SECURITIES
AND EXCHANGE COMMISSION
 Washington,
D.C.  20549
  FORM
10-K/A
 (Amendment
No. 1)
 x
                ANNUAL
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934
  For
the fiscal year ended: December 31, 2008
  o
                TRANSITION
      REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934
  For the
transition period from __________ to ____________
  Commission
File Number: 000-28481
  CHINA
VALVES TECHNOLOGY, INC.
 (Exact
name of registrant as specified in its charter)
  Nevada
                      86-0891931(State
      or other jurisdiction of incorporation
                        or
      organization)
                      (I.R.S.  Employer Identification
  Number)
 No.
      93 West Xinsong Road, Kaifeng City, Henan Province
                People’s
      Republic of China(Address
      of principal executive office and zip
code)
  (86)
      378-2925211(Registrant’s
      telephone number, including area code)(Former
      name, former address and former fiscal year, if changed since last
      report)
  Securities
      registered pursuant to Section 12(b) of the Act: None
                
                Securities
      registered pursuant to Section 12(g) of the Act: Common Stock, par
      value $0.001
  Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act. Yes  o No  x
 
 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 No  x
 
 Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes  x No  o
 
 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, a non-accelerated filer or a smaller reporting company. See
the definitions of “large accelerated filer”, "accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act. (Check
one):
  Large
      accelerated filer o
              Accelerated
      filer oNon-accelerated
      filer   o(Do not check if a smaller reporting company)
              Smaller
      reporting company x
  Indicate
by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). Yes  o No  x
  The
issuer’s revenues for its most recent fiscal year ended December 31, 2008, were
$65.9 million.
 
 As of
June 30, 2008, the aggregate market value of shares of the issuer’s common stock
held by non-affiliates (based upon the average bid and asked price of $3.50 of
such shares on such date as reported on the Over-the-Counter Bulletin Board) was
approximately $55.32 million. Shares of the issuer’s common stock held by each
executive officer and director and by each person who owns 10 percent or more of
the outstanding common stock have been excluded in that such persons may be
deemed to be affiliates of the issuer. This determination of affiliate status is
not necessarily a conclusive determination for other purposes.
 
 There
were 62,385,103 shares of common stock outstanding as of March 13,
2009.
 
 DOCUMENTS
INCORPORATED BY REFERENCE:
  None
 EXPLANATORY
NOTE
 China
Valves Technology, Inc. (the “Company”) is filing this Amendment No. 1 on Form
10-K/A to correct the date of the report of its independent registered public
accounting firm on the Company's December 31, 2008 consolidated financial
statements included in Item 8 of Part II of its Annual Report on Form 10-K for
the year ended December 31, 2008, as filed with the Securities and Exchange
Commission on March 19, 2009 (the “Original Filing”). No other revisions or
amendments have been made to Part II, Item 8 or to any other portion of the
Original Filing. This Amendment No. 1 does not otherwise update information in
the Original Filing to reflect facts or events occurring subsequent to the date
of the Original Filing. Currently-dated certifications from the Company’s Chief
Executive Officer and Chief Financial Officer have been included as exhibits to
this Amendment No. 1.
 Table of Content
 
  CHINA
VALVES TECHNOLOGY, INC.
  FORM
10-K
  For
the Fiscal Year Ended December 31, 2008
  TABLE OF CONTENTS
   Number
                  
                  PagePART
      IItem
      1.
                  Business
                  5Item
      1A.
                  Risk
      Factors
                  18Item
      2.
                  Properties
                  28Item
      3.
                  Legal
      Proceedings
                  29Item
      4.
                  Submission of Matters to a Vote of Security
      Holders
                  29PART
      IIItem
      5.
                  Market for Registrant’s Common Equity, Related Stockholder
      Matters and Issuer Purchases of Equity Securities
                  29Item
      6.
                  Selected Financial
      Data
                  30Item
      7.
                  Management’s Discussion and Analysis of Financial Condition and
      Results of Operations
                  30Item
      7A.
                  Quantitative and Qualitative Disclosures about Market
      Risk
                  47Item
      8.
                  Financial Statements and Supplementary
      Data
                  47Item
      9
                  Changes in and Disagreements with Accountants on Accounting and
      Financial Disclosure
                  47Item
      9A
                  Controls and procedures
                  48Item
      9B
                  Other
      Information
                  50PART
      IIIItem
      10.
                  Directors, Executive Officers and Corporate
      Governance
                  50Item
      11.
                  Executive
      Compensation
                  53Item
      12.
                  Security Ownership of Certain Beneficial Owners and Management
      and Related Stockholder Matters
                  55Item
      13
                  Certain Relationships and Related Transactions, and Director
      Independence
                  56Item
      14.
                  Principal Accountant Fees and
      Services
                  57PART
      IVItem
      15.
                  Exhibits and Financial Statement
      Schedules
                  58
 
 
 
 -3-
 Table of Content
  INTRODUCTORY
NOTE
 
 Use
of Terms
  In this
report, unless indicated otherwise, references to
 
 ·
              “China
      Valves,” the “Company,” “we,” “us” and “our” are references to the
      combined business of China Valves Technology, Inc. and its subsidiaries,
      China Fluid Equipment Holdings Limited and Henan Tonghai Fluid Equipment
      Co., Ltd.;
 ·
              “China
      Valve Samoa” are references to “China Valve Holdings Limited” incorporated
      in Samoa;
 ·
              “China
      Valve Hong Kong” are references to “China Valve Holdings Limited”
      incorporated in Hong Kong;
 ·
              “China
      Fluid Equipment” are references to “China Fluid Equipment Holdings
      Limited” incorporated in Hong Kong;
 ·
              “Henan
      Tonghai Fluid” are references to Henan Tonghai Fluid Equipment Co.,
      Ltd.;
 ·
              “Henan
      Tonghai Valve” are references to Henan Tonghai Valve Technology Co.,
      Ltd.;
 ·
              “Zhengdie
      Valve” are references to Zhengzhou City Zhengdie Valve Co.,
      Ltd.;
 ·
              “High
      Pressure Valve” are references to Henan Kaifeng High Pressure Valve Co.,
      Ltd.;
 ·
              “Operating
      Subsidiaries” are references to Zhengdie Valve and High Pressure
      Valve;·
              “The
      Casting Company” are references to Kaifeng High Pressure Valve Steel
      Casting Limited Liabilities Company
 ·
              “China
      ” and “PRC” are references to the People’s Republic of
      China;
 ·
              “RMB”
      are references to Renminbi, the legal currency of
  China;
 ·
              “HKD”
      are references to the Hong Kong
Dollar;
 ·
              “$”
      are references to the legal currency of the United
  States.
  Forward-Looking
Statements
   This report contains information
that may constitute "forward-looking statements." Generally, the words
"believe," "expect," "intend," "estimate," "anticipate," "project," "will" and
similar expressions identify forward-looking statements, which generally are not
historical in nature. All statements that address operating performance, events
or developments that we expect or anticipate will occur in the future—including
statements relating to volume growth, share of sales and earnings per share
growth, and statements expressing general views about future operating
results—are forward-looking statements. Management believes that these
forward-looking statements are reasonable as and when made. However, caution
should be taken not to place undue reliance on any such forward-looking
statements because such statements speak only as of the date when made. We
undertake no obligation to publicly update or revise any forward-looking
statements, whether as a result of new information, future events or otherwise,
except as required by law. In addition, forward-looking statements are subject
to certain risks and uncertainties that could cause actual results to differ
materially from our historical experience and our present expectations or
projections. These risks and uncertainties include, but are not limited to,
those described in Part I, "Item 1A. Risk Factors" and elsewhere in
this report and those described from time to time in our future reports filed
with the Securities and Exchange Commission.
    -4-
 Table of Content
  PART
I
 
 Item 1.  Business
  Overview
  China
Valves Technology, Inc. is a Nevada holding company which conducts its
operations through China-based operating subsidiaries.  We are
primarily engaged in the business of developing, manufacturing and selling
high-quality metal valves.  We manufacture and sell over 700 models of
low, medium and high-pressure valves according to differing standards and
specifications, in a variety of diameters ranging from 3mm to 1,300mm and with
pressure caps that range from 150lbs to 4,500lbs.  Our mix of valve
products can be used in temperatures ranging from -196 degrees Celsius to 610
degrees Celsius.  We sell our products to customers in the
electricity, petroleum, chemical, water, gas and metal industries throughout
China.
 
 Our sales
revenue and net income (loss) were $65,947,615 and $(4,236,845), respectively,
during the year ended December 31, 2008, and $37,036,282 and $7,142,592,
respectively, during the same period in 2007.  Our net loss for the
year ended December 31, 2008 includes a non-cash charge for stock compensation
expense of $14,998,974.
 
 Our
operations are headquartered in Kaifeng, Henan Province, PRC.  Our two
Chinese operating subsidiaries are Zhengdie Valve and High Pressure
Valve.
 
 Our
Organizational Structure
 
 The
following chart reflects our organizational structure for our active
subsidiaries as of the date of this Annual Report.
   
     Our
Corporate History
 
 We were
originally incorporated on August 1, 1997 in the State of Nevada.  Our
name has changed several times over the years and on December 18, 2007, we
amended our articles of incorporation to change our name to China Valves
Technology, Inc.  We had no active business operations from 2001 until
December 18, 2007, when we completed a share exchange transaction with China
Valve Samoa, a company incorporated under the laws of Samoa, and its sole
shareholder Mr. Siping Fang.
   -5-
 Table of Content
  
 At the
time of the share exchange transaction, China Valve Samoa was the holding
company which indirectly owned both of our Operating Subsidiaries. Shortly after
the share exchange transaction, several of our major stockholders and several of
our subsidiaries undertook a series of transactions in which the overall
corporate organization and ownership of our Operating Subsidiaries and their
parent holding companies was restructured as set forth in the chart
above.  The restructuring was effectuated in order to facilitate an
equity financing of our company and was required to be implemented as a result
of applicable Chinese law.  Additional information about the
restructuring can be found in the section entitled “Our Corporate Restructuring”
which follows below.
 
 In the
share exchange transaction, we acquired all of the outstanding capital stock of
China Valve Samoa from its sole shareholder in exchange for 40,000,000 shares,
or 99.8%, of our common stock and a cash payment by China Valve Samoa of
$490,000.
 
 Our
acquisition of China Valves Samoa was accounted for as a reverse acquisition and
recapitalization of our Company in which China Valve Samoa was deemed to be the
accounting acquirer.   Accordingly, the historical financial
statements for periods prior to December 18, 2007 are the financial statements
of China Valve Samoa, including Zhengdie Valve and High Pressure Valve, except
that the equity section and earnings per share data have been retroactively
adjusted to reflect the reverse acquisition.
 
