoption of SAB
        No.
        108 has no material impact on the Company’s financial statements.


F-19


**China
        BAK Battery, Inc. and subsidiaries**
 **Notes
        to the consolidated financial statements**
 **As
        of September 30, 2005, 2006 and 2007 (continued)**


**3**
            **Pledged
                Deposits**





Pledged
      deposits as of September 30, 2006 and 2007 consist of the
      following:


*2006*
              
              *2007*Pledged
                  deposits with banks for bills payable
              
              $
              12,971,989
              
              $
              4,594,727





**4**
            **Trade
                Accounts Receivable, net**




Trade
      accounts receivable as of September 30, 2006 and 2007 consist of the
      following:


*2006*
              
              *2007*Trade
                  accounts receivable
              
              $
              56,197,229
              
              $
              57,928,281Less:
                  Allowance for doubtful accounts
              
              
              (1,063,285
              )
              
              (3,021,617
              )55,133,944
              
              
              54,906,664Bills
                  receivable
              
              
              9,198,227
              
              
              8,244,208$
              64,332,171
              
              $
              63,150,872




An
      analysis of the allowance for doubtful accounts for the years ended September
      30, 2005, 2006 and 2007 is as follows:


*2005*
              
              *2006*
              
              *2007*Balance
                  at beginning of year
              
              $
              764,362
              
              $
              1,593,538
              
              $
              1,063,285Addition
                  / (reversal) ofbad
                  debt expense, net
              
              
              796,987
              
              
              (558,719
              )
              
              1,852,213Foreign
                  exchange adjustment
              
              
              32,189
              
              
              28,466
              
              
              106,119Balance
                  at end of year
              
              $
              1,593,538
              
              $
              1,063,285
              
              $
              3,021,617




F-20




**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




**5**
            **Inventories**





Inventories
      as of September 30, 2006 and 2007 consist of the following:


*2006*
              
              *2007*Raw
                  materials
              
              $
              20,693,915
              
              $
              15,245,732Work-in-progress
              
              
              5,686,328
              
              
              5,698,017Finished
                  goods
              
              
              21,008,693
              
              
              40,776,95847,388,936
              
              
              61,720,707Provision
                  for obsolete inventories
              
              
              -
              
              
              (1,893,475
              )$
              47,388,936
              
              $
              59,827,232





Part
      of
      the Company’s inventories with carrying value of US$10,115,442 and US$19,971,241
      as of September 30, 2006 and 2007, respectively, was pledged as collateral
      under
      certain loan agreements (see Note 11).





**6**
            **Prepayments
                and Other Receivables**





Prepayments
      and other receivables as of September 30, 2006 and 2007 consist of the
      following:





*2006*
              
              *2007*Prepayments
                  for raw materials and others
              
              $
              905,933
              
              $
              925,187Other
                  receivables
              
              
              263,569
              
              
              740,088Less:
                  Allowance for doubtful accounts
              
              
              (34,732
              )
              
              (8,781
              )$
              1,134,770
              
              $
              1,656,494


**7**
            **Income
                Taxes**





***United
      States Tax***





China
      BAK
      is subject to United States of America tax law. No provision for income taxes
      in
      the United States or elsewhere has been made as China BAK had no taxable income
      for the years ended September 30, 2005, 2006 and 2007. The statutory tax rate
      for each of the years ended December 31, 2005, 2006 and 2007 is 35%.




***Canada
      States Tax***





BAK
      Canada is subject to Canada tax law. No provision for income taxes in the Canada
      has been made as BAK Canada had no taxable income for the year ended September
      30, 2007. The statutory tax rate for the year ended September 30, 2007 is
      36.1%.




***Hong
      Kong Tax***





BAK
      International is subject to Hong Kong profits tax rate of 17.5%. Management
      of
      BAK International has determined that all income and expenses are offshore
      and
      not subject to Hong Kong profits tax. As a result, BAK International did not
      incur any Hong Kong profits tax during the years presented.





F-21


**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




***PRC
      Tax***





Shenzhen
      BAK and BAK Electronics are both registered and operate in Shenzhen, the PRC,
      and are recognized as “Manufacturing Enterprise Located in Special Economic
      Zone”. As a result, they are entitled to a preferential enterprise income tax
      rate of 15%. In accordance with the relevant income tax laws, the profits of
      Shenzhen BAK and BAK Electronics are fully exempted from income tax for two
      years, from the first profit making calendar year of operations after offset
      of
      accumulated taxable losses, followed by a 50% exemption for the immediate next
      three calendar years ("tax holiday").





The
      tax
      holiday of Shenzhen BAK commenced in 2002, the first calendar year in which
      Shenzhen BAK had assessable profit, and ended on December 31, 2006. In addition,
      due to the additional capital invested in Shenzhen BAK in both 2005 and 2006,
      Shenzhen BAK was granted a lower income tax rate of 3.309%, 3.82% and 6.12%
      in
      calendar year 2005, 2006 and 2007, respectively.





BAK
      Electronics is currently in the tax holiday and fully exempt from any enterprise
      income tax.





BAK
      Tianjin is currently exempted from any enterprise income tax due to cumulative
      tax losses.





PRC’s
      legislative body, the National People’s Congress, adopted the unified Enterprise
      Income Tax (“EIT”) Law on March 16, 2007. This new tax law will replace the
      existing separate income tax laws for domestic enterprises and foreign-invested
      enterprises and will become effective on January 1, 2008. Under the new tax
      law, a unified income tax rate is set at 25% for both domestic enterprises
      and
      foreign-invested enterprises. However, there will be a transition period for
      enterprises, whether foreign-invested or domestic, that are currently receiving
      preferential tax treatments granted by relevant tax authorities. Enterprises
      that are subject to an enterprise income tax rate lower than 25% may continue
      to
      enjoy the lower rate and will transit into the new tax rate over a five year
      period beginning on the effective date of the EIT Law. Enterprises that are
      currently entitled to exemptions for a fixed term may continue to enjoy such
      treatment until the exemption term expires. Preferential tax treatments may
      continue to be granted to industries and projects that qualify for such
      preferential treatments under the new law.




***(a)***
            ***Income
                taxes in the consolidated statements of income and comprehensive
                income***




Income
      taxes consist of:


*2005*
              
              *2006*
              
              *2007*Current
                  tax
              
              $
              553,650
              
              $
              520,082
              
              $
              414,163Deferred
                  tax
              
              
              98,288
              
              
              72,810
              
              
              (609,684
              )$
              651,938
              
              $
              592,892
              
              $
              (195,521
              )




Substantially
      all of the Group’s income before income taxes and related tax expenses /
      (benefit) are from PRC sources. Actual income tax expenses / (benefit) reported
      in the consolidated statements of income and comprehensive income differ from
      the amounts computed by applying the US statutory income tax rate of 35% to
      income before income taxes for the three years ended September 30, 2005, 2006
      and 2007 for the following reasons:


*2005*
              
              *2006*
              
              *2007*Income
                  before income taxes
              
              $
              14,148,486
              
              $
              20,757,458
              
              $
              287,807Computed
                  “expected” incometax
                  expense at 35%
              
              
              4,951,970
              
              
              7,265,110
              
              
              100,732Change
                  in the balance of the valuationallowance
                  for deferred tax assets
              
              
              -
              
              
              1,072,296
              
              
              691,540Foreign
                  tax rate differential
              
              
              (2,742,422
              )
              
              (4,765,560
              )
              
              (730,303
              )Non-taxable
                  income
              
              
              (40,630
              )
              
              (184,713
              )
              
              (624,936
              )Non-deductible
                  expenses-
                  Share-based compensation
              
              
              -
              
              
              630,759
              
              
              867,746-
                  Other non-deductible expenses
              
              
              121,686
              
              
              51,772
              
              
              361,189Tax
                  holiday
              
              
              (1,638,666
              )
              
              (3,476,772
              )
              
              (861,489
              )Actual
                  income tax expenses / (benefit)
              
              $
              651,938
              
              $
              592,892
              
              $
              (195,521
              )




F-22




**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




The
      significant components of deferred income tax expense for the three years ended
      September 30, 2005, 2006 and 2007 are as follows:





*2005*
            
            *2006*
            
            *2007*Deferred
                tax expenses / (income)
            
            $
            98,288
            
            $
            (999,486
            )
            $
            (1,299,227
            )Valuation
                allowance for deferred tax assets
            
            
            -
            
            
            1,072,296
            
            
            689,543$
            98,288
            
            $
            72,810
            
            $
            (609,684
            )




***(b)***
            ***Deferred
                taxation***




The
      tax
      effects of temporary differences that give rise to significant portions of
      the
      deferred tax assets and liabilities as of September 30, 2006 and 2007 are
      presented below:


*2006*
              
              *2007***Deferred
                  tax assets**Trade
                  accounts receivable
              
              $
              20,779
              
              $
              123,673Inventories
              
              
              7,168
              
              
              76,675Accrued
                  expenses and other payables
              
              
              50,841
              
              
              90,132Intangible
                  assets
              
              
              -
              
              
              171,774Property,
                  plant and equipment
              
              
              6,810
              
              
              -Tax
                  credit carried forward
              
              
              -
              
              
              212,436Net
                  operating loss carried forward
              
              
              1,072,296
              
              
              1,761,839Total
                  gross deferred tax assets
              
              
              1,157,894
              
              
              2,436,529Less:
                  valuation allowance
              
              
              (1,072,296
              )
              
              (1,761,839
              )Net
                  deferred tax assets
              
              $
              85,598
              
              $
              674,690**Deferred
                  tax liabilities**Property,
                  plant and equipment
              
              $
              304,957
              
              $
              279,597Net
                  deferred tax liabilities
              
              $
              304,957
              
              $
              279,597




In
      assessing the realizability of deferred tax assets, management considers whether
      it is more likely than not that some portion or all of the deferred tax assets
      will not be realized. The ultimate realization of deferred tax assets is
      dependent upon the generation of future taxable income during the periods in
      which those temporary differences become deductible or are utilized. Management
      considers the scheduled reversal of deferred tax liabilities, projected future
      taxable income and tax planning strategies in making this assessment. Based
      upon
      an assessment of the level of historical taxable income and projections for
      future taxable income over the periods in which the deferred tax assets are
      tested whether they are deductible or can be utilized, management believes
      that
      the deferred tax assets as of September 30, 2006 and 2007 are more likely than
      not to be realized, except for the deferred tax assets relating to the net
      operating loss carried forward incurred by the Company itself.




In
      order
      to fully realize the deferred tax asset of US$1,761,839 arising from the net
      operating loss carried forward of approximately US$5,034,000 incurred by the
      Company itself, the Company will need to generate sufficient future taxable
      income to cover the above net operating loss carried forward before its
      expiration in fiscal year 2026 through 2027. As the Company is a non-operating
      holding company and currently does not expect those unremitted earnings of
      its
      foreign subsidiaries to reverse and become taxable to the Company, it is more
      likely than not that the Company will not realize the benefits of its net
      operating loss carried forward. Therefore, full valuation allowance of
      US$1,761,839 was provided for the deferred tax assets in this
      respect.





The
      amount of the deferred tax assets considered realizable, however, could be
      reduced in the near term if future taxable income decreases.




F-23




**China
        BAK Battery, Inc. and subsidiaries**
 **Notes
        to the consolidated financial statements**
 **As
        of September 30, 2005, 2006 and 2007 (continued)**
  The
        Company has not recognized a deferred tax liability for the undistributed
        earnings of its foreign subsidiaries of approximately US$52,733,522 as of
        September 30, 2007 because the Company currently does not expect those
        unremitted earnings to reverse and become taxable to the Company in the
        foreseeable future. A deferred tax liability will be recognized when the
        Company
        no longer plans to permanently reinvest undistributed earnings. Calculation
        of
        related unrecognized deferred tax liability is not practicable.
 
 **8**
              **Property,
                  Plant and Equipment, net**
 
 Property,
        plant and equipment as of September 30, 2006 and 2007 consist of the
        following:
 *2006*
                
                *2007*Buildings
                
                $
                63,508,910
                
                $
                70,380,985Machinery
                    and equipment
                
                
                30,658,968
                
                
                59,405,092Office
                    equipment
                
                
                750,115
                
                
                1,088,032Motor
                    vehicles
                
                
                1,018,042
                
                
                1,135,61695,936,035
                
                
                132,009,725Accumulated
                    depreciation
                
                
                (9,925,557
                )
                
                (19,301,165
                )Construction
                    in progress
                
                
                23,395,638
                
                
                12,578,715Prepayment
                    for acquisition of property, plant and equipment
                
                
                **-**
                
                
                19,835,747$
                109,406,116
                
                $
                145,123,022
  *(i)*
              *Depreciation
                  expense is included in the consolidated statements of income and
                  comprehensive income as
                  follows:*
  *2005*
                
                *2006*
                
                *2007*Cost
                    of revenues
                
                $
                2,906,335
                
                $
                4,468,704
                
                $
                6,274,424Research
                    and development costs
                
                
                78,581
                
                
                259,721
                
                
                296,199Sales
                    and marketing expenses
                
                
                416,701
                
                
                539,412
                
                
                591,583General
                    and administrative expenses
                
                
                106,636
                
                
                466,861
                
                
                1,455,911$
                3,508,253
                
                $
                5,734,698
                
                $
                8,618,117
  *(ii)*
              *Construction
                  in Progress*
 
 Construction
        in progress mainly comprises capital expenditures for construction of the
        Company’s new corporate campus, including offices, factories and staff
        dormitories.
  For
        the
        years ended September 30, 2005, 2006 and 2007, the Company capitalized interest
        of approximately US$1,088,000, US$460,486 and US$451,226, respectively, to
        the
        cost of construction in progress.
  *(iii)*
              *Pledged
                  Property, Plant and Equipment*
 
 As
        of
        September 30, 2006 and 2007, machinery and equipment with net book value
        of
        US$6,253,302 and US$34,090,267 of the Company were pledged as collateral
        under
        certain loan arrangements (see Notes 11 and 12).
  F-24
  **China
        BAK Battery, Inc. and subsidiaries**
 **Notes
        to the consolidated financial statements**
 **As
        of September 30, 2005, 2006 and 2007 (continued)**
  **9**
              **Lease
                  Prepayments, net**
  Lease
        prepayments as of September 30, 2006 and 2007 consist of the
        following:
 *2006*
                
                *2007*Lease
                    prepayments
                
                $
                3,322,042
                
                $
                18,335,267Accumulated
                    amortization
                
                
                (160,565
                )
                
                (450,831
                )$
                3,161,477
                
                $
                17,884,436
 
 During
        the year ended September 30, 2007, the Company acquired and fully paid the
        lease
        prepayment of US$717,344 in relation to the right to use the land in Shenzhen
        for the Company’s new Research and Development Test Centre. The Company obtained
        the property ownership and land use rights certificate already. The Company
        also
        acquired and fully paid the lease prepayment of US$14,119,888 for the right
        to
        use the land in Tianjin and the application for land use rights certificate
        was
        in process. As of September 30, 2007, the Company was in the process of
        evaluating the development plans for these two plots of land.
 
 Lease
        prepayment with cost of US$3,498,035 represents the right to use the land
        on
        which the Company’s corporate campus had been constructed and is owned by the
        PRC government. According to the agreement with the local government of Kuichong
        Township of Longgang District of Shenzhen, the Company is obligated to pay
        approximately US$13.6 per square meter to the local government to obtain
        the
        right to use the land for a period of 50 years. According to the preliminary
        measurement conducted in 2004, total consideration payable by the Company
        in
        respect of the land use rights amounted to US$4,029,038, which was reduced
        to
        US$3,246,791 in accordance with the results of final measurement by the local
        government in 2005. The balance of US$528,976 is still outstanding as of
        September 30, 2007. The local government granted permission to the Company
        to
        commence the construction of the new production plant. On June 20, 2007,
        the
        Company obtained the approvals for project planning and construction from
        the
        government of Shenzhen.
 