 Organization
of China Valve Samoa
 
 As part
of the original acquisition of Zhengdie Valve and High Pressure Valve (the
Operating Subsidiaries), China Valve Samoa’s wholly owned subsidiary, China
Valve Hong Kong, which was incorporated on June 11, 2007, established Henan
Tonghai Valve, a wholly-owned subsidiary, in the People’s Republic of China, on
September 5, 2007.  Neither China Valve Samoa nor China Valve Hong Kong had
any active business operations other than their ownership of Henan Tonghai
Valve.  Henan Tonghai Valve acquired 100% of the equity of the
Operating Subsidiaries from Mr. Siping Fang, the Chief Executive Officer of the
Company, and the other individual owners of those companies.  The
owners of the Operating Subsidiaries and of China Valve Samoa, and their
respective interests, before and after this reorganization were as
follows:
  Before
      re-organization:
                                                              
                                                              High
      Pressure Valve
                                                              
                                                              Zhengdie
      ValveSiping
      Fang
                                                              
                                                              67%
                                                              
                                                              84%Xiuying
      Wei
                                                              
                                                              33%Binjie
      Fang
                                                              
                                                              
                                                              
                                                              16%100%
                                                              
                                                              100%After
      re-organization:
                                                              
                                                              China
      Valve SamoaSiping
      Fang
                                                              
                                                              100%Xiuying
      Wei
                                                              
                                                              -Binjie
      Fang
                                                              
                                                              -100%
 
 Ms.
Xiuying Wei is the spouse of Mr. Siping Fang and Mr. Binjie Fang is the son of
Mr. Siping Fang.  As part of the re-organization, the parties agreed
that ownership of China Valves Samoa would be held by Mr. Siping
Fang.  Mr. Siping Fang controlled the operating subsidiaries both
before and after the re-organization.  The family members are
considered to be part of the same control group and the transfer of the
interests of Mr. Siping Fang’s spouse and son was a matter of convenience, for
which no consideration was exchanged.  Accordingly, the acquisition of
the Operating Subsidiaries by Henan Tonghai Valve was considered to be a
transaction between entities under common control.
  Our
Corporate Restructuring
  Following
our acquisition of China Valves Samoa (and indirectly, the Operating
Subsidiaries) and in anticipation of our August 2008 private placement
transaction, we developed a group reorganization plan to ensure that the manner
in which we acquired our Operating Subsidiaries complied with PRC merger and
acquisition (“M&A”) related regulations.  The group reorganization
plan involved modifying our acquisition of our Operating Subsidiaries previously
acquired as a result of our acquisition of China Valves Samoa and the concurrent
re-acquisition of the Operating Subsidiaries through newly established entities
incorporated by Bin Li (a Canadian citizen then unaffiliated with the Company,
but who is the cousin of our Chairman Siping Fang) which entities were then
transferred to the Company.
   -6-
 Table of Content
   These
M&A regulations were promulgated on August 8, 2006 by six Chinese regulatory
agencies (including the PRC Ministry of Commerce (“MOFCOM”) and the China
Securities Regulatory Commission (“CSRC”).  The jointly issued M&A
regulations, known as Circular 10, were captioned “Regulations on Mergers and
Acquisitions of Domestic Enterprises by Foreign Investors” and they became
effective on September 8, 2006.  Under Circular 10, an offshore
special purpose vehicle (“SPV”) formed for purposes of overseas listing of
equity interests in China-based companies and controlled directly or indirectly
by Chinese companies or individuals must obtain the approval of the CSRC prior
to the listing of such SPV’s securities on an overseas stock
exchange.  Circular 10 also requires approval from MOFCOM for
“round-trip” investment transactions in which a China-based company or a PRC
resident, or Acquirer, using an offshore entity controlled by the Acquirer,
acquires any PRC local company that is an affiliate of the
Acquirer.  The group reorganization plan described below was designed
in consultation with our PRC legal advisors to ensure that the acquisition of
the Operating Subsidiaries was completed in a manner that did not need us to
obtain CSRC or MOFCOM approvals.
  Pursuant
to a group reorganization plan, on April 1 and 3, 2008, the Company transferred
100% of the equity of the Operating Subsidiaries back to Mr. Fang and the other
original owners, with the intention that Mr. Fang would thereafter transfer the
Operating Subsidiaries to a new entity incorporated by Mr. Bin Li, and that Mr.
Li would then sell such entity to the Company for nominal consideration, thereby
allowing the Company to reacquire legal ownership of the Operating Subsidiaries,
in a manner that did not need us to obtain CSRC or MOFCOM
approvals.
  On April
10, 2008, Mr. Fang sold 24,300,000 shares of the Company’s common stock
beneficially owned by him (the "Shares") and which he had received in the
exchange transaction involving China Valves Samoa described above, to Mr. Li for
HKD $10,000.  In connection with his acquisition of the shares, Mr. Li
issued to Mr. Fang a HKD $10,000 note.  The note, which does not bear
interest, is due sixty days after a written demand for payment is made by Mr.
Fang to Mr. Li, provided that such demand is made on or after October 15,
2008.  The sale represented a change of control of the Company and the
Shares acquired by Mr. Li represented approximately 60.75% of the then issued
and outstanding capital stock of the Company calculated on a fully-diluted
basis.  Prior to the transaction, Mr. Li was not affiliated with the
Company.  Following the acquisition, Mr. Li is deemed an affiliate of
the Company as a result of his stock ownership interest in the
Company.  In connection with Mr. Li’s acquisition of the Shares from
Mr. Fang, Mr. Fang and Mr. Li entered into an Earn-In Agreement (the
“Earn-In Agreement”), pursuant to which Mr. Fang obtained the right and option
to re-acquire the Shares from Mr. Li, subject to the satisfaction of four
conditions, as follows,  (A) 12,150,000 of the Shares, upon the later
occurrence of either (i) the date that is six months after April 10, 2008 or
(ii) the date upon which Mr. Fang and Henan Tonghai Valve enter into a
binding employment agreement for a term of not less than five years for Mr. Fang
to serve as Henan Tonghai Valve’s chief executive officer and chairman of its
board of directors; (B) 4,050,000 of the Shares upon the declaration of
effectiveness of a registration statement filed by the Company under the
Securities Act of 1933, as amended; (C) 4,050,000 of the Shares when Henan
Tonghai Valve and its subsidiaries achieve after-tax net income of not less
than $3,000,000, as determined under United States Generally Accepted Accounting
Principles (“GAAP”) consistently applied for the six-month period ended June 30,
2008; and (D) 4,050,000 of the Shares when Henan Tonghai Valve achieves not
less than $7,232,500 in pre tax profits, as determined under GAAP for the fiscal
year ended December 31, 2008.  These conditions would be able to be
satisfied only if the Company reacquired and operates the Operating
Subsidiaries.   The purpose of the Earn-In Agreement is to ensure that
the manner in which Mr. Fang obtains his ownership interest in the Company
complies with PRC regulations.  At the time of the Agreement, it was
fully expected that the conditions under which the shares would be returned to
Mr. Fang would be able to be met.  At the time of this Annual Report,
conditions (C) and (D) have been satisfied.  Although there is no
assurance that condition (B) can be met, the Company has previously filed the
required registration statement and five subsequent amendments and has responded
to comments from the Staff of the Securities and Exchange
Commission.  The Company will file a further amendment to the
registration statement to include the audited consolidated financial statements
for the year ended December 31, 2008 and, subject to further comments from the
SEC Staff, anticipates that the registration statement will become effective
shortly thereafter.  When all the conditions have been satisfied, Mr.
Fang will be able to regain ownership of all the shares in the Company that he
originally acquired when he transferred to the Company his interest in the
Operating Subsidiaries, subject to their release from the Escrow Agreement
described below.  The Earn-In Agreement will simply enable Mr. Fang to
regain ownership of the Company’s shares originally transferred by him to Mr. Li
as part of the reorganization arrangements and, accordingly, the Company does
not believe his re-acquisition of those shares from Mr. Li represents
compensation cost to the Company, as the Company had previously issued those
shares to him in exchange for his interest in the Operating
Subsidiaries.
   -7-
 Table of Content
  
 In
connection with the Company’s private placement on August 26, 2008, the Company
entered into a make good escrow agreement, under which the 25,166,064 shares of
the Company’s common stock held by Bin Li, the Company’s major shareholder, were
placed in escrow. Of these shares, 24,300,000 are the subject of the Earn-In
Agreement between Bin Li and Siping Fang as described above and Bin Li entered
into the Make Good Escrow Agreement on behalf of Siping Fang. For each of the
calendar years 2008, 2009 and 2010, 8,388,688 shares will be released to the
investors or returned to Bin Li, depending on the fulfilment of specified
earnings targets. The specified earnings target for calendar 2008 is net income
of $10,500,000, for calendar 2009 the target is net income of $23,000,000 and
fully diluted earnings per share of $0.369 and for calendar 2010 the target is
net income of $31,000,000 and fully diluted earnings per share of $0.497. In the
event that shares are required to be released from escrow to the Investors, such
shares will be recorded as a contribution to capital and a simultaneous issuance
of common shares to the Investors. The return to Bin Li of any of the 24,300,000
shares placed in escrow by him on behalf of Siping Fang is considered to be a
separate compensatory arrangement because Siping Fang is an officer and director
of the Company. Accordingly, if any of the required earnings targets are met and
shares are returned to Bin Li, the Company will recognize a non-cash
compensation cost at that time equal to the then fair value of the shares
returned (up to a total of 24,300,000 shares). For the year ended December 31,
2008, the earnings target for 2008 of net income of $10,500,000 (before any
charges related to the release of any shares from escrow) was met. Accordingly,
the Company has recorded a non-cash charge to compensation cost of $14,998,974
in the fourth quarter of 2008 related to the release from escrow to Bin Li of
8,388,688 shares.
  Pursuant
to the group reorganization plan, Mr. Li established China Fluid Equipment on
April 18, 2008, to serve as the 100% owner of a new PRC subsidiary, Henan
Tonghai Fluid. On June 30, 2008, Henan Tonghai Fluid acquired the Operating
Subsidiaries from Mr. Fang and the other original owners.  The acquisitions
were consummated under the laws of the PRC.  The former Hong
Kong holding company, China Valve Hong Kong and its subsidiary Henan
Tonghai Valve, which no longer held any assets, are dissolved.
  On July
31, 2008, the Company and Mr. Li completed the reorganization plan when Mr. Li
transferred all of the capital stock of China Fluid Equipment to the Company
pursuant to an Instrument of Transfer for a nominal consideration of HKD$10,000
(approximately $1,281).  As a result of these transactions, the
Operating Subsidiaries are again the Company’s indirect wholly-owned
subsidiaries.
  As part
of these reorganization transactions, no significant amounts were paid to or
received from Mr. Fang or Mr. Li. Mr. Li was not at risk during these
transactions and no new capital was introduced. As a result, no new basis in the
net assets of the Operating Subsidiaries was established. During this
reorganization, Mr. Fang continued to serve as Chairman and Chief Executive of
the Company and, together with other management of the Company, continued to
direct both the day-to-day operating and management of the Operating
Subsidiaries, as well as their strategic direction. Because of this operating
and management control and because the reorganization plan effectively resulted
in the Company continuing to bear the residual risks and rewards related to the
Operating Subsidiaries, the Company continued to consolidate the Operating
Subsidiaries during the reorganization.
 
 On
December 30, 2008, we established Tai Zhou Tai De Valve Co.,Ltd, a new Chinese
subsidiary of China Fluid Equipment and a wholly-owned foreign enterprise.
Taizhou Taide does not have any active operations.
 
 Our
Industry
  The valve
industry in China is large and growing as a result of growth in urbanization and
heavy industrialization throughout all of China.   Our industry is
usually categorized into the following five major segments depending on the end
user of the particular valve products: (i) oil; (ii) power; (iii) water supply;
(iv) petrochemical; and (v) metallurgy. The oil segment and the power segment
rank as the largest segments accounting for 25% and 21%, respectively, followed
by the water supply, petrochemical and metallurgy segments with 14%, 12%, and 8%
market share, respectively. Miscellaneous and varied end users of valve products
account for the remaining 20% market share.
   -8-
 Table of Content
 
 Sales of
valve products in the Chinese domestic market reached $7.08 billion in 2007, an
increase of 32% from the previous year, and the Chinese market is expected to
increase at an annual rate of more than 30% for the next 5 years according to
the China Valve Industry Association’s research.  We believe that
total demand for valves will reach $12 billion by 2010 and will be driven
primarily by the energy and water treatment segments with operations and
projects in urban centers.  The stimulus package being implemented by
the Chinese government in response to the global economic crisis is expected to
emphasize basic infrastructure construction projects for water, electricity, gas
and heat in order to ensure continuous economic development and meet the
requirement of improving people’s living standard.  We believe that
these initiatives should generate strong demand for valves and promising
business prospects for the valve industry and our company, especially as China’s
valve market keeps growing and developing. We intend to focus our efforts on
utilizing our tangible and intangible resources to expand and strengthen our
products and increase our market share in response to industry
demands.
 
 As a
supplier to customers in a variety of industries, our performance is largely
dependent upon the overall economic conditions and the growth and performance of
industries and companies operating in those industries which purchase our valve
products.  The following provides a brief overview of the historical
and projected performance and growth of the three largest industries in which
our customers operate.
 