 Amortization
        expenses for the above lease prepayments were approximately US$66,000, US$69,000
        and US$274,000 for the years ended September 30, 2005, 2006 and 2007
        respectively. Estimated amortization expense for the next five years is
        approximately US$367,000 each year.
 
 **10**
              **Intangible
                  Assets, net**
  Intangible
        assets as of September 30, 2006 and 2007 consist of the following:
 *2006*
                
                *2007*Trademarks,
                    computer software and technology
                
                $
                99,657
                
                $
                165,826Less:
                    Accumulated amortization
                
                
                (24,975
                )
                
                (44,788
                )$
                74,682
                
                $
                121,038
  Intangible
        assets represent the trademarks, computer software and technology used for
        battery production.
 
 Amortization
        expenses for these intangible assets were approximately US$7,000, US$12,000
        and
        US$19,000 for the years ended September 30, 2005, 2006 and 2007 respectively.
        Estimated amortization expense for the next five years is approximately
        US$24,000 each year.
  F-25
 
 **China
        BAK Battery, Inc. and subsidiaries**
 **Notes
        to the consolidated financial statements**
 **As
        of September 30, 2005, 2006 and 2007 (continued)**
  **11**
              **Short-term
                  Bank Loans**
 
 The
        Company obtained several short-term loan facilities from financial institutions
        in the PRC. These facilities were secured by the Company’s assets with the
        following carrying values:
 *2006*
                
                *2007*Inventories
                    (Note 5)
                
                $
                10,115,442
                
                $
                19,971,241Machinery
                    and equipment, net (Note 8)
                
                
                6,253,302
                
                
                18,299,368$
                16,368,744
                
                $
                38,270,609
  As
        of
        September 30, 2006 and 2007, the Company had several short-term bank loans
        with
        aggregate outstanding balances of US$67,899,908 and US$89,870,586 respectively.
        The loans were primarily obtained for general working capital, carried interest
        rates ranging from 5.508% to 7.722% per annum, and had maturity dates ranging
        from 6 to 12 months. Each loan is guaranteed by Mr. Xiangqian Li who did
        not
        receive any compensation for acting as guarantor.
 
 The
        Company also committed to pledge the property ownership and land use rights
        certificate to be obtained in relation to the land on which the Company’s
        corporate campus had been constructed for short-term bank loans amounting
        to
        US$23,965,490 borrowed from Shenzhen Eastern Branch, Agricultural Bank of
        China.
        The aggregate net book value of the buildings and land use right in relation
        to
        the property ownership and land use rights certificate as of September 30,
        2007
        was US$81,150,903.
 
 The
        Company is subject to certain covenants, which require the Company to comply
        with certain financial ratio, for its loan facilities which are tested on
        a
        monthly basis. If the Company fails to meet the requirements, the outstanding
        bank loans, including interest and penalties due thereunder, will accelerate
        and
        become immediately due and payable.
  F-26
 **China
          BAK Battery, Inc. and subsidiaries**
 **Notes
          to the consolidated financial statements**
 **As
          of September 30, 2005, 2006 and 2007 (continued)**
 **12**
              **Long-term
                  Bank Loans**
 
 As
        of
        September 30, 2007, the Company had long-term bank loans of US$29,291,154.
        The
        amount of US$13,314,161 was borrowed under a four-year long-term loan credit
        facility from China Development Bank, bearing interest at the benchmark rate
        of
        the PBOC for three-year to five-year long-term loans which is currently 6.48%
        per annum. The long-term bank loan is repayable in three instalments of
        US$3,994,248 on November 20, 2008, US$3,994,248 on November 20, 2009 and
        US$5,325,665 on December 26, 2010.
 
 The
        other
        two loans with aggregate amount of US$15,976,993 were borrowed under a five-year
        long-term loan credit facility from Shenzhen Eastern Branch, Agricultural
        Bank
        of China and carry interest at 90% of the benchmark rate of the PBOC for
        three-year to five-year long-term loans. The loan of US$5,325,664 currently
        carries interest at 5.832% is repayable on January 25, 2012. The other loan
        of
        US$10,651,329 with current annual interest rate of 6.237% is repayable in
        three
        instalments of US$2,662,832 on January 25, 2010, US$6,657,080 on January
        25,
        2011 and US$1,331,417 on January 25, 2012 respectively.
 
 The
        long-term bank loan with China Development Bank is: (i) guaranteed by Mr.
        Xiangqian Li; (ii) secured by certain shares of the Company owned by Mr.
        Xiangqian Li; and (iii) secured by the property ownership and land use rights
        certificate of the Company’s Research and Development Test Centre and the future
        facilities to be constructed thereon.
 
 The
        long-term bank loan with Agricultural Bank of China is: (i) guaranteed by
        Mr.
        Xiangqian Li; (ii) secured by the Company’s machinery and equipment with
        carrying values of US$15,790,899 as of September 30, 2007 (Note 8); and (iii)
        secured by the property ownership and land use rights certificate to be obtained
        in relation to the land on which the Company’s corporate campus had been
        constructed and the future machinery and equipment to be purchased and used
        in
        the campus.
 
 Mr.
        Xiangqian Li did not receive any compensation for pledging his shares in
        the
        Company to the bank and acting as guarantor for the above long-term bank
        loans.
 
 **13**
              **Accrued
                  Expenses and Other
                  Payables**
 
 Accrued
        expenses and other payables as of September 30, 2006 and 2007 consist of
        the
        following:
 *2006*
                
                *2007*Land
                    use rights payable
                
                $
                3,031,223
                
                $
                528,976Construction
                    costs payable
                
                
                9,815,947
                
                
                3,062,469Equipment
                    purchases payable
                
                
                6,243,100
                
                
                4,682,908Customer
                    deposits (Note 13(a))
                
                
                342,579
                
                
                1,647,489Other
                    payables and accruals (Note 13(b))
                
                
                5,568,961
                
                
                4,896,538Staff
                    and workers’ welfare andbonus
                    fund
                
                
                879,175
                
                
                648,812$
                25,880,985
                
                $
                15,467,192
 (a)
              Customer
                  deposits were received from customers in connection with orders
                  of
                  products to be delivered in future
                  periods.
  (b)
              Other
                  payables and accruals included deferred income from receipts of
                  government
                  grants amounting to US$777,625 and US$579,166 as of September 30,
                  2006 and
                  2007 respectively.
  Other
        payables and accruals as of September 30, 2006 and 2007 also include payable
        for
        liquidated damage of US$290,575 and US$1,051,000 respectively (Note
        14).
  F-27
  **China
        BAK Battery, Inc. and subsidiaries**
 **Notes
        to the consolidated financial statements**
 **As
        of September 30, 2005, 2006 and 2007 (continued)**
  **14**
              **Shareholders’
                  Equity**
 
 On
        January 20, 2005, the Company completed a share swap transaction with the
        shareholders of BAK International, as more fully described in Note 1. Prior
        to
        and in connection with the completion of the share swap transaction with
        BAK
        International, China BAK sold 8,600,433 shares of its ordinary shares to
        new
        investors in a private placement, as more fully described in Note
        1.
 
 On
        September 16, 2005, the Company sold 7,899,863 shares of its common stock
        to new
        investors for US$43,449,247. The Company granted certain registration rights
        to
        such purchasers, including a covenant to file with the Securities and Exchange
        Commission a registration statement covering their shares. Pursuant to the
        terms
        of the registration rights agreement, among other things, (a) if a registration
        statement filed pursuant thereto ceases to be effective after its effective
        date
        to cover the resale of the shares for more than 30 trading days or (b) if
        for
        any reason the Company is required to file an additional registration statement
        covering such shares, and it does not file such additional registration
        statement within 45 days after the time it first knew, or reasonably should
        have
        known, that such registration statement would be required to be filed, then,
        while the relevant shares could not be put back to the Company, it would
        be
        liable to pay partial liquidated damages to those selling shareholders equal
        to
        1.0% of the aggregate investment amount paid by those selling shareholders
        for
        the shares, and on each monthly anniversary thereafter, unless the event
        is
        cured by such date, an additional 1.5% on (except with respect to the first
        such
        event) a daily pro-rata basis. The Company also issued warrants to purchase
        631,989 shares of its common stock at an exercise price of US$7.92 per share,
        being 110% of the share price as of the grant date, exercisable for three
        years
        after the date of issuance, as a fee to its financial advisors and other
        external parties in connection with this transaction. The grant date fair
        value
        of the warrants amounted to US$1,630,532 and has been recorded within additional
        paid-in-capital as a cost of the offering, and therefore, the issuance of
        the
        share warrants does not have any impact on the net income.
 
 On
        August
        15, 2006, the SEC declared effective a post-effective amendment that the
        Company
        had filed on August 4, 2006, terminating the effectiveness of a resale
        registration statement on Form SB-2 that had been filed pursuant to a
        registration rights agreement with certain shareholders to register the resale
        of shares held by those shareholders. The Company subsequently filed Form
        S-1
        for these shareholders. On December 8, 2006, the Company filed its Annual
        Report
        on Form 10-K for the year ended September 30, 2006 (the “2006 Form 10-K”). After
        the filing of the 2006 Form 10-K, the Company’s previously filed registration
        statement on Form S-1 was no longer available for resales by the selling
        shareholders whose shares were included in such Form S-1. Under the registration
        rights agreement, those selling shareholders became eligible for liquidated
        damages relating to the above two events totalling approximately US$1,051,000
        from the Company. The Company therefore recognized in general and administrative
        expenses an amount of approximately US$760,000 as liquidated damages for
        the
        year ended September 30, 2007.
  F-28
  **China
        BAK Battery, Inc. and subsidiaries**
 **Notes
        to the consolidated financial statements**
 **As
        of September 30, 2005, 2006 and 2007 (continued)**
  **15**
              **Net
                  Income per Share**
 
 The
        calculation of basic net income per share is based on the net income for
        the
        year ended September 30, 2007 attributable to equity shareholders of US$483,328
        (2005: US$13,496,548; 2006: US$20,164,566) and the weighted average number
        of
        ordinary shares of 48,979,115 in issue during the year (2005: 38,288,874;
        2006:
        48,879,608).
 
 The
        calculation of diluted net income per share is based on the net income for
        the
        year ended September 30, 2007 attributable to equity shareholders of US$483,328
        (2005: US$13,496,548; 2006: US$20,164,566) and the weighted average number
        of
        ordinary shares of 49,442,285 in issue during the year ended September 30,
        2007
        (2005: 38,408,625; 2006: 48,912,963) after adjusting for the number of 463,170
        dilutive potential ordinary shares. Restricted stock granted to employees
        and to
        non-employee directors are included in the computation of diluted net income
        per
        share for the year ended September 30, 2007. The number of 631,989 (2006:
        631,989) share warrants granted to external financial advisors and 1,818,500
        (2006: 1,400,000) stock options granted to employees are excluded from the
        computation of diluted net income per share as the warrant and stock options
        were both anti-dilutive. There were no shares with anti-dilutive effect for
        the
        year ended September 30, 2005.
 
 **16**
              **Finance
                  Costs, net**
 
 Details
        of finance costs are summarized as follows:
 *2005*
                
                *2006*
                
                *2007*Total
                    interest cost incurred
                
                $
                1,930,054
                
                $
                2,750,102
                
                $
                5,404,305Less:
                    Interest capitalized
                
                
                (1,087,909
                )
                
                (460,486
                )
                
                (451,226
                )Interest
                    income
                
                
                (60,624
                )
                
                (523,135
                )
                
                (283,264
                )Bank
                    charges
                
                
                63,806
                
                
                121,510
                
                
                186,715Exchange
                    loss
                
                
                -
                
                
                322
                
                
                368,270$
                845,327
                
                $
                1,888,313
                
                $
                5,224,800
 **17**
                **Pension
                    and Other Postretirement
                    Benefits**
 
 Pursuant
        to the relevant PRC regulations, the Company is required to make contributions
        at a rate of 8% to 11% of employees’ salaries and wages to a defined
        contribution retirement scheme organized by a state-sponsored social insurance
        plan in respect of the retirement benefits for the Company’s employees in the
        PRC. The total amount of contributions charged to expense in the accompanying
        consolidated statements of income and comprehensive income are presented
        as
        follows:
  *2005*
                
                *2006*
                
                *2007*Cost
                    of revenues
                
                $
                421,975
                
                $
                844,182
                
                $
                279,191Research
                    and development costs
                
                
                12,705
                
                
                42,456
                
                
                57,575Sales
                    and marketing expenses
                
                
                144,977
                
                
                115,557
                
                
                142,739General
                    and administrative expenses
                
                
                115,020
                
                
                107,076
                
                
                160,627$
                694,677
                
                $
                1,109,271
                
                $
                640,132
  The
        Company has no other obligation to make payments in respect of retirement
        benefits of the employees. The state-sponsored retirement plan is responsible
        for the entire pension obligations payable to all employees.
  F-29
  **China
        BAK Battery, Inc. and subsidiaries**
 **Notes
        to the consolidated financial statements**
 **As
        of September 30, 2005, 2006 and 2007 (continued)**
  **18**
              **Share-based
                  Compensation**
 
 The
        Company grants share options to officers and employees and restricted ordinary
        shares to its non-employee directors to reward for services.
 
 **Stock
        Option Plan**
  In
        May
        2005, the Board of Directors adopted the China BAK Battery, Inc. 2005 Stock
        Option Plan (the “Plan”). The Plan authorizes the issuance of up to 4,000,000
        shares of the Company’s common stock. The exercise price of the options granted,
        pursuant to the Plan, must be at least equal to the fair market value of
        the
        Company’s common stock at the date of the grant. The Plan will terminate on May
        16, 2055.
 
 Pursuant
        to the Plan, the Company issued 2,000,000 options with an exercise price
        of
        US$6.25 per share on May 16, 2005. In accordance with the vesting provisions
        of
        the grants, the options will become vested and exercisable under the following
        schedule:
 Numbers
                    of Share
                
                Percentage
                    of
                  Options
                    Issued
                
                Initial
                  Vesting
                    Date800,000
                
                40%
                
                July
                    1, 2007600,000
                
                30%
                
                January
                    1, 2008600,000
                
                30%
                
                July
                    1, 20082,000,000
                
                100%
 F-30
 **China
          BAK Battery, Inc. and subsidiaries**
 **Notes
          to the consolidated financial statements**
 **As
          of September 30, 2005, 2006 and 2007 (continued)**
  Subsequent
        to the grant date, options to purchase 200,000 shares of common stock were
        forfeited because the optionees terminated their employment with the Company.
        In
        addition, on September 28, 2006, options to purchase a total of 1,400,000
        shares
        of common stock were cancelled pursuant to the Termination and Release
        Agreements signed on that day. Details of the cancellation of stock options
        and
        the relevant replacement awards are set out below under “Employee Restricted
        Stock Awards.”
 
 A
        summary
        of share option plan activity for the year ended September 30, 2007 is presented
        below:
 
 Number
                  of shares
              
              Weighted
                  average exercise price per share
              
              Weighted
                  average remaining contractual term
              
              Aggregate
                Intrinsic
                Value
                  (1)Outstanding
                  as of October 1, 2006
              
              
              400,000
              
              $
              6.25Granted
              
              
              -
              
              
              -Exercised
              
              
              -
              
              
              -Forfeited
              
              
              -
              
              
              -Cancelled
              
              
              -
              
              
              -Outstanding
                  as of September 30, 2007
              
              
              400,000
              
              $
              6.25
              
              
              4
                  years
              
              $
              612,000Exercisable
                  as of September 30, 2007
              
              
              280,000
              
              $
              6.25
              
              
              4
                  years
              
              $
              428,400
 
 (1)
              Aggregate
                  intrinsic value represents the value of the Company’s closing stock price
                  on September 30, 2007 (US$7.78) in excess of the exercise price
                  multiplied
                  by the number of options outstanding or
                  exercisable.
 