 Our Involvement in the Power
Industry
 
 Thermal power
  The power industry has experienced
rapid growth in recent years in the PRC, aided particularly by economic reforms
by the Chinese government and the opening of the Chinese market to the outside
world. In 2006, total power generating installed capacity achieved 600 million
KW and generated electricity volume of 284 million KWh, both of which were the
highest in the world.  Although overall installed capacity is
relatively sufficient, the thermal power industry is operating in a suboptimal
manner.  Less efficient, small thermal power generating units account for
approximately 70% of total production capacity as compared to above-300 KW units
which account for only 30% of total output.  Compared with technology
used in developed countries, technology used in the PRC is far behind, equipment
is outdated and the majority of thermal power units utilize a sub-critical
pressure design, not the more efficient super-critical pressure units. These
sub-critical pressure units create an additional layer of complexity because
they have high coal consumption, low efficiency and high pollution output, which
lead to environmental and energy-saving problems.
  One of the major initiatives of the
thermal power industry has been to improve and optimize thermal power units, in
which our valves serve as important components.  These
high-temperature, high-pressure and high-parameter thermal power generating
units have high-thermal efficiency, good economic results and low pollution,
which is good for environmental protection and energy saving.  600 MW
thermal power generating units have had the lowest demand in China and there has
been a trend toward 1,000 MW supercritical pressure units and these units are
expected to become more prevalent in the future.  Currently in China,
there are sixteen projects that are under construction or are scheduled to
commence operation in the near future.  These include facilities at
Zhejing Ninghai, Waigaoqiao, Wuhu, Pingdingshan and Shanxi Zhangze, with a total
capacity of 34 million KW from 34 units. High Pressure Valve is the sole company
that would have the capacity to manufacture valves used for ultra-critical
thermal power generating units.  We expect to have an extensive market
share in the super-critical pressure unit market.
  Nuclear
power
  There are about 500 nuclear power
generating units in the world, 11 of which have been built in China with total
installed capacity of 8.7 million KW.  Presently, six nuclear power
generating units having a capacity of over a million KW are planned to be built
at the Sanmen nuclear power station and four nuclear power generating units are
planned at the Tianwan nuclear power station. Based on the Chinese state energy
plan, by 2020 approximately 20 nuclear power generating units are proposed to be
established in Lingdong, Shenzhen, Yangjiang, Taishan, Peiling, Chongqing and
Dalian, with an aggregate capacity of 40 million KW, or 4%-5% of total installed
capacity.
   -9-
 Table of Content
  
 Demand for valves used in the nuclear
power industry is higher than demand in the thermal power industry for power
stations having similar capacity.  A nuclear power station with two
sets of one million KW nuclear power generating units typically requires
approximately 30,000 units of valves. Based on an increase of 2.5 million KW of
nuclear power generating units per year, we estimate that the average annual
demand for valves used in the nuclear power industry will reach 38,000
units.  According to target power generation increases set forth in
the eleventh five-year plan of the Chinese government (2006-2010), we believe
the demand for valves in the nuclear power industry will reach RMB 3 billion by
2010, with an average annual amount of RMB 0.6 billion from 2006 to
2010.  In addition, we believe that the market for repairs of valves
is approximately RMB 150 million per year.  We expect that our company
will be well positioned to capitalize on the growth of the nuclear power
industry.
  Our
Involvement in the Petrochemical and Oil Industries
  During the period of the eleventh
five-year plan (2006-2010), the focus of the large-scale ethane and fertilizer
industry is on developing 80-100 mil-mt/year sizable projects, including
build-out and transformation of existing 40-45 mil-mt/year equipment and
building new large-scale ethane equipment. During this period, the large-scale
ethane equipment of 40-45 mil-mt/year in Daqing, Jilin and Maoming will be
transformed into equipment of 80 mil-mt/year. Additionally, large-scale ethane
equipment projects of 80 mil-mt/year in Tianjin and 100 mil-mt/year in Zhenhai
are expected to be implemented.  It is anticipated that several sets
of new large-scale 80 mil-mt/year ethane equipment projects will be built by
joint investment and joint venture.  We believe that the market for
large-scale ethane key equipments, such as special valves and high-temperature
valves for ethane fission gas, which are currently still imported into the PRC,
will increase within the PRC.  It is anticipated that prior to 2010,
the newly established large-scale gas pipeline would reach a capacity of above
20,000 km and the demand for large caliber high-pressure gas pipeline ball
valves will be approximately 20,000 units. The segment of the Sino-Russian oil
pipeline that is located in China requires 300 units of electromotion DN caliber
pipeline valves.  During the eleventh five-year plan period, crude
high-pressure oil pipelines of 5,000 km are planned to be built, which we
believe will require approximately 3,000 units of high-pressure DN caliber
pipeline valves. Additionally, the PRC is expected to develop the LNG station,
which should generate large demand for various types of low-temperature valves.
The majority of high-standard special valves involved in large-scale gas
projects are from imports. It is necessary for us to strengthen research and
development of high-temperature, high-pressure and grind-resistant valves in
order to meet demands for development of the coal
liquification industry.
 
 Our
Involvement in the Water Industry
 
 American
Watts Water Technologies Group, a leading manufacturer of equipment for water
treatment internationally, anticipates that the total annual demand for valves
in China to be used in the water supply industry will be RMB 10
billion.  We believe that the budgeted amount for valves for the 70 km
segment of the north-south water transfer project in Beijing from suburban
Beijing to downtown Beijing alone is more than RMB10 million.  In
addition, this hydroelectric power supply project will create both near term and
long term demand for valve products. Major infrastructure projects between
western and eastern regions of China, the transformation of the old industry
base, construction of downtown pipe networks in major cities, residential
buildings, and wastewater treatment and water conservancy should also generate
tremendous demand for valves.
 
 Our
Competitive Strengths
 
 ·
              Broad range
      of products and leading brands. We believe that we have the most
      comprehensive range of valve products in our industry and enjoy
      leading market positions based on the estimated market share of our
      key products, broad brand recognition and a strong reputation for quality
      and service within the markets we
serve.
 
 ·
              Low-cost
      and high quality manufacturing
      capabilities.We have daily production capacity for 23 tons of
      high quality valves and 15 tons of high pressure and high
      temperature valves. We believe our historical capital investment in
      manufacturing technologies helps us reduce the costs of producing our
      products. We focus on manufacturing and selling high quality valves
      at competitive prices. We believe we have a price advantage over most of
      our competitors.
   -10-
 Table of Content
  
 ·
              Highly
      experienced and incentivized research and development team.We have
      a R&D department composed of 114 engineers with many years
      of experience. We are committed to developing new products and we
      have in recent months generally launched a new model every two
      months.
 
 ·
              Highly
      experienced, proven management team.We are led by an experienced
      management team with a long and successful track record, enabling us
      to recognize and capitalize upon attractive opportunities in our key
      markets. Our 15 most senior members of the management team have an average
      of over 18 years of experience in the valve industry and have
      substantial experience in acquisition and integration of businesses, cost
      management rationalization and efficient manufacturing processes. The
      management team is led by Siping Fang, our Chairman, President and Chief
      Executive Officer, who has over 20 years of experience in the valve
      industry.
 
 Our
Strategy
 
 Our
objective is to increase profitability, cash flow and revenue while developing
and enhancing our position as the leading valve manufacturer in
China.  Our strategy for achieving these objectives includes the
following key elements:
  Pursue Strategic
Acquisitions.  China’s valve market is very
fragmented.  According to the China Valve Industry Association’s
statistics, there are more than 4,000 valve manufactures in the market, none
with a market share of above 1%. The top 10 valve manufactures in China only
have an aggregate Chinese market share of 8%. We anticipate that the fragmented
nature of the Chinese valve market will continue to provide opportunities for
growth through strategic acquisitions. Our acquisition strategy will continue to
focus on entities with products that provide opportunities for us to expand and
products that can be marketed through our existing distribution channels or
provide us with new distribution channels for our existing products, thereby
increasing marketing and distribution efficiency. Furthermore, we seek
acquisition candidates that demonstrate a combination of good profit margins,
strong cash flow, leading positions in the local markets and products that
generate recurring revenue.  We will use our brand advantage to
consolidate China’s valve market and to increase our market share.
 
 Further Penetrate
Existing Market Segments. We intend to seek to
further penetrate existing market segments to drive sustainable growth by
strengthening our existing customer relationships and attracting new customers.
We intend to further penetrate existing customers by continuing to:
 
 ·
              provide
      quality products;
 ·
              fulfill
      logistical requirements and volume demands efficiently and
      consistently;
 ·
              provide
      comprehensive product support from design to after-market customer
      service;
 ·
              cross-sell
      our brands across various business segments to our customers;
      and
 ·
              leverage
      strong established distribution
channels.
 
 Enter New Market
Segments. To
drive organic growth from our existing businesses, we intend to continue to
leverage our customer relationships to develop or acquire new products and
product extensions to enter into new market segments.  For example, in
2007 we successfully entered into the nuclear power station valves market by
signing agreements with two large nuclear power stations.  In
addition, we intend to increase our market share in the nuclear power market by
increasing our investment in research and development, obtaining production
licenses and establishing a sales team specifically focused on the nuclear power
industry.  In the oil and chemical industry, there has been increased
construction of long-range pipelines for the transmission of oil and
gas.  This increase should result in increased demand for ball valves
and flat valves.  We have completed the design of these valves and
plan to add equipment to our existing facilities to enhance
production.
  High End Product
Focus. We will keep focusing on high end, more sophisticated valve
products, including high-parameter and special usage valves.  The
majority of valve companies in China focus only on low end products at lower
prices. Because of our technology and R&D strength, we will continue
focusing on high end valve products and pursing higher margins than the industry
average.  Additionally, we intend to cooperate with the electricity
power design colleges and solicit support from industry
associations.
  -11-
 Table of Content
   Increase in
International Sales.   We plan to increase our focus on sales
into international markets.  In the short term, we plan to focus on
neighboring developing countries and in the long term, we expect to focus on the
United States and Europe.
  Our
Products
 
 China
Valves produces and sells over 700 models of valves and more than 10,000
standards of valves in categories such as low, medium and high-pressure
valves.  Our valve products come in varying diameters from 3mm to
1300mm, with pressure caps that range from 150lbs to 4,500lbs and are operative
in temperatures ranging from -196 degrees Celsius to 610 degrees Celsius. Our
main product categories consist of:
 
 ·
              High
      pressure and high temperature valves for power station
    units;
 ·
              Valves
      for long distance petroleum
pipelines;
 ·
              Special
      valves for chemical lines;
 ·
              Large
      valves for water supply pipe
networks;
 ·
              Valves
      for sewage; and
 ·
              Valves
      for long distance gas pipelines
 
 Our main
product types are:
 
 ·
              Gate
      valves
 ·
              Globe
      valves
 ·
              Check
      valves
 ·
              Throttle
      valves
 ·
              Butterfly
      valves
 ·
              Ball
      valves
 ·
              Safety
      valves
 ·
              Water
      pressure test valves
 ·
              Vacuum
      valves; and
 ·
              Extraction
      check valves
  Our
Manufacturing Process
 
 Our
manufacturing process is a multi-step involving the following
tasks:
 
 ·
              purchasing
      and depositing of raw materials,
 ·
              raw
      material processing and analysis,
 ·
              production
      of inventory of semi-finished products (or transporting to the next step
      directly)
 ·
              product
      assembly,
 ·
              product
      inspection and testing, and
 ·
              placing
      finished products in inventory.
 
 Our
modern computer aided design (“CAD”) center can assist in the design of all
products.  The Company closely monitors and tests quality of raw
materials, including casting steel blank parts, forging steel blank parts and
steel. The Company uses a high-speed direct reading spectrograph (32
channels) for the analysis of the chemical components of raw
materials.  We have cobalt 60γ flaw detectors, high-power magnetic
particle flaw detectors and ultrasonic flaw detectors, non-destructive equipment
that helps to ensure the internal quality of forging blank parts. We have a
metal material test room for physical and chemical analysis and
mechanical testing of raw materials. In order to ensure production structural
capability, we utilize high-precision equipment, including high-precision
computer numerical control (“CNC”) lathes and advanced welding equipment to
satisfy the requirements of our product designs. We have modern
product-processing workshops mainly with CNC lathes and approximately 20 units
of large-scale high-precision equipment, including 4 m CNC vertical lathes, CNC
horizontal lathes and CNC boring and milling machines. In addition, we have
pressure equipment to conduct pressure testing for finished products in
accordance with appropriate standards.
   -12-
 Table of Content
  We have
set up a comprehensive and reliable quality management system with strict
material manufacturing procedures and standard inspection. In addition, our
company acquired an American Petroleum Institute (“API”) quality certificate in
January of 1994, a Norway Det Norske Veritas   (“DNV”) ISO9001 in May of
1996, an European Union CE in 2004 and a China special equipment manufacturing
certificate in 2005.   The CE marking (also known as a CE mark) is a
mandatory conformity mark on many products sold in the single market in the
European Economic Area (EEA). By affixing the CE marking, the manufacturer or
person placing the product on the market or putting it into service asserts that
the item meets all the essential requirements of the relevant European
Directive(s).
 