 The
        weighted-average grant-date fair value of options granted during 2005 was
        US$3.67 per share. The Company recorded non-cash share-based compensation
        expense of US$2,625,269 and US$588,716 for the years ended September 30,
        2006
        and 2007 respectively in respect of share options granted in 2005. The expense
        of 2007 was allocated to general and administrative expenses and research
        and
        development costs respectively, and that of 2006 was allocated to cost of
        revenues, sales and marketing expenses, general and administrative expenses
        and
        research and development costs respectively.
 
 The
        fair
        value of the above option awards was estimated on the date of grant using
        the
        Black-Scholes Option Valuation Model together with the following
        assumptions.
  Expected
                  volatility
              
              
              59.85
              %Expected
                  dividends
              
              
              NilExpected
                  life
              
              
              6
                  yearsRisk-free
                  interest rate
              
              
              4.13
              %
 
 As
        of
        September 30, 2007, there were unrecognized compensation costs of approximately
        US$74,000 related to non-vested share options. These costs are expected to
        be
        recognized over a weighted average period of 0.6 years.
  F-31





**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




Pursuant
      to the Plan, the Company also issued 1,501,500 options with a weighted-average
      exercise price of US$3.28 per share on June 25, 2007. In accordance with the
      vesting provisions of the grants, the options will become vested and exercisable
      during the period from June 30, 2007 to February 9, 2012 according to each
      of
      the employee’s agreement respectively.





A
      summary
      of share option plan activity for the year ended September 30, 2007 is presented
      below:





*Number
                of Shares*
            
            *Weighted
                average exercise price per share*
            
            *Weighted
                average remaining contractual term*
            
            *Aggregate
                Intrinsic Value (1)**Outstanding
                as of October 1, 2006*
            
            
            *-*
            
            *$*
            *-**Granted
                on June 25, 2007*
            
            
            *1,501,500*
            
            
            *3.28**Exercised*
            
            
            *-*
            
            
            *-**Forfeited*
            
            
            *83,000*
            
            
            *3.27**Cancelled*
            
            
            *-*
            
            
            *-**Outstanding
                as of September 30, 2007*
            
            
            *1,418,500*
            
            *$*
            *3.28*
            
            
            *6
                years*
            
            *$*
            *6,383,250**Exercisable
                as of September 30, 2007*
            
            
            *20,000*
            
            *$*
            *3.35*
            
            
            *5
                years*
            
            *$*
            *88,600*





(1)
            Aggregate
                intrinsic value represents the value of the Company’s closing stock price
                on September 30, 2007 (US$7.78) in excess of the exercise price multiplied
                by the number of options outstanding or
                exercisable.





The
      weighted-average grant-date fair value of options granted during 2007 was
      US$2.15 per share. The Company recorded non-cash share-based compensation
      expense of US$545,749 for the year ended September 30, 2007 in respect of share
      options granted in 2007, which was allocated to cost of revenues, sales and
      marketing expenses, general and administrative expenses and research and
      development costs respectively.





The
      fair
      value of the above option awards granted on June 25, 2007 was estimated on
      the
      date of grant using the Black-Scholes Option Valuation Model that uses following
      assumptions.




Expected
                volatility
            
            
            69.44
            %Expected
                dividends
            
            
            NilExpected
                life
            
            
            4
                - 10 yearsRisk-free
                interest rate
            
            
            5.09
            %




As
      of
      September 30, 2007, there were unrecognized compensation costs of US$2,511,849
      related to the above non-vested share options. These costs are expected to
      be
      recognized over a weighted average period of 2 years.





Pursuant
      to the Plan, the Company also granted 5,000 restricted shares to each of the
      two
      newly elected independent directors with a fair value of US$3.35 per share
      on
      June 25, 2007 and granted 5,000 restricted shares to one of the existing
      independent directors with a fair value of US$4.33 per share on July 17, 2007.
      The eligible directors shall vest in their rights under the restricted shares
      according to the following schedule:




(i)  25%
      of
      the restricted shares granted will immediately vest on the grant date;
      and




(ii)  The
      remaining 75% of the restricted shares will vest in three equal quarterly
      instalments on the last day of each subsequent quarter or in three equal
      quarterly instalments on the last day of each calendar quarter beginning on
      the
      last day of the first full calendar quarter after the grant date.





The
      Company recorded non-cash share-based compensation expenses of US$38,568 in
      respect of the restricted shares granted in June and July 2007, which was
      allocated to general and administrative expenses.





As
      of
      September 30, 2007, the Company had unrecognized stock-based compensation of
      US$16,582 associated with these restricted shares granted to non-employee
      directors. These costs are expected to be recognised over a weighted average
      period of 0.3 years. As of September 30, 2007, the first 25% of the restricted
      shares were already issued as fully paid ordinary shares to the three
      independent directors on August 23, 2007. The next 25% of the restricted shares
      had not been issued to the three independent directors yet.





As
      the
      Company itself is an investment holding company which is not expected to
      generate operating profits to realize the tax benefits arising from its net
      operating loss carried forward, no income tax benefits were recognized for
      such
      stock-based compensation cost under stock option plan for the years ended
      September 30, 2006 and 2007.





F-32




**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




**Employee
      Restricted Stock Award**





On
      September 22, 2006, the Compensation Committee approved the form of Termination
      and Release Agreement covering the cancellation of 1,400,000 shares of stock
      options granted to the optionees who are residents of the PRC. The Compensation
      Committee also consented to adopt the terms and provisions for Restricted Stock
      Grant Agreement covering the issuance of restricted shares, and committed to
      determine an appropriate number of shares of restricted stock that would be
      granted to these optionees under the Plan (the “Replacement Awards”) during the
      first quarter of fiscal year 2007. In addition, the Compensation Committee
      also
      approved the officer of the Company to authorize delivery of the restricted
      shares to the employees. On September 28, 2006, options to purchase a total
      of
      1,400,000 shares of common stock were cancelled pursuant to the Termination
      and
      Release Agreements signed on that day. The Replacement Awards were classified
      as
      liability-classified awards as of September 30, 2006.





The
      Company has estimated the fair value of the Replacement Awards to be US$4.27
      per
      share as of December 26, 2006, based on the estimated fair value of the
      cancelled options using the Black-Scholes Option Valuation Model together with
      the following assumptions.





Expected
                volatility
            
            
            89.51
            %Expecteddividends
            
            
            NilExpectedlife
            
            
            4.4yearsRisk-freeinterest
                rate
            
            
            4.61
            %





On
      December 26, 2006, pursuant to the restricted stock grant agreements signed
      between the Company’s officers and the relevant optionees and based on the
      closing market price of the Company’s listed common stock on that date, i.e.
      US$6.25 per share, a total of 914,994 shares of restricted stock were granted
      as
      Replacement Awards to the employees who gave up their stock options and
      continued to be employed by the Company on that date. Fair value of the
      Replacement Awards granted to each optionee approximated that of the employee’s
      terminated stock options. The Compensation Committee ratified the grants on
      January 15, 2007.





Prior
      to
      vesting, the shares of restricted stock granted to each employee pursuant to
      the
      Replacement Awards are subject to restrictions on transferability and will
      be
      forfeited if the grantee’s employment with the Company is terminated. In
      accordance with the vesting provisions of the grants, the shares of restricted
      stock will become vested and shall no longer be subject to forfeiture under
      the
      following schedule:





Number
                of Shares
            
            Percentage
                of Options Issued
            
            Initial
                Vesting Date365,998
            
            40%
            
            July
                1, 2007274,498
            
            30%
            
            January
                1, 2008274,498
            
            30%
            
            July
                1, 2008914,994
            
            100%





F-33





**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




Upon
      the
      grant of restricted stock, the Company has reclassified share-based payment
      liabilities of US$3,679,934 to shareholders’ equity. The restricted stock grant
      is treated as equity-classified awards and the unrecognized compensation costs
      will be recognized over the vesting period. The Company recognized share-based
      compensation expense of US$54,770 for the period from October 1, 2006 to
      December 26, 2006 in respect of the liability-classified award, and US$1,290,040
      for the period from December 26, 2006 to September 30, 2007 in respect of the
      equity-classified award. These share-based compensation costs were allocated
      to
      cost of revenues, sales and marketing expenses, general and administrative
      expenses and research and development costs respectively.





A
      summary
      of the restricted stock grant activity for the year ended September 30, 2007
      is
      presented below:





****
            *Weighted
                average*
            ********
            ****
            *Number
                of*
            ****
            *exercise
                price*
            ********
            ****
            *shares*
            ****
            *per
                share*Non-vested
                as of October 1, 2006
            
            
            -
            
            $
            -Granted
                on December 26, 2006
            
            
            914,994
            
            
            6.25Vested
            
            
            353,707
            
            
            6.25Forfeited
            
            
            30,727
            
            
            6.25Non-vested
                as of September 30, 2007
            
            
            530,560
            
            $
            6.25





As
      such
      share-based compensation is not deductible for income tax purpose in the PRC,
      no
      income tax benefits were recognized in this respect for the year ended September
      30, 2007.





As
      of
      September 30, 2007, there were unrecognized compensation costs of US$556,696
      related to the restricted stock granted. These costs are expected to be
      recognized over a weighted average period of 0.6 years.





F-34





**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




**Compensation
      Plan for Non-employee Directors**




On
      May
      12, 2006, the Board of Directors adopted the China BAK Battery, Inc.
      Compensation Plan for Non-employee Directors (the “Plan 2006”). The Plan 2006
      authorizes the issuance of 5,000 restricted shares of the Company’s common stock
      to each of the three eligible directors in addition to their annual retainer
      fee. Such restricted shares entitle the relevant non-employee directors to
      all
      rights of ordinary share ownership except that the shares may not be sold,
      transferred, pledged, exchanged or otherwise disposed of during the vesting
      period.





On
      May
      12, 2006, the Company granted 5,000 restricted shares to each of the three
      newly
      elected independent directors with a fair value of US$11.5 per share pursuant
      to
      the Plan 2006. The eligible directors shall vest in their rights under the
      restricted shares according to the following schedule:




(i)  25%
      of
      the restricted shares granted will immediately vest on the grant date;
      and




(ii)  The
      remaining 75% of the restricted shares will vest in three equal quarterly
      instalments on the last day of each subsequent quarter or in three equal
      quarterly instalments on the last day of each calendar quarter beginning on
      the
      last day of the first full calendar quarter after the grant date.





The
      Company recorded non-cash share-based compensation expenses of US$131,320 and
      US$41,178 for the years ended September 30, 2006 and 2007 respectively in
      respect of the above restricted shares granted to non-employee directors, which
      was allocated to general and administrative expenses.





As
      the
      Company itself is an investment holding company which is not expected to
      generate operating profits to realize the tax benefits arising from its net
      operating loss carried forward, no income tax benefits were recognised for
      such
      share-based compensation cost for the years ended September 30, 2006 and
      2007.





As
      of
      September 30, 2007, there was no unrecognized stock-based compensation
      associated with these restricted shares granted to non-employee directors.
      Each
      of the 25% of the restricted shares were issued as fully paid ordinary shares
      to
      the three independent directors on July 19, 2006, August 16, 2006, January
      8,
      2007 and March 28, 2007, respectively.





F-35





**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




**19**
            **Fair
                Value of Financial
                Instruments**





The
      fair
      value of a financial instrument is the amount at which the instrument could
      be
      exchanged in a current transaction between willing parties. The carrying amounts
      of financial assets and liabilities, such as cash and cash equivalents, pledged
      deposits, trade accounts receivable, other receivables, short-term bank loans,
      long-term bank loans, accounts and bills payable and other payables, approximate
      their fair values because of the short maturity of these instruments and market
      rates of interest.





**20**
            **Commitments
                and Contingencies**





*(i)*
            *Capital
                Commitments*





As
      of
      September 30, 2006 and 2007, the Company had the following contracted capital
      commitments:





*2006*
            
            *2007*For
                construction of buildings
            
            $
            557,883
            
            $
            -For
                purchases of equipment
            
            
            12,184,346
            
            
            12,312,763$
            12,742,229
            
            $
            12,312,763





As
      of
      September 30, 2007, BAK Tianjin had plans to construct manufacturing facilities
      of US$14,385,951 and to purchase equipment of US$6,439,034.





*(ii)*
            *Land
                Use Rights and Property Ownership
                Certificate*





According
      to the relevant PRC laws and regulations, a land use rights certificate, along
      with government approvals for land planning, project planning and construction,
      needs to be obtained before construction of a building is commenced. A property
      ownership certificate shall be granted by the government upon application under
      the condition that the aforementioned certificate and government approvals
      have
      been obtained.




F-36





**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




The
      Company has not yet obtained the land use rights certificate relating to the
      premises occupied by the Company, BAK Industrial Park. However, the Company
      obtained approvals for project-planning and construction from the government
      of
      Shenzhen on June 20, 2007 and is in the process of applying for the land use
      rights certificate.





Management
      believes that the Company will ultimately be granted a land use rights
      certificate, and that there should be no legal barriers for the Company to
      obtain a property ownership certificate for the premises presently occupied
      by
      the Company in BAK Industrial Park. However, in the event that the Company
      fails
      to obtain the land use rights certificate relating to BAK Industrial Park,
      there
      is a risk that the buildings constructed will need to be vacated as illegitimate
      constructions and the Company might be subject to penalties and fines. However,
      management believes that this possibility, while present, is
      remote.





The
      Company is not able to insure its manufacturing facilities since it has not
      yet
      received its land use rights certificate. The Company intends to procure such
      insurance once it has received the certificate.





*(iii)*
            *Guarantees*





In
      order
      to secure the supplies of certain raw materials and upon the request of
      suppliers, the Company has given guarantee to certain suppliers which are
      summarized as follows:





*2006*
            
            *2007*Guaranteed
                for Shenzhen Tongli Hi-tech Co. Ltd. -a
                non-related party
            
            $
            2,528,861
            
            $
            -Guaranteed
                for Hunan Reshine New Material Ltd. -a
                non-related party
            
            
            -
            
            
            5,325,664Guaranteed
                for Nanjing Special MetalEquipment
                Co. Ltd. - a non-related party
            
            
            -
            
            
            1,331,416Guaranteed
                for Shenzhen Kuichong ZhendaIndustrial
                Co. Ltd. - a non-related party
            
            
            1,264,430
            
            
            -$
            3,793,291
            
            $
            6,657,080





Management
      has assessed the fair value of the obligation arising from the above financial
      guarantees and considered it is immaterial to the consolidated financial
      statements. Therefore, no obligations in respect of the above guarantees were
      recognized as of September 30, 2007.




*(iv)*
            *Outstanding
                Discounted Bills and Transferred
                Bills*





From
      time
      to time, the Company factors bills receivable to banks and endorses the bank
      acceptance bills received to its suppliers, vendors or other parties for
      settlement of its liabilities to these creditors. At the time of the factoring
      and transfer, all rights and privileges of holding the receivables are
      transferred to the banks and the creditors. The Company removes the assets
      from
      its books and records a corresponding expense for the amount of the discount.
      The Company remains contingently liable on the amount outstanding in the event
      the bill issuer defaults.





The
      Company's outstanding discounted and transferred bills as of September 30,
      2006
      and 2007 are summarized as follows:




*2006*
            
            *2007*Bank
                acceptance bills
            
            $
            1,972,303
            
            $
            17,851,850Commercial
                acceptance bills
            
            
            5,013,466
            
            
            -$
            6,985,769
            
            $
            17,851,850




F-37




**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




*(v)*
            *Litigation
                and claims*





On
      September 12, 2006, Hydro-Quebec, a Canadian company, and the Board of Regents
      of the University of Texas System brought a federal patent infringement suit
      in
      the United States District Court for the Northern District of Texas against
      the
      Company. The Company has an agreement with A123Systems, Inc., under which the
      Company agrees to manufacture products for A123Systems, Inc. according to the
      specifications furnished by, and using the finished electrodes and other
      materials consigned by, A123Systems, Inc. to the Company. The plaintiffs alleged
      that by manufacturing rechargeable lithium cells for one of the Company’s
      customers, A123Systems, Inc., for use in DeWalt 36-volt cordless power tools
      manufactured by Black & Decker Corporation, the Company has infringed two
      U.S. patents owned by and exclusively licensed to the plaintiffs. The plaintiffs
      seek injunctive relief and damages in an unspecified amount. If the court issues
      an adverse decision, the Company may be required to pay the plaintiffs
      substantial monetary damages. The court has not yet issued a decision on this
      matter and the Company is unable to quantify the extent of any possible award
      of
      damages that might become payable by the Company.