 Warranties
  We
typically warranty all of our products and provide replacement or credit to our
customers who are not satisfied with our products for a period of one year from
the date of shipment.  When we receive an indication that a product
did not perform as expected, our quality control specialists and laboratory
personnel test the product to determine if our process was correct for the
specifications submitted by the customer and if the manufacturing process was
completed as planned.  If we failed to produce the product according
to the customer’s specifications or if the manufacturing process was flawed, we
provide immediate credit to the customer.  If we produced the product
to the customer’s specifications and if the manufacturing process was not
flawed, we send a team to the customer’s facilities to see if we can assist the
customer in correcting its process.  Typically a team consists of at
least one engineer, at least one experienced production person and the
customer’s sales representative.  If the product was manufactured to
the proper specifications, our team works with the customer in developing
corrective action to solve its problem.
  We have
not established reserve funds for potential customer claims because,
historically, we have not experienced significant customer complaints about our
products and none of our customers have requested damages for any loss incurred
due to product quality problems. We believe that our customer support teams, our
quality assurance and manufacturing monitoring procedures will continue to keep
claims at a level that does not support a need for a reserve. We review customer
returns on a monthly basis and may establish a reserve as we expand our business
by volume and products. If we were to experience a significant increase in
warranty claims, our financial results could be adversely affected. See “Risk
Factors - Risks Related to Our Business - We do not maintain a reserve for
warranty or defective products claims. Our costs could substantially increase if
we experience a significant number of warranty claims.”
 
 Suppliers
of Our Raw Material
 
 The
primary raw materials that are used in the production of these valves include
carbon steel, stainless steel, low temperature steel and heat resistant steel,
casting blank parts and actuating devices. The prices for such materials
fluctuate depending upon market conditions. However, because we have long-term
suppliers and clients, the influence of price fluctuations is not currently
material to the Company.
 
 We have
established long-term relationships with key suppliers. However, we do not
exclusively rely on our key suppliers. We have adopted a dual supplier system
for raw materials. Therefore, if our primary suppliers cannot supply us with our
raw material for any reason, we are able to acquire raw material from another
supplier. All of our suppliers must meet our quality standards and delivery
requirements consistently in order to remain on our approved supplier list. If
deliveries are delayed repeatedly, we terminate the partnership with such
supplier.
  The
flexible sourcing arrangements are designed to ensure the stable supply of raw
material and promote healthy competition among our suppliers.  We
believe our supplier arrangements encourage our suppliers to provide advanced
technology and high quality products.
   -13-
 Table of Content
   Top
10 Suppliers in 2008
 
 Rank
                          Company
      Name
                          Purchasing
      amount
                            in
      2008 - $
                          Location
                          Material
                          %
      of total purchasing amount1
                          Kaifeng
      High Pressure Valve Steel Casting Limited Liabilities
      Company
                          4,149,284
                          Kaifeng,
      Henan
                          Casting
                          12%2
                          Kaifeng
      Ruifa High and Medium Pressure Valve Company
                          1,137,913
                          Kaifeng,
      Henan
                          Steel
                          3%3
                          Huixian
      Huahe Metal Magnesium Plant
                          618,141
                          Xinxiang
                            Henan
                          Electricity
                            Installation
                          2%4
                          Sichuan
      Jiangyou City Xinchuan Special Steel, Inc.
                          602,139
                          Jiangyou,
                            Sichuan
                          Casting
      Copper
                          2%5
                          Henan
      Hengyuan Industry Co., Ltd.
                          543,049
                          Zhengzhou
                          Electricity
                            Installation
                          2%6
                          Zhengzhou
      City Tiancheng Stainless Steel Co.,Ltd.
                          539,293
                          Zhengzhou
                          Valve
      Accessory
                          2%7
                          Yuzhou
      Huolong Ding Country Light Industry Welfare Casting Plant
                          523,596
                          Yuzhou
                            Henan
                          Electricity
                            Installation
                          2%8
                          Henan
      Xin Tong Trade Co.,Ltd
                          482,158
                          Zhengzhou
                          Welding
      Rod
                          1%9
                          Zhengzhou
      Xingyang Sunshine Electrical Supplies Ltd
                          466,431
                          Zhengzhou
                          Welding
      Rod
                          1%10
                          Zhengzhou
      Prosperity Casting Ltd.
                          464,590
                          Zhengzhou
                          Electricity
                            Installation
                          1%
 
 On August
26, 2008, the Casting Company, our largest supplier, entered into a
Manufacturing and Supply Agreement pursuant to which the Casting Company agreed
to provide High Pressure Valve with molds, casts, dies and other supplies and
equipment for use in the manufacture of High Pressure Valve’s products. The
Casting Company also agreed to use its production capacity to fulfill High
Pressure Valve’s orders before it may take any orders from third parties. The
term of the agreement is five years.  The agreement does not require
High Pressure Valve to purchase any minimum volume or value of
products.  Prices will be determined at the time orders are submitted
to the Casting Company, based on prevailing market prices.
 
 Our
Major Customers
  Our major
customers are large-scale equipment enterprises in electricity, chemical, oil
and water supply industries in China.  Most of our customers are
state-owned entities with good reputations.  The number of our clients
exceeds 400.  We focus on maintaining long-term relationships with our
customers.  We have enjoyed recurring orders from most of our
customers for periods of 5 to 30 years.  Our typical contract has a
one-year term and is usually renewable. As we continue to build sales in the
domestic market, we also plan to grow by developing sales
overseas.
  The
following table shows the revenues generated and percentage of total revenues
received from our ten largest customers during the years ended December 31,
2008.




-14-
 Table of Content






Top
      10 Clients in 2008Rank
                  Clients
      Name
                  Sales
      in 2008 - $
                  %
      of Total Sales
                    in
      20081
                  Flowsever
      Special Valve (Suzhou) Co., Ltd.
                  2,038,859
                  3%2
                  The
      First Construction Co., Ltd. of China National Petroleum Guangxi project
      department
                  1,726,686
                  3%3
                  Kunshan
      City Water Group Co., Ltd.
                  1,722,403
                  3%4
                  Germany
      CTV Inc.
                  1,653,245
                  2%5
                  Shanghai
      Water Pipeline Engineering Co., Ltd.
                  1,435,721
                  2%6
                  Sichuan
      Dongfang Electric Group Iran Department
                  1,292,530
                  2%7
                  Er
      ji (Luoyang) Petroleum Equipment Co., Ltd.
                  1,192,604
                  2%8
                  Nanjing
      Huashui Water Disposal Equipment Ltd
                  1,189,861
                  2%9
                  Shanghai
      Electric Power Equipment Co., Ltd. (Shanghai gas turbine)
                  1,081,582
                  2%10
                  Liaoning
      Huajin Chemical (Group) Ltd.
                  1,064,207
                  2%
 
 Sales,
Marketing and Distribution
 
 We market
our products through regional agents. In addition, High Pressure Valve has 42
sales agents across China. We provide periodic training to our sales
staff.  Because we have direct communication with clients and
participate in trade exhibitions, our sales staff has produced successful
results.  As a major supplier of valve products in China, we believe
we have established a good reputation in our industry.
 
 Our
Research and Development Efforts
 
 China
Valves’ business is dependent on constantly improving the technology associated
with developing and manufacturing valves.  Therefore, China Valves has
committed itself to research and development of new valves and developing state
of the art valves that improve and advance the valve industry.  Over
the past few years, China Valves has invested more than 5% of its total revenue
in research and development.  We also intend to increase the amount of
resources we allocate to research and development as the Company continues to
grow.
 
 The
company has 270 engineering and support technicians and researchers dedicated to
actively researching and developing new valves and participating in valve
production and improvement.  China Valves operates a research and
development laboratory with Lanzhou Science and Engineering University (the
only university in China that offers a major in valve development and
manufacturing).  It has also partnered with Hefei General Mechanical
Study Department Valves Study institute to work to improve the development,
manufacture and quality of valves produced in China.
 
 Competition
 
 China is
experiencing tremendous growth in its economy, especially in urbanization and
industrialization.  China Valves is a leading valve producer in China
and is involved in the development, manufacture and sale of valves in many
different industries, including the thermal power industry, sewage disposal, oil
and chemical industry, metallurgy, heat power industry and nuclear power
industry.  There are approximately 4,000 valve manufacturers in China
and the Company believes that it is one of the largest and has the most
comprehensive product lines.
 
 The
following is a list of our major competitors in the valve industry:
  ·
              Hong
      Cheng Machinery Co., Ltd – a manufacturer of medium pressure big diameter
      butterfly valves for the water supply
industry;
  ·
              Sufa
      Technology Industry, Co., Ltd – a manufacturer of valves for the nuclear
      power industry;
   -15-
 Table of Content
   There
are, however, certain factors that we believe set us apart from all of our
competitors.  China Valves is a top producer of many types of valves
and has positioned itself as the leading valve producer in China.  In
addition, the following factors will help China Valves continue to set itself
apart from its competitors:
  ·
              We
      are the first manufacturer of main stream gate valves for 300MW and main
      water supply gate valves for 600MW power stations in
  China;
  ·
              We
      are the sole designer and manufacturer in China of valves that are used
      for ultra supercritical units of 1000MW power
  stations;
  ·
              We
      are the first manufacturer of high pressure large diameter oil pipeline
      valves in China;
  ·
              We
      were the first domestic manufacturer of 2,500lb high pressure gate valves
      for hydrogenation in chemical lines, which replace imported
      products;
  ·
              We
      were the first domestic manufacturer of high pressure large diameter gate
      valves for the coal chemical industry;
and
  ·
              We
      are the sole manufacturer in China that produces all of the following:
      blowtorch valves, water pressure testing valves, steam controlling valves
      for high parameter power stations and bypass valves for high pressure
      heaters.
  Intellectual
Property
 
 We own
the following two trademarks:
 
 
 
   Our two
subsidiaries High Pressure Valve and Zhengdie Valve own 14 patents for water
supply and drainage pipes, supply and disposal pipes for water and gas, sewage
disposal used for water and gas supply and drainage pipes, etc. The expiration
dates for these patents range from 2010 to 2018.
 
 We cannot
give any assurance that the protection afforded our intellectual property will
be adequate. It may be possible for third parties to obtain and use, without our
consent, intellectual property that we own or are licensed to use. Unauthorized
use of our intellectual property by third parties, and the expenses incurred in
protecting our intellectual property rights, may adversely affect our
business.
 
 Regulation
 
 Because
our operating subsidiaries High Pressure Valve and Zhengdie Valve are located in
the PRC, we are regulated by the national and local laws of the
PRC.
  There is
no private ownership of land in China and all land ownership is held by the
government of the PRC, its agencies and collectives.  Land use rights
can be obtained from the government for a period up to 70 years and are
typically renewable.  Land use rights can be transferred upon approval
by the land administrative authorities of the PRC (State Land Administration
Bureau) upon payment of the required land transfer fee.
   -16-
 Table of Content
 
 We did
not previously own the building and land we operate on.  Those
buildings and the land use rights were owned by the Casting Company, one of our
major suppliers and the land use rights and the buildings from which High
Pressure Valve operates were leased from the Casting
Company.   The Casting Company is located on the same piece of
land. As a condition precedent to the consummation of the Securities Purchase
Agreement related to the private placement of our common stock, on August 26,
2008, High Pressure Valve and the Casting Company entered into an Agreement for
the Transfer of Land Use Right and Housing Titles (the “Real Estate
Transfer Agreement”) for the transfer of the land use rights for all the
land and all the buildings on the land to High Pressure Valve (the “Real
Estate”). As the transfer was expected to take up to ten months to
complete with relevant Chinese government agencies, on August 26, 2008, High
Pressure Valve and the Casting Company also entered into a Lease Agreement (the
“Lease
Agreement”) pursuant to which the Casting Company agreed to lease the
Real Estate to High Pressure Valve until the latter acquires title to the Real
Estate. In addition, High Pressure Valve and the Casting Company entered into a
Leaseback Agreement (the “Leaseback
Agreement”) pursuant to which High Pressure Valve agreed to lease back to
the Casting Company the portion of the Real Estate and the buildings used by the
Casting Company, for a period of one year starting on the date of the
acquisition of title to the Real Estate by High Pressure Valve.
 