The
      agreement with A123Systems, Inc., under which the Company agrees to manufacture
      products for A123Systems, Inc. according to the specifications furnished by,
      and
      using the finished electrodes and other materials consigned by, A123Systems,
      Inc. to the Company, had terminated on August 30, 2007.





**21**
            **Related
                Party Transactions**





(i)
            In
                October 2003, the Company acquired intangible assets from an entity
                controlled by Mr. Xianqian Li, the Chairman and the then controlling
                shareholder of the Company, for US$3,866,088, and paid in cash. The
                consideration paid by the Company in excess of the Chairman's carrying
                cost of the intangible assets, which was nil, was charged to retained
                earnings as a distribution to the Chairman, resulting in the acquired
                intangible assets being recorded by the Company at the Chairman's
                original
                cost basis.




(ii)
            Amounts
                due from related parties in the consolidated balance sheets consist
                of
                short term advances made by the Company to a former shareholder.
                The
                advances bore no interest, had no formal repayment terms and had
                been
                fully repaid on December 14, 2005.





(iii)
            On
                September 30, 2004, the Company entered into an agreement with HFG
                International Ltd. (“HFG”), of which HFG provided financial consulting
                services to the Company, as described below, for a period of one
                year for
                a fee of US$400,000. HFG is controlled by a shareholder of the
                Company.




Under
      the
      agreement, HFG provided the Company with, among other things, advice on the
      development and implementation of a restructuring plan, resulting in an
      organizational structure that would facilitate the registration of the Company's
      securities, assistance to the Company in engaging qualified professionals to
      facilitate the Company's plan, assistance in identifying potential merger
      candidates, assisting in the preparation of the necessary documentation and
      assistance with solicitation of equity financing.





The
      fee
      was paid from the proceeds of the equity capital raised by HFG on behalf of
      the
      Company. The fee to HFG was offset against the proceeds from the offerings
      as a
      cost of raising capital in 2005. The principal stockholder in HFG was also
      the
      former Chief Executive Officer of Medina Coffee, Inc. The Company believed
      that
      the fee charged to the Company for the services of HFG was on essentially the
      same terms as those charged by HFG for financial consulting services performed
      for HFG's other clients.





F-38




**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




**22**
            **Significant
                Concentrations**





**(a)**
            **Customers
                and Credit Concentrations**





The
      Group
      had only one customer that individually comprised 10% or more of net revenue
      for
      the years ended September 30, 2006 and 2007, as follows:





*2005*
            
            *2006*
            
            *2007*%
            
            
            
            %
            
            
            
            %A123System,
                Inc.
            
            $
            -
            
            
            -
            
            $
            18,537,334
            
            
            13
            
            $
            20,586,775
            
            
            14





As
      of
      September 30, 2005, the Company did not have balance of gross trade accounts
      receivable due from A123System, Inc. As of September 30, 2006 and 2007,
      approximately 1% and 3% of gross trade accounts receivable was due from this
      customer respectively. On August 30, 2007, the Company’s agreement with this
      customer terminated in accordance with its terms. The Company is undertaking
      to
      negotiate with this customer regarding the foregoing and believes the
      termination of business relationship has no material impact on the Company’s
      results of operations and financial condition.





**(b)**
            **Credit
                Risk**





Financial
      instruments that potentially subject the Company to significant concentration
      of
      credit risk consist primarily of cash and cash equivalents and pledged deposits.
      As of September 30, 2006 and 2007, substantially all of the Company’s cash and
      cash equivalents and pledged deposits were held by major financial institutions
      located in the PRC, which management believes are of high credit
      quality.





**23**
            **Segment
                Information**





The
      Company currently engages in the manufacture, commercialization and distribution
      of a wide variety of standard and customized lithium ion rechargeable batteries
      for use in a wide array of applications. The Company manufactures six types
      of
      Li-ion rechargeable batteries: steel-case cell, aluminium-case cell, battery
      pack, cylindrical cell, polymer cell and high-power lithium-phosphate cell.
      The
      Company's products are sold to packing plants operated by third parties
      primarily for use in mobile phones and other electronic devices. Net revenues
      for the years ended September 30, 2005, 2006 and 2007 were as
      follows:





*Net
      revenues by product:*





*2005*
            
            *2006*
            
            *2007*%
            
            
            
            %
            
            
            
            %Steel-case
                Cell
            
            $
            56,964,711
            
            
            55.89
            
            $
            64,299,407
            
            
            44.71
            
            $
            34,868,786
            
            
            23.91Aluminium-case
                cell
            
            
            23,721,464
            
            
            23.27
            
            
            49,514,304
            
            
            34.43
            
            
            69,916,244
            
            
            47.93High-power
                lithium-phosphate
                cell
            
            
            -
            
            
            -
            
            
            18,537,334
            
            
            12.89
            
            
            20,561,865
            
            
            14.10Battery
                pack
            
            
            20,168,147
            
            
            19.79
            
            
            9,842,539
            
            
            6.84
            
            
            11,797,560
            
            
            8.09Cylindrical
                cell
            
            
            1,050,900
            
            
            1.03
            
            
            607,608
            
            
            0.42
            
            
            3,421,901
            
            
            2.34Polymer
                cell
            
            
            16,361
            
            
            0.02
            
            
            1,027,824
            
            
            0.71
            
            
            5,294,543
            
            
            3.63$
            101,921,583
            
            
            100.00
            
            $
            143,829,016
            
            
            100.00
            
            $
            145,860,899
            
            
            100.00




F-39




**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




**23**
            **Segment
                Information (continued)**





*Net
      revenues by geographic area:*





*2005*
            
            *2006*
            
            *2007*%
            
            
            
            %
            
            
            
            %PRC
                Mainland
            
            $
            72,352,373
            
            
            70.99
            
            $
            96,669,615
            
            
            67.21
            
            $
            105,567,176
            
            
            72.38United
                States of America
            
            
            -
            
            
            -
            
            
            18,641,035
            
            
            12.96
            
            
            20,740,356
            
            
            14.22Hong
                Kong, China
            
            
            17,534,684
            
            
            17.20
            
            
            17,220,619
            
            
            11.98
            
            
            6,417,931
            
            
            4.40The
                Republic of Turkey
            
            
            7,650,144
            
            
            7.51
            
            
            4,622,618
            
            
            3.21
            
            
            -
            
            
            -Others
            
            
            4,384,382
            
            
            4.30
            
            
            6,675,129
            
            
            4.64
            
            
            13,135,436
            
            
            9.00$
            101,921,583
            
            
            100.00
            
            $
            143,829,016
            
            
            100.00
            
            $
            145,860,899
            
            
            100.00





Substantially
      all of the Company’s long-lived assets are located in the PRC.





**24**
            **China
                BAK Battery, Inc. (Parent
                Company)**





Under
      PRC
      regulations, Shenzhen BAK, BAK Electronics and BAK Tianjin may pay dividends
      only out of their accumulated profits, if any, determined in accordance with
      PRC
      GAAP. In addition, Shenzhen BAK, BAK Electronics and BAK Tianjin are required
      to
      set aside at least 10% of their after-tax net profits each year, if any, to
      fund
      the statutory general reserve until the balance of the reserves reaches 50%
      of
      their registered capital. The statutory general reserves are not distributable
      in the form of cash dividends to the Company and can be used to make up
      cumulative prior year losses, if any, and may be converted into share capital
      by
      the issue of new shares to shareholders in proportion to their existing
      shareholdings, or by increasing the par value of the shares currently held
      by
      them, provided that the reserve balance after such issue is not less than 25%
      of
      the registered capital. As of September 30, 2007, additional transfers of
      US$88,309,292 are required before the statutory general reserve reached 50%
      of
      the registered capital of Shenzhen BAK, BAK Electronics and BAK Tianjin. As
      of
      September 30, 2007, US$6,426,977 has been appropriated from retained earnings
      and set aside for statutory general reserves by Shenzhen BAK, BAK Electronics
      and BAK Tianjin.