 In
connection with the Real Estate Transfer Agreement, on August 26, 2008, the
Company entered into a Real Estate Share Escrow Agreement with the shareholder
of the Casting Company, Mr. Bin Fang, Brean Murray, Carret & Co., LLC and
Escrow, LLC (the “ Real Estate
Escrow Agreement”), pursuant to which the Company issued and placed in
escrow, for the benefit of Mr. Fang or his designee, 5,500,000 shares of the
Company’s common stock in exchange for Mr. Fang’s agreement to cause the Casting
Company to transfer the Real Estate under the Real Estate Transfer Agreement.
Mr. Bin Fang is not related to either Mr. Siping Fang, our Chief Executive
Officer and Chairman or Mr. Binjie Fang, our Chief Operating Officer and a
director. On March 6, 2009, the land use right for the Real Estate was
transferred from the Casting Company to High Pressure Valve and we are in the
process of arranging for the 5,500,000 shares to be released to Mr. Bin
Fang.
  We are
also subject to the PRC’s foreign currency regulations. The PRC government has
control over Renminbi reserves through, among other things, direct regulation of
the conversion of Renminbi into other foreign currencies. Although foreign
currencies that are required for “current account” transactions can be bought
freely at authorized Chinese banks, the proper procedural requirements
prescribed by Chinese law must be met. At the same time, Chinese companies are
also required to sell their foreign exchange earnings to authorized Chinese
banks and the purchase of foreign currencies for capital account transactions
still requires prior approval of the Chinese government.
  We do not
face any significant government regulation in connection with the production of
our products. We do not require any special government permits to produce our
products other than those permits that are required of all corporations in
China.
  Our
Employees
 
 As of
December 31, 2008, we had 1,021 full-time employees, as follows:
 
 Department
                          
                          EmployeesMarketing
                          
                          
                          123Management
                          
                          
                          72Finance
      and Accounting
                          
                          
                          39Research and
      Development
                          
                          
                          122Human
      Resources
                          
                          
                          9Production
                          
                          
                          508Engineering
      and Technical Support
                          
                          
                          148Total
                          
                          
                          1,021
 
 Our
Address
  The
address of China Valves’ principal executive office in China is No. 93 West
Xinsong Road, Kaifeng City, Henan Province, People’s Republic of China and our
telephone number is (86) 378-2925211.  We maintain a website at www.cvalve.net that
contains information about us, but that information is not a part of this Annual
Report.
   -17-
 Table of Content
  Item 1A.  RISK FACTORS
  RISKS
RELATED TO OUR BUSINESS
  Our
business would be adversely affected by a downturn in government spending
related to infrastructure upgrades, repairs and replacements, or by reduced
demand in the power, petrochemical, oil or water supply industries.
 
 Our
business is primarily dependent upon spending on new infrastructure projects, as
well as infrastructure upgrades, repairs and replacement, in the power,
petrochemical, oil and water supply industries.  We are also subject
to general economic conditions, the need for large-scale projects, interest
rates and government incentives provided for public work projects. We believe
that the Chinese stimulus plan will result in an increase in infrastructure
projects and an increase in demand for our valve products. If the Chinese
stimulus plan does not have its desired effect or if there are declines in the
number of projects planned by government agencies, government spending cuts,
general budgetary constraints, difficulty in obtaining necessary permits or the
inability of government entities to issue debt, sales of our valves may not
increase at desired rates. It is not unusual for projects in power,
petrochemical, oil or water supply industries to be delayed and rescheduled for
a number of reasons, including changes in project priorities and difficulties in
complying with environmental and other government regulations. We cannot assure
you that economic growth experienced by China will continue or that if it does,
that state and local governments will address deferred infrastructure needs. Any
significant decline in the project spending in the key industries or
governmental spending on infrastructure could have a material adverse effect on
our financial condition and results of operations.
 
 Our
industry is very competitive in China.
 
 The
domestic market for valve products is fragmented and highly competitive. We
compete with over 160 medium-sized, local Chinese valve manufacturers, although
we are aware of only two that have similar manufacturing capacities as our
company. The number of these companies varies from time to time. While we may
have greater resources than our smaller competitors, it is possible that these
competitors have better access in certain local markets to customers and
prospects and lower production and raw material costs.  Some of our valve
products compete on the basis of price and are sold in fragmented markets with
low barriers to entry, allowing less expensive domestic producers to gain market
share and reduce our margins.
 
 Our
revenue will decrease if the industries in which our customers operate
experience a protracted slowdown.
 
 Our
products mainly serve as key components in projects and machines operated by our
customers which are mostly in the oil, power, water supply, petrochemical, and
metallurgy industries. Therefore, we are subject to the general changes in
economic conditions affecting those industry segments of the economy. If the
industry segments in which our customers operate do not grow or if there is a
contraction in those industries, demand for our valve products will
decrease.  Demand for our products is typically affected by a number
of overarching economic factors, including, but not limited to, interest rates,
the availability and magnitude of private and governmental investment in
infrastructure projects and the health of the overall global
economy.  If there is a decline in economic activity in China and the
other markets in which we operate or a protracted slowdown in industries on
which we rely for our sales, demand for our products and our revenue will
likewise decrease.
 
 Foreign
competition is intense and could have a material adverse effect on our financial
condition and results of operations.
 
 In
addition to domestic competition, we face intense competition from foreign
competitors. The intensity of foreign competition is affected significantly by
fluctuations in the value of the U.S. dollar against Chinese currency and by the
level of import duties imposed by the Chinese government on certain products.
Our major international competitors are Velan Inc., KSB Group and Tyco Flow
Inc.  Many of our competitors have more resources and greater brand
recognition than we enjoy.  While our resources may not be as great as our
larger competitors, we believe our product quality and direct sales offices and
distribution network are superior in China.  If our competitors are able to
gain greater market share or improve their sales efforts, our sales may
decrease, we may be forced to lower our prices, or our marketing costs may
increase, all of which could negatively impact our financial
results.
   -18-
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 Any
decline in the availability, or increase in the cost of raw materials could
materially affect our earnings.
 
 Our valve
manufacturing operations depend heavily on the availability of various raw
materials and energy resources.  The mix of raw materials used in the
production of valves is mainly composed of casting steel blank parts, forging
steel blank parts and steel, which represent 60% of all raw materials used in
the production of valves.  The fuel costs in our manufacturing operations,
particularly heavy oil and electricity, account for over 2% of total
manufacturing costs.   The availability of raw materials and energy
resources may decline and their prices may fluctuate greatly.  We have
long-term relationships with several suppliers; however, we do not have long
term supply contracts and if our suppliers are unable or unwilling to provide us
with raw materials on terms favorable to us, we may be unable to produce certain
products.  This could result in a decrease in profit and damage to our
reputation in our industry.  In the event our raw material and energy costs
increase, we may not be able to pass these higher costs on to our customers in
full or at all.  Any increase in the prices for raw materials or energy
resources could materially increase our costs and therefore lower our earnings.
 
 We
depend on a group of major distributors for a significant portion of our sales;
any loss of these distributors could reduce our sales and continuing
consolidation of distributors could cause price pressure.
 
 In 2008,
92% of our sales revenue was generated from our direct sales teams throughout
China and 8% was generated from our distributors. Sales through distributors was
highly concentrated in a few distributors, with 80% of distributor sales coming
from our ten largest distributors, and 45% from the three largest distributors:
Shou Guang Shang Fa Valve Co., Ltd., Whhan Rui Tai Valve Co.,Ltd., and Kaifeng
High Pressure Valve Plant Beijing Sales Department. Our business relationships
with most of our major distributor branches may be terminated at the option of
either party upon 30 days’ notice.
 
 Although
our relationships with our ten largest distributors have been long-lasting,
distributors in our industry have experienced significant consolidation in
recent years, and we cannot assure you that our distributors will not be
acquired by other distributors who buy products from our competitors. Our
ability to retain these customers in the face of other competitors generally
depends on a variety of factors, including the quality and price of our products
and our ability to market these products effectively. We cannot assure you that,
as consolidation among distributors continues, distributors will not be able to
force us to lower our prices, which would have an adverse impact on our
financial condition or results of operations.
 
 Any
disruption in the supply chain of raw materials and our products could adversely
impact our ability to produce and deliver products.
 
 As a
manufacturing company, we face serious challenges in supply chain management for
raw materials and delivery of our products.  Supply chain fragmentation and
local protectionism within China further complicates supply chain disruption
risks. Local administrative bodies and physical infrastructure built to protect
local interests pose transportation challenges for raw material transportation
as well as product delivery.  In addition, profitability and volume could
be negatively impacted by limitations inherent within the supply chain,
including competitive, governmental, legal, natural disasters, and other events
that could impact both supply and price.  Any of these occurrences could
cause significant disruptions to our supply chain, manufacturing capability and
distribution system that could adversely impact our ability to produce and
deliver products.
 
 We
do not maintain a reserve for warranty or defective products claims. Our costs
could substantially increase if we experience a significant number of warranty
claims.
 
 We
typically warrant all of our products and provide replacement or credit to our
customers who are not satisfied with our products for a period of one year from
the date of shipment. We have not established a reserve for potential
customer claims because, historically, we have not experienced significant
customer complaints about our products and none of our customers have requested
damages for any loss incurred due to product quality
problems.
  We
believe that our customer support teams, our quality assurance and manufacturing
monitoring procedures will continue to keep claims at a level that does not
support a need for a reserve.  However, if we were to experience a
significant increase in warranty claims, our financial results could be
adversely affected.
   -19-
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 Our
rapid expansion could significantly strain our resources, management and
operational infrastructure which could impair our ability to meet increased
demand for our products and hurt our business results.
 
 To
accommodate our anticipated growth, we will need to expend capital resources and
dedicate personnel to implement and upgrade our accounting, operational and
internal management systems and enhance our record keeping and contract tracking
system. Such measures will require us to dedicate additional financial resources
and personnel to optimize our operational infrastructure and to recruit more
personnel to train and manage our growing employee base.  If we cannot
successfully implement these measures efficiently and cost-effectively, we will
be unable to satisfy the demand for our products, which will impair our revenue
growth and hurt our overall financial performance.
  China
Valves manufacturing operations have been operating at close to full capacity
and, accordingly, we began constructing a new manufacturing facility in Kaifeng
in September 2008, which was completed in January 2009. The total budget for the
project will be approximately $11.4 million, of which $7.5 million was spent in
2008 and $3.9 million will be spent in 2009.  Other capital
expenditures in 2008 were $3.2 million for the purchase of equipment. Thus, our
total capital expenditures in 2008 were $10.7 million.
  In 2009,
we will upgrade the facilities of our subsidiary Zhengdie Valve. The total
budget for the upgrade will be approximately $3.9 million.  We also
began to upgrade our financial and ERP systems at the end of 2008 with a
projected budget of $765,000.
  At
December 31, 2008, we had 1,021 employees including 122 technicians and
researchers, 508 production workers, 123 sales personnel, 148 engineering and
technical support personnel and 120 administrative personnel.. In fiscal
year 2009, to support our expected revenue growth, we expect to hire an
additional 130 production workers and 45 staff members in other departments
excluding corporate, fiscal and accounting personnel. As we will further enhance
the internal control system in fiscal year 2009, we expect to hire an additional
9 corporate, fiscal and/or accounting staff members including IT expertise.
Total incremental staffing in 2009 is expected to be 184 employees.
  We
must manage growth in operations to maximize our potential growth and achieve
our expected revenues and any failure to manage growth will cause a disruption
of our operations and impair our ability to generate revenue.
 
 In order
to maximize potential growth in our current and potential markets, we believe
that we must expand the scope of our valve manufacturing and production
facilities and capabilities and continue to develop new and improved valves.
This expansion will place a significant strain on our management and our
operational, accounting, and information systems.  We expect that
we will need to continue to improve our financial controls, operating
procedures and management information systems.  We will also need to
effectively train, motivate and manage our employees.  Our failure to
manage our growth could disrupt our operations and ultimately prevent us from
generating the revenues we expect.
 
 We
cannot assure you that our internal growth strategy will be successful, which
may result in a negative impact on our growth, financial condition, results of
operations and cash flow.
 
 One of
our strategies is to grow internally through increasing the development of new
products and improve the quality of existing products.  However, many
obstacles to this expansion exist, including, but not limited to, increased
competition from similar businesses, our ability to improve our products and
product mix to realize the benefits of our research and development efforts,
international trade and tariff barriers, unexpected costs, costs associated with
marketing efforts abroad and maintaining attractive foreign exchange
rates.  We cannot, therefore, assure you that we will be able to
successfully overcome such obstacles and establish our services in any
additional markets.  Our inability to implement this internal growth
strategy successfully may have a negative impact on our growth, future financial
condition, results of operations or cash flows.
   -20-
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   We
cannot assure you that our acquisition growth strategy will be successful,
resulting in our failure to meet growth and revenue expectations.
 
 In
addition to our internal growth strategy, we have also explored the possibility
of growing through strategic acquisitions.  We intend to pursue
opportunities to acquire businesses in the PRC that are complementary or related
in product lines and business structure to us.  We may not be able to
locate suitable acquisition candidates at prices that we consider appropriate or
to finance acquisitions on terms that are satisfactory to us.  If we
do identify an appropriate acquisition candidate, we may not be able to
negotiate successfully the terms of an acquisition, or, if the acquisition
occurs, integrate the acquired business into our existing
business.  Acquisitions of businesses or other material operations may
require debt financing or additional equity financing, resulting in leverage or
dilution of ownership.  Integration of acquired business operations
could disrupt our business by diverting management away from day-to-day
operations. The difficulties of integration may be increased by the necessity of
coordinating geographically dispersed organizations, integrating personnel with
disparate business backgrounds and combining different corporate
cultures.
 
 We also
may not be able to retain key employees or customers of an acquired business or
realize cost efficiencies or synergies or other benefits we anticipated when
selecting our acquisition candidates.  In addition, we may
need to record write-downs from future impairments of intangible assets,
which could reduce our  future reported earnings.  At times,
acquisition candidates may have liabilities or adverse operating issues that we
fail to discover through due diligence prior to the
acquisition.  In addition to the above, acquisitions in the PRC,
including state owned   businesses, will be required to comply with the
laws of the PRC, to the extent applicable. There can be no assurance that any
given proposed acquisition will be able to comply with PRC requirements, rules
and/or regulations, or that we will successfully obtain governmental approvals
that are necessary to consummate such acquisitions, to the extent
required.  If our acquisition strategy is unsuccessful, we will not
grow our operations and revenues at the rate that we anticipate.
 
 We
may have difficulty defending our intellectual property rights from
infringement, resulting in lawsuits requiring us to devote financial and
management resources that would have a negative impact on our operating
results.
  We regard
our service marks, trademarks, trade secrets, patents and similar intellectual
property as critical to our success.  We rely on trademark, patent and
trade secret law, as well as confidentiality and license agreements with certain
of our employees, customers and others to protect our proprietary rights. We
have received patent protection for certain of our products in the
PRC.  No assurance can be given that our patents, trademarks and
licenses will not be challenged, invalidated, infringed or circumvented, or that
our intellectual property rights will provide competitive advantages to
us.  There can be no assurance that we will be able to obtain a
license from a third-party for technology that we may need to conduct our
business or that such technology can be licensed at a reasonable
cost.
 
 Presently,
we provide our valves mainly in the PRC.  To date, no trademark or
patent filings have been made other than in the PRC.  To the extent
that we market our services in other countries, we may have to take additional
action to protect our intellectual property.  The measures we take to
protect our proprietary rights may be inadequate and we cannot give you any
assurance that our competitors will not independently develop formulations,
processes and services that are substantially equivalent or superior to our own
or copy our products.
 
 We
depend on our key management personnel and the loss of their services could
adversely affect our business.
 
 We place
substantial reliance upon the efforts and abilities of our executive
officers.  The loss of the services of any of our executive officers
could have a material adverse effect on our business, operations, revenues or
prospects.  We do not maintain key man life insurance on the lives of
these individuals.
   -21-
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   We
may incur significant costs to ensure compliance with United States corporate
governance and accounting requirements.
  We may
incur significant costs associated with our public company reporting
requirements, costs associated with corporate governance requirements, including
requirements under the Sarbanes-Oxley Act of 2002 and other rules implemented by
the Securities and Exchange Commission. We expect all of these applicable rules
and regulations to significantly increase our legal and financial compliance
costs and to make some activities more time consuming and costly.  We
also expect that these applicable rules and regulations may make it more
difficult and more expensive for us to obtain director and officer liability
insurance and we may be required to accept reduced policy limits and coverage or
incur substantially higher costs to obtain the same or similar
coverage.  As a result, it may be more difficult for us to attract and
retain qualified individuals to serve on our board of directors or as executive
officers.  We are currently evaluating and
monitoring developments with respect to these rules and regulations, and we
cannot predict or estimate the amount of additional costs we may incur or the
timing of such costs.
 
 We
may not be able to meet the accelerated filing and internal control reporting
requirements imposed by the Securities and Exchange Commission, resulting in a
possible decline in the price of our common stock and our inability to obtain
future financing.
 
 As
directed by Section 404 of the Sarbanes-Oxley Act, the Securities and Exchange
Commission adopted rules requiring each public company to include a report of
management on the company’s internal controls over financial reporting in its
annual reports.  In addition, the independent registered public
accounting firm auditing a company’s financial statements must also attest to
and report on management’s assessment of the effectiveness of the company’s
internal controls over financial reporting as well as the operating
effectiveness of the company’s internal controls.
 
 Although
we expect to expend significant resources in developing the necessary
documentation and testing procedures required by Section 404 of the
Sarbanes-Oxley Act, there is a risk that we may not be able to comply timely
with all of the requirements imposed by this rule.  In the event that
we are unable to receive a positive attestation from our independent registered
public accounting firm with respect to our internal controls, investors and
others may lose confidence in the reliability of our financial statements and
our stock price and ability to obtain equity or debt financing as needed could
suffer.
 
 In
addition, in the event that our independent registered public accounting firm is
unable to rely on our internal controls in connection with its audit of our
financial statements, and in the further event that it is unable to devise
alternative procedures in order to satisfy itself as to the material accuracy of
our financial statements and related disclosures, it is possible that we would
be unable to file our Annual Report on Form 10-K with the Securities and
Exchange Commission, which could also adversely affect the market price of our
common stock and our ability to secure additional financing as
needed.
 
 We
may have difficulty raising necessary capital to fund operations as a result of
market price volatility for our shares of common stock.
 
 In recent
years, the securities markets in the United States have experienced a high level
of price and volume volatility, and the market price of securities of many
companies has experienced wide fluctuations that have not necessarily been
related to the operations, performance, underlying asset values or prospects of
such companies.  For these reasons, our shares of common stock can
also be expected to be subject to volatility resulting from purely market forces
over which we will have no control.  If our business development plans
are successful, we may require additional financing to continue to develop and
exploit existing and new products and services related to our industries and to
expand into new markets.  The expansion of our products and services
may, therefore, be dependent upon our ability to obtain financing through debt
and equity or other means.
   -22-
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 Our
management is unfamiliar with United States securities laws and may have to
expend time and resources becoming familiar with such laws which could lead to
various regulatory issues.
  We became
a public company in December 2007 through the reverse acquisition with China
Valves Samoa. Our management is not familiar with United States securities laws
and will have to spend time and resources becoming familiar with such laws. This
could be expensive and time-consuming and could lead to various regulatory
issues which may adversely affect our operations.
 
 RISKS
RELATED TO DOING BUSINESS IN CHINA
  Adverse
changes in political and economic policies of the PRC government could impede
the overall economic growth of China, which could reduce the demand for our
products and damage our business.
 
 We
conduct substantially all of our operations and generate most of our revenue in
China.   Accordingly, our business, financial condition, results
of operations and prospects are affected significantly by economic, political
and legal developments in China.  The PRC economy differs from the
economies of most developed countries in many respects, including:
 
 ·
              a
      higher level of government involvement;·
              an
      early stage of development of the market-oriented sector of the
      economy;·
              a
      rapid growth rate;·
              a
      higher level of control over foreign exchange; and·
              the
      control over the allocation of
resources.
 
 As the
PRC economy has been transitioning from a planned economy to a more
market-oriented economy, the PRC government has implemented various measures to
encourage economic growth and guide the allocation of resources. Although these
measures may benefit the overall PRC economy, they may also have a negative
effect on us.
 
 Although
the PRC government has in recent years implemented measures emphasizing the
utilization of market forces for economic reform, the PRC government continues
to exercise significant control over economic growth in China through the
allocation of resources, controlling the payment of foreign currency-denominated
obligations, setting monetary policy and imposing policies that impact
particular industries or companies in different ways.
 
 Any
adverse change in economic conditions or government policies in China could have
a material adverse effect on the overall economic growth in China, which in turn
could lead to a reduction in demand for our products and services and
consequently have a material adverse effect on our business and
prospects.
 
 Uncertainties
with respect to the PRC legal system could limit the legal protections available
to you and us.
  We
conduct substantially all of our business through our operating subsidiaries in
the PRC. Our operating subsidiaries are generally subject to laws and
regulations applicable to foreign investments in China and, in particular, laws
applicable to foreign-invested enterprises. The PRC legal system is based on
written statutes, and prior court decisions may be cited for reference but have
limited precedential value. Since 1979, a series of new PRC laws and regulations
have significantly enhanced the protections afforded to various forms of foreign
investments in China. However, since the PRC legal system continues to rapidly
evolve, the interpretations of many laws, regulations and rules are not always
uniform and enforcement of these laws, regulations and rules involve
uncertainties, which may limit legal protections available to you and us. In
addition, any litigation in China may be protracted and result in substantial
costs and diversion of resources and management attention.  In
addition, all of our executive officers and all of our directors are residents
of China and not of the United States, and substantially all the assets of these
persons are located outside the United States.
  As a
result, it could be difficult for investors to affect service of process in the
United States or to enforce a judgment obtained in the United States against our
Chinese operations and subsidiaries.
   -23-
 Table of Content
  
 If
we are found to have failed to comply with applicable laws, we may incur
additional expenditures or be subject to significant fines and
penalties.
 
 Our
operations are subject to PRC laws and regulations applicable to us. However,
many PRC laws and regulations are uncertain in their scope, and the
implementation of such laws and regulations in different localities could have
significant differences. In certain instances, local implementation rules and/or
the actual implementation are not necessarily consistent with the regulations at
the national level. Although we strive to comply with all the applicable PRC
laws and regulations, we cannot assure you that the relevant PRC government
authorities will not later determine that we have not been in compliance with
certain laws or regulations.
 
 Our
failure to comply with the applicable laws and regulations in China could
subject us to administrative penalties and injunctive relief, as well as civil
remedies, including fines, injunctions and recalls of our products. It is
possible that changes to such laws or more rigorous enforcement of such laws or
with respect to our current or past practices could have a material adverse
effect on our business, operating results and financial condition. Further,
additional environmental, health or safety issues relating to matters that are
not currently known to management may result in unanticipated liabilities and
expenditures.
 