As
      of
      September 30, 2007, the amount of restricted net assets of Shenzhen BAK, BAK
      Electronics and BAK Tianjin, which may not be transferred to the Company in
      the
      forms of loans, advances or cash dividends by the subsidiaries without the
      consent of a third party, was approximately 5% of the Company’s consolidated net
      assets as discussed above. In addition, the current foreign exchange control
      policies applicable in PRC also restrict the transfer of assets on dividends
      outside the PRC.





F-40




**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




The
      following presents unconsolidated financial information of the parent company
      only:




**Condensed
      Balance Sheet as of September 30, 2006 and 2007**




*2006*
            **
            *2007*Cash
                and cash equivalents
            
            $
            19,889
            
            $
            19,114Investments
                in subsidiaries
            
            $
            116,595,727
            
            $
            131,589,986Total
                assets
            
            $
            116,615,616
            
            $
            131,609,100Other
                current liabilities
            
            $
            2,987,587
            
            $
            4,877,188Total
                liabilities
            
            $
            2,987,587
            
            $
            4,877,188Total
                shareholders’ equity
            
            $
            113,628,029
            
            $
            126,731,912Total
                liabilities andshareholders’
                equity
            
            $
            116,615,616
            
            $
            131,609,100




**Condensed
      Statements of Income for the years ended September 30, 2005, 2006 and
      2007**





*2005*
            **
            *2006*
            **
            *2007*General
                and administrative expenses
            
            $
            (31,374
            )
            $
            (3,063,704
            )
            $
            (1,970,123
            )Investment
                income
            
            
            13,527,922
            
            
            23,228,270
            
            
            2,453,451Income
                before income taxes
            
            
            13,496,548
            
            
            20,164,566
            
            
            483,328Income
                taxes
            
            
            -
            
            
            -
            
            
            -Net
                income
            
            $
            13,496,548
            
            $
            20,164,566
            
            $
            483,328




**Condensed
      Statements of Cash Flows for the years ended September 30, 2005, 2006 and
      2007**





*2005*
            **
            *2006*
            **
            *2007***Cash
                flow from operating activities**Net
                income
            
            $
            13,496,548
            
            $
            20,164,566
            
            $
            483,328Adjustment
                to reconcile net incometo
                net cash (used in) / provided by operating activities:Share-based
                compensation
            
            
            -
            
            
            131,320
            
            
            79,747Investment
                income
            
            
            (13,527,922
            )
            
            (23,228,270
            )
            
            (2,453,451
            )Changes
                in operating assets and liabilities:Other
                liabilities
            
            
            (35,605
            )
            
            2,952,273
            
            
            1,889,601Net
                cash (used in) / provided by operating activities
            
            
            (66,979
            )
            
            19,889
            
            
            (775
            )




F-41





**China
      BAK Battery, Inc. and subsidiaries**


**Notes
      to the consolidated financial statements**


**As
      of September 30, 2005, 2006 and 2007 (continued)**




**Cash
                flow from investing activities**Capital
                contribution to awholly
                owned subsidiary
            
            
            (55,312,177
            )
            
            -
            
            
            -Net
                cash used in investing activities
            
            
            (55,312,177
            )
            
            -
            
            
            -**Cash
                flow from financing activities**Proceeds
                from issuance of capital stock, net
            
            
            55,379,156
            
            
            -
            
            
            -Net
                cash provided by financing activities
            
            
            55,379,156
            
            
            -
            
            
            -**Net
                increase / (decrease) in cash and****cash
                equivalents**
            
            
            **-**
            
            
            **19,889**
            
            
            **(775**
            **)****Cash
                and cash equivalents****at
                the beginning of year**
            
            
            -
            
            
            -
            
            
            19,889**Cash
                and cash equivalents****at
                the end of year**
            
            $
            -
            
            $
            19,889
            
            $
            19,114





The
      details of the Company’s investment in subsidiaries and the net proceeds from
      issuance of its capital stock are fully described in the consolidated statements
      of shareholders’ equity, Note 1 and Note 14 to the consolidated financial
      statements.





**25**
            **Subsequent
                Events**





(i)
            On
                October 9, 2007, Shenzhen BAK obtained the Approval Certificate of
                Overseas Investments of Chinese Enterprises to invest in a wholly
                owned
                subsidiary in Germany, BAK Europe GmbH, with registered capital of
                US$275,300.





(ii)
            On
                November 5, 2007, the Company entered into a securities purchase
                agreement
                (the “Securities Purchase Agreement”) with certain accredited investors
                (collectively, the “Investors”). Under the Securities Purchase Agreement,
                the Company agreed to issue and sell to the Investors 3,500,000 shares
                of
                the Company’s common stock (the “Shares”) at a price per share of US$3.90,
                which represents approximately 6.6% of the issued and outstanding
                capital
                stock of the Company as of and immediately after consummation of
                the
                transactions contemplated by the Securities Purchase Agreement, for
                an
                aggregate purchase price of US$13.7
                million.





The
      Private Placement closed on November 9, 2007. All of the 3,500,000 shares were
      sold. Roth Capital Partners, LLC ("Roth") acted as the Company's placement
      agent
      in connection with the Private Placement. As compensation for its services,
      Roth
      received a cash fee equal to US$819,000, representing 6% of the gross proceeds
      received from the sale of the shares.




(iii)
            As
                disclosed in Note 1, on October 22, 2007, the Company entered into
                the
                Settlement Agreement with Mr. Xiangqian Li, the Company’s Chief Executive
                Officer, and BAK International. Pursuant to the Settlement Agreement,
                Mr.
                Xiangqian Li agreed to deliver the 1,089,775 shares related to the
                2005
                performance threshold to BAK International; BAK International in
                turn
                agreed to deliver the shares to the Company. Upon receipt of these
                shares,
                the Company agreed to release all claims and causes of action against
                Mr.
                Xiangqian Li and certain other persons regarding the shares. On October
                25, 2007, the 1,089,775 shares were delivered to the Company, and
                such
                shares are now held as treasury shares. Under the terms of the Settlement
                Agreement, the Company is obligated to commence negotiations with
                the
                investors who participated in the Company’s January 2005 private placement
                in order to achieve a complete settlement of BAK International’s
                obligations (and the Company’s obligations to the extent it has any) under
                the applicable agreements with such
                investors.








F-42


**SIGNATURES**
 
 Pursuant
        to the requirements of Section 13 or 15(d) 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, in Shenzhen, People’s Republic of
        China, on December 18, 2007.
  **CHINA
                  BAK BATTERY, INC.**By:
              /s/
                  Xiangqian Li**Xiangqian
                  Li****Director,
                  Chairman of the Board,**
                **President
                  and Chief Executive
                  Officer**
 
 Pursuant
        to the requirements of the Securities Exchange Act of 1934, this report has
        been
        signed below by the following persons on behalf of the registrant and in
        the
        capacities indicated on December 18, 2007.
 
 **Signature**
              
              **Title**/s/
                  Xiangqian Li**Name:
                  Xiangqian Li**
              
              Director,
                  Chairman of the Board, President and Chief Executive
                  Officer(Principal
                  Executive Officer)/s/
                  Tony Shen**Name:
                  Tony Shen**
              
              Chief
                  Financial Officer, Secretary and Treasurer(Principal
                  Financial Officer and Principal Accounting Officer)/s/
                  Huanyu Mao**Name:
                  Huanyu Mao**
              
              Director,
                  Chief Operating Officer and Chief Technical
                  Officer**Name:
                  Charlene Spoede Budd**
              
              Director/s/
                  Chunzhi Zhang**Name:
                  Chunzhi Zhang**
              
              Director/s/
                  Richard B. Goodner**Name:
                  Richard B. Goodner**
              
              Director