 The
PRC government exerts substantial influence over the manner in which we must
conduct our business activities.
  The PRC
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.  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.
  Restrictions
on currency exchange may limit our ability to receive and use our sales revenue
effectively.
  All our
sales revenue and expenses are denominated in RMB. Under PRC law, the RMB is
currently convertible under the “current account,” which includes dividends and
trade and service-related foreign exchange transactions, but not under the
“capital account,” which includes foreign direct investment and loans.
Currently, our PRC operating subsidiary may purchase foreign currencies for
settlement of current account transactions, including payments of dividends to
us, without the approval of the State Administration of Foreign Exchange
(“SAFE”) by complying with certain procedural requirements. However, the
relevant PRC government authorities may limit or eliminate our ability to
purchase foreign currencies in the future. Because a significant amount of our
future revenue will be denominated in RMB, any existing and future restrictions
on currency exchange may limit our ability to utilize revenue generated in RMB
to fund our business activities outside China that are denominated in foreign
currencies.
  Foreign
exchange transactions by PRC operating subsidiaries under the capital account
continue to be subject to significant foreign exchange controls and require the
approval of or need to register with PRC government authorities, including SAFE.
In particular, if our PRC operating subsidiaries borrow foreign currency through
loans from us or other foreign lenders, these loans must be registered with
SAFE, and if we finance the subsidiaries by means of additional capital
contributions, these capital contributions must be approved by certain
government authorities, including the Ministry of Commerce (“MOFCOM”) or their
respective local counterparts. These limitations could affect our ability to
obtain foreign exchange through debt or equity financing.
   -24-
 Table of Content
 
 Fluctuations
in exchange rates could adversely affect our business and the value of our
securities.
  The value
of our common stock will be indirectly affected by the foreign exchange rate
between U.S. dollars and RMB and between those currencies and other currencies
in which our sales may be denominated. Because substantially all of our earnings
and cash assets are denominated in RMB and the net proceeds from our August 2008
private placement were, and the proceeds we receive from the exercise of
warrants we have issued if and when those warrants are exercised for cash will
be, denominated in U.S. dollars, fluctuations in the exchange rate between the
U.S. dollar and the RMB will affect the relative purchasing power of these
proceeds, our balance sheet and our earnings per share in U.S. dollars. In
addition, appreciation or depreciation in the value of the RMB relative to the
U.S. dollar would affect our financial results reported in U.S. dollar terms
without giving effect to any underlying change in our business or results of
operations. Although we have no current intention to pay any dividends in the
foreseeable future, fluctuations in the exchange rate would also affect the
relative value of any dividend we issue that will be exchanged into U.S. dollars
as well as earnings from, and the value of, any U.S. dollar-denominated
investments we make in the future.
  Since
July 2005, the RMB has no longer been pegged to the U.S. dollar. Although the
People’s Bank of China regularly intervenes in the foreign exchange market to
prevent significant short-term fluctuations in the exchange rate, the RMB may
appreciate or depreciate significantly in value against the U.S. dollar in the
medium to long term. Moreover, it is possible that in the future PRC authorities
may lift restrictions on fluctuations in the RMB exchange rate and lessen
intervention in the foreign exchange market.
 
 Very
limited hedging transactions are available in China to reduce our exposure to
exchange rate fluctuations. To date, we have not entered into any hedging
transactions. Although we may enter into hedging transactions in the future, the
availability and effectiveness of these transactions may be limited, and we may
not be able to successfully hedge our exposure at all. In addition, our foreign
currency exchange losses may be magnified by PRC exchange control regulations
that restrict our ability to convert RMB into foreign currencies.
 
 Currently,
some of our raw materials and major equipment are imported.  In the
event that the U.S. dollar appreciates against the RMB, our costs will
increase.  If we cannot pass the resulting cost increases on to our
customers, our profitability and operating results will suffer.  In
addition, because our sales to international customers are growing rapidly, we
are increasingly subject to the risk of foreign currency
depreciation.
  Restrictions
under PRC law on our PRC subsidiaries’ ability to make dividends and other
distributions could materially and adversely affect our ability to grow, make
investments or acquisitions that could benefit our business, pay dividends to
our shareholders, and otherwise fund and conduct our businesses.
 
 Substantially
all of our revenues are earned by our PRC subsidiaries. However, PRC regulations
restrict the ability of our PRC subsidiaries to make dividends and other
payments to their offshore parent company. PRC legal restrictions permit
payments of dividend by our PRC subsidiaries only out of their accumulated
after-tax profits, if any, determined in accordance with PRC accounting
standards and regulations. Each of our PRC subsidiaries is also required under
PRC laws and regulations to allocate at least 10% of its annual after-tax
profits determined in accordance with PRC GAAP to a statutory general reserve
fund until the amounts in said fund reaches 50% of our registered capital.
Allocations to these statutory reserve funds can only be used for specific
purposes and are not transferable to us in the form of loans, advances or cash
dividends.
 
 Any
limitations on the ability of our PRC subsidiaries to transfer funds to us could
materially and adversely limit our ability to grow, make investments or
acquisitions that could be beneficial to our business, pay dividends and
otherwise fund and conduct our business.
  Under
the New EIT Law, China Valves Technology Inc. and its subsidiaries China Fluid
Equipment and Henan Tonghai Fluid may be classified as a “resident enterprise”
of China. Such a classification would likely result in unfavorable tax
consequences to us and our non-PRC stockholders.
 
 China
passed a new Enterprise Income Tax Law, or the New EIT Law, and its implementing
rules, both of which became effective on January 1, 2008. Under the New EIT Law,
an enterprise established outside of China with “de facto management bodies”
within China is considered a “resident enterprise,” meaning that it can be
treated in a manner similar to a Chinese enterprise for enterprise income tax
purposes. The implementing rules of the New EIT Law define de facto management
as “substantial and overall management and control over the production and
operations, personnel, accounting, and properties” of the enterprise. Because
the New EIT Law and its implementing rules are new, no official interpretation
or application of this new “resident enterprise” classification is available.
Therefore, it is unclear how tax authorities will determine tax residency based
on the facts of each case.
   -25-
 Table of Content
 
 Our
operating subsidiaries High Pressure Valve and Zhengdie Valve are already
designated as “resident enterprises” for PRC enterprise income tax purposes.
However, if the PRC tax authorities determine that China Valves Technology Inc.
and its subsidiaries China Fluid Equipment and Henan Tonghai Fluid are also
“resident enterprises” for PRC enterprise income tax purposes, a number of
unfavorable PRC tax consequences could follow. First, we may be subject to the
enterprise income tax at a rate of 25% on our worldwide taxable income as well
as PRC enterprise income tax reporting obligations. In our case, this would mean
that income such as interest on offering proceeds and non-China source income
would be subject to PRC enterprise income tax at a rate of 25%. Second, although
under the New EIT Law and its implementing rules dividends paid to us from our
PRC subsidiaries would qualify as “tax-exempt income,” we cannot guarantee that
such dividends will not be subject to a 10% withholding tax, as the PRC foreign
exchange control authorities, which enforce the withholding tax, have not yet
issued guidance with respect to the processing of outbound remittances to
entities that are treated as resident enterprises for PRC enterprise income tax
purposes. Finally, it is possible that future guidance issued with respect to
the new “resident enterprise” classification could result in a situation in
which a 10% withholding tax is imposed on dividends we pay to our non-PRC
stockholders and with respect to gains derived by our non-PRC stockholders from
transferring our shares. We are actively monitoring the possibility of “resident
enterprise” treatment for the 2008 tax year and are evaluating appropriate
organizational changes to avoid this treatment, to the extent
possible.
 
 If we
were treated as a “resident enterprise” by PRC tax authorities, we would be
subject to taxation in both the U.S. and China, and our PRC tax may not be
credited against our U.S. tax.
 
 If
the China Securities Regulatory Commission, or CSRC, or another PRC regulatory
agency determines that CSRC approval is required in connection with the reverse
acquisition, the reverse acquisition may be cancelled, or we may become subject
to penalties.
 
 On August
8, 2006, six PRC regulatory agencies, including the CSRC, promulgated the
Provisions Regarding Mergers and Acquisitions of Domestic Enterprises by Foreign
Investors (the “M&A Rule”) which became effective on September 8, 2006. The
M&A Rule, among other things, requires that an offshore company controlled
by PRC companies or individuals that have acquired a PRC domestic company for
the purpose of listing the PRC domestic company’s equity interest on an overseas
stock exchange must obtain the approval of the CSRC prior to the listing and
trading of such offshore company’s securities on an overseas stock exchange. On
September 21, 2006, the CSRC, pursuant to the M&A Rule, published on its
official web site procedures specifying documents and materials required to be
submitted to it by offshore companies seeking CSRC approval of their overseas
listings.
  If the
CSRC or another PRC governmental agency subsequently determines that we must
obtain CSRC approval of the reverse acquisition, we may face regulatory actions
or other sanctions from the CSRC or other PRC regulatory agencies. These
regulatory agencies may impose fines and penalties on our operations in China
and limit our operating privileges in China, or take other actions that could
have a material adverse effect on our business, financial condition, results of
operations, reputation and prospects, as well as the trading price of our
shares.
 
 The
M&A Rule establishes more complex procedures for some acquisitions of
Chinese companies by foreign investors, which could make it more difficult for
us to pursue growth through acquisitions in China.
 
 The
M&A Rule establishes additional procedures and requirements that could make
some acquisitions of Chinese companies by foreign investors more time-consuming
and complex, including requirements in some instances that the PRC Ministry of
Commerce be notified in advance of any change-of-control transaction and in some
situations, require approval of the PRC Ministry of Commerce when a foreign
investor takes control of a Chinese domestic enterprise. In the future, we may
grow our business in part by acquiring complementary businesses, although we do
not have any plans to do so at this time. The M&A Rule also requires PRC
Ministry of Commerce anti-trust review of any change-of-control transactions
involving certain types of foreign acquirers. Complying with the requirements of
the M&A Rule to complete such transactions could be time-consuming, and any
required approval processes, including obtaining approval from the PRC Ministry
of Commerce, may delay or inhibit our ability to complete such transactions,
which could affect our ability to expand our business or maintain our market
share.
   -26-
 Table of Content
 
 You
may have difficulty enforcing judgments against us.
 
 We are a
Nevada holding company and most of our assets are located outside of the United
States. All of our current operations are conducted in the PRC. In addition, all
of our directors and officers are nationals and residents of countries other
than the United States. A substantial portion of the assets of these persons is
located outside the United States. As a result, it may be difficult for you to
effect service of process within the United States upon these persons. It may
also be difficult for you to enforce in U.S. courts judgments on the civil
liability provisions of the U.S. federal securities laws against us and our
officers and directors, most of whom are not residents in the United States and
the substantial majority of whose assets are located outside of the United
States. In addition, there is uncertainty as to whether the courts of the PRC
would recognize or enforce judgments of U.S. courts. Courts in China may
recognize and enforce foreign judgments in accordance with the requirements of
the PRC Civil Procedures Law based on treaties between China and the country
where the judgment is made or on reciprocity between jurisdictions. China does
not have any treaties or other arrangements that provide for the reciprocal
recognition and enforcement of foreign judgments with the United States. In
addition, according to the PRC Civil Procedures Law, courts in the PRC will not
enforce a foreign judgment against us or our directors and officers if they
decide that the judgment violates basic principles of PRC law or national
sovereignty, security or the public interest. Accordingly, it is uncertain
whether a PRC court would enforce a judgment rendered by a court in the United
States.
 
 RISKS
RELATED TO THE MARKET FOR OUR STOCK
 
 Our
common stock is quoted on the OTC Bulletin Board, which may have an unfavorable
impact on our stock price and liquidity.
 
 Our
common stock is quoted on the OTC Bulletin Board.  The OTC Bulletin
Board is a significantly more limited market than the New York Stock Exchange or
Nasdaq system.  The quotation of our shares on the OTC Bulletin Board
may result in a less liquid market available for existing and potential
stockholders to trade shares of our common stock, could depress the trading
price of our common stock and could have a long-term adverse impact on our
ability to raise capital in the future.
  We
may be subject to penny stock regulations and restrictions and you may have
difficulty selling shares of our common stock.
 
 The
Securities and Exchange Commission has adopted regulations which generally
define so-called “penny stocks” to be an equity security that has a market price
less than $5.00 per share or an exercise price of less than $5.00 per share,
subject to certain exemptions.   If our common stock becomes a “penny
stock”, we may become subject to Rule 15g-9 under the Exchange Act, or the
“Penny Stock Rule”.  This rule imposes additional sales practice
requirements on broker-dealers that sell such securities to persons other than
established customers and “accredited investors” (generally, individuals with a
net worth in excess of $1,000,000 or annual incomes exceeding $200,000, or
$300,000 together with their spouses).  For transactions covered by
Rule 15g-9, a broker-dealer must make a special suitability determination for
the purchaser and have received the purchaser’s written consent to the
transaction prior to sale.  As a result, this rule may affect the
ability of broker-dealers to sell our securities and may affect the ability of
purchasers to sell any of our securities in the secondary market.
 
 For any
transaction involving a penny stock, unless exempt, the rules require delivery,
prior to any transaction in a penny stock, of a disclosure schedule prepared by
the Commission relating to the penny stock market.  Disclosure is also
required to be made about sales commissions payable to both the broker-dealer
and the registered representative and current quotations for the
securities.  Finally, monthly statements are required to be sent
disclosing recent price information for the penny stock held in the account and
information on the limited market in penny stocks.
 
 There can
be no assurance that our common stock will qualify for exemption from the Penny
Stock Rule.  In any event, even if our common stock were exempt from
the Penny Stock Rule, we would remain subject to Section 15(b)(6) of the
Exchange Act, which gives the Commission the authority to restrict any person
from participating in a distribution of penny stock, if the Commission finds
that such a restriction would be in the public interest.
   -27-
 Table of Content
 
 Future
sales or perceived sales of our common stock could depress our stock
price.
  A
substantial number of shares of our common stock held by our current
stockholders are freely tradable.  If the holders of these freely
tradable shares were to attempt to sell a substantial amount of their holdings
at once, the market price of our common stock could
decline.  Moreover, the perceived risk of this potential dilution
could cause stockholders to attempt to sell their shares and investors to short
the stock, a practice in which an investor sells shares that he or she does not
own at prevailing market prices, hoping to purchase shares later at a lower
price to cover the sale.  As each of these events would cause the
number of shares of our common stock being offered for sale to increase, our
common stock’s market price would likely further decline.  All of
these events could combine to make it very difficult for us to sell equity or
equity-related securities in the future at a time and price that we deem
appropriate.
  We
do not intend to pay dividends on shares of our common stock for the foreseeable
future.
  We have
never declared or paid any cash dividends on shares of our common stock. The
declaration, payment and amount of any future dividends will be made at the
discretion of the board of directors and will depend upon, among other things,
the results of our operations, cash flows and financial condition, operating and
capital requirements and other factors the board of directors considers
relevant. Our board of directors does not intend to distribute dividends in the
near future. We intend to retain any future earnings to fund the operation and
expansion of our business.
 
 Item 2.   Properties
  There is
no private ownership of land in China and all land ownership is held by the
government of the PRC, its agencies and collectives.  Land use rights
can be obtained from the government for a period up to 70 years and are
typically renewable.  Land use rights can be transferred upon approval
by the land administrative authorities of the PRC (State Land Administration
Bureau) upon payment of the required land transfer fee.
 
 Our
operating subsidiaries are located on approximately 74 acres of land. The
buildings and the land use rights on which we operate were owned by the Casting
Company, one of our major suppliers, and we leased the facilities from the
Casting Company.  The Casting Company is located on the same piece of
land. As a condition precedent to the consummation of the Securities Purchase
Agreement related to the private placement of our common stock, on August 26,
2008, High Pressure Valve and the Casting Company entered into an Agreement for
the Transfer of Land Use Right and Housing Titles (the “Real Estate
Transfer Agreement”) for the transfer of the land use rights for the 74
acres of land and all the buildings on the land to High Pressure Valve (the
“Real
Estate”). As the transfer was expected to take up to ten months to
complete with relevant Chinese government agencies, on August 26, 2008, High
Pressure Valve and the Casting Company also entered into a Lease Agreement (the
“Lease
Agreement”) pursuant to which the Casting Company agreed to lease the
Real Estate to High Pressure Valve until the latter acquires title to the Real
Estate. In addition, High Pressure Valve and the Casting Company entered into a
Leaseback Agreement (the “Leaseback
Agreement”) pursuant to which High Pressure Valve agreed to lease back to
the Casting Company the portion of the Real Estate used by the Casting Company,
for a period of one year starting on the date of the acquisition of title to the
Real Estate by High Pressure Valve.  On March 6, 2009, the land use
right was transferred from the Casting Company to High Pressure
Valve.
 
 The
following lease expenses were incurred in 2008 and 2007 with respect to the
property of High Pressure Valve and Zhengdie Valve:
 
 Year
Ended December 31, 2008
  Zhengdie
                              Valve
                            
                            
                            High
      Pressure ValveUsage
                            
                            US
      $
                            
                            
                            US
      $Office
                            
                            $
                            35,182
                            
                            
                            $
                            64,693Production
      Facilities
                            
                            $
                            293,186
                            
                            
                            $
                            385,307Operation
      Facilities
                            
                            $
                            7,730
                            
                            
                            $
                            0Total
      Cost
                            
                            $
                            336,098
                            
                            
                            $
                            450,000
   -28-
 Table of Content
 
 Year
Ended December 31, 2007
 
 Zhengdie
      Valve
                            
                            
                            High
      Pressure ValveUsage
                            
                            US
      $
                            
                            
                            US
      $Office
                            
                            $
                            32,000
                            
                            
                            $
                            0Production
      Facilities
                            
                            $
                            266,667
                            
                            
                            $
                            0Operation
      Facilities
                            
                            $
                            6,667
                            
                            
                            $
                            0Total
      Cost
                            
                            $
                            305,334
                            
                            
                            $
                            0
 
 Item 3.  Legal Proceedings
  Before
the reverse acquisition on December 18, 2007, Intercontinental Resources Inc.
(the legal acquirer in our reverse acquisition) was sued by Merrill Lynch
Canada, Inc., in British Columbia, Canada, in July 2000. A judgment was entered
on May 12, 2003 in the Supreme Court of the State of New York, County of New
York, in favor of the plaintiff and against the Company, for the sum of $40,786.
In connection with the reverse acquisition, Intercontinental agreed to place
$20,000 of the purchase price into escrow pending resolution of this suit. 
The plaintiff accepted this amount in full satisfaction of the judgment and
the $20,000 was paid from the escrow in June, 2008.
  Item 4.   Submission of Matters to a Vote of Security
Holders
  There
were no matters that were submitted during the fourth quarter of 2008 to a vote
of security holders that have not already been disclosed in a Current Report on
Form 8-K during the period.
  PART
II
  Item 5.   Market for Registrant’s Common Equity, Related
Stockholder Matters and Issuer Purchases of Equity Securities.
  Market for our Common
Stock
  Our
common stock, having $0.001 par value per share ("Common Stock"), is traded on
the Over-The-Counter Bulletin Board ("OTCBB") under the symbol
"CVVT.OB."
 
 On
December 31, 2008, the closing bid quotation for our common stock as reported on
the OTCBB was $5.  The bid price reflects inter-dealer quotations,
does not include retail markups, markdowns or commissions and does not
necessarily reflect actual transactions.
  The
following table sets forth, for the periods indicated, the high and low closing
prices of our common stock as reported by nasdaq.com.  These prices
reflect inter-dealer prices, without retail mark-up, mark-down or commission,
and may not represent actual transactions.
 
 Closing
      PricesHigh
                        
                        LowYear
      Ending December 31, 20091st
      Quarter (through March 13, 2009)
                        
                        $
                        5.00
                        
                        
                        $
                        1.20
 
  Closing
      PricesHigh
                            
                            LowYear
      Ended December 31, 20084th
      Quarter
                            
                            $
                            8.00
                            
                            
                            $
                            1.303rd
      Quarter
                            
                            $
                            5.00
                            
                            
                            $
                            3.502nd
      Quarter
                            
                            $
                            10.00
                            
                            
                            $
                            2.101st
      Quarter
                            
                            $
                            10.00
                            
                            
                            $
                            5.00
   -29-
 Table of Content
   Closing
      PricesHigh
                            
                            LowYear
      Ended December 31, 20074th
      Quarter
                            
                            $
                            11.00
                            
                            
                            $
                            1.503rd
      Quarter
                            
                            $
                            4.75
                            
                            
                            $
                            1.002nd
      Quarter
                            
                            $
                            6.50
                            
                            
                            $
                            2.501st
      Quarter
                            
                            $
                            5.00
                            
                            
                            $
                            2.00
 
 Reports to
Stockholders
  We plan
to furnish our stockholders with an annual report for each fiscal year ending
December 31 containing financial statements audited by our independent certified
public accountants. Additionally, we may, in our sole discretion, issue
unaudited quarterly or other interim reports to our stockholders when we deem
appropriate. We intend to maintain compliance with the periodic reporting
requirements of the Exchange Act.
  Approximate Number of
Holders of Our Common Stock
  On March
13, 2009, there were 144 stockholders of record of our common
stock.
  Dividend
Policy
  We have
never declared dividends or paid cash dividends. Our board of directors will
make any future decisions regarding dividends. We currently intend to retain and
use any future earnings for the development and expansion of our business and do
not anticipate paying any cash dividends in the near future.
  Item 6.   Selected Financial Data
  Not
required.
 
 Item 7.  Management’s Discussion and Analysis of Financial Condition
and Results of Operations
  Overview
 
 The
following discussion is an overview of the important factors that management
focuses on in evaluating our business, financial condition and operating
performance and should be read in conjunction with the financial statements
included in this Annual Report.  This discussion contains
forward-looking statements that involve risks and
uncertainties.  Actual results could differ materially from those
anticipated in these forward looking statements as a result of any number of
factors, including those set forth under the section entitled “Risk Factors” and
elsewhere in this Annual Report.
 
 Our
Business
 
 Through
our subsidiaries and certain commercial and contractual relationships and
arrangements with other Chinese companies, we operate companies in China that
develop, manufacture and distribute high quality metal valves for a variety of
different industries.  We are located in Kaifeng, Henan Province and
conduct business throughout China, Southeast Asia, the Middle-East and
Europe.  Our production facility in Kaifeng has an area of approximately 74
acres.  We produce over 700 models of valves and service numerous
industries, including the thermal power, water supply, municipal construction,
sewage disposal, oil and chemical, metallurgy, heat power, and nuclear power
industries.  We are the leader in valve sales for the thermal power
and water supply industries, according to the Board Chairman of the China Valves
Industry Association.
  -30-
 Table of Content
  
 Our
production facility in Kaifeng has an area of approximately 74
acres.   We are the leader in valve sales for the thermal power
and water supply industries, according to the Board Chairman of the China Valves
Industry Association. We produce over 700 models of valves and service
numerous industries, including the thermal power, water supply, municipal
construction, sewage disposal, oil and chemical, metallurgy, heat power, and
nuclear power industries.
  Although
the United States and Europe have been most affected by the recent financial
crisis,  governments throughout the Asia-Pacific region have also
taken steps to stabilize their markets. To offset slowing global growth, on
November 5, 2008, at the State Council meeting, Premier Wen Jiabao offered a
RMB4 trillion ($586 billion) stimulus package for the next two years and
announced the government would move to a proactive fiscal and a moderately
relaxed monetary policy.
  Pursuant
to the stimulus package, the Chinese government has committed to launch more
projects related to people’s livelihood and infrastructure and decided to invest
RMB100 billion ($14.49 billion) in these projects, starting in the fourth
quarter of 2008. (source: China Daily). The actions taken by the Chinese
government should significantly increase the demand for valve products which are
essential for infrastructure construction and will provide market opportunities
for the Company.
 
 In
addition, although the financial crises have affected Chinese enterprises that
rely on overseas markets, China Valves has not been materially affected as less
than 10% of our revenue is generated from exports and the relatively strong
domestic market demand has positioned us to continue to grow notwithstanding the
current financial crisis.
 
 Management
believes that the recent financial crisis in the US and Europe should not have
any materially negative impact on our business, and management believes we will
benefit from the stimulus plan of the central government of China.
  Revenue
  We
generate our revenue from the sales of our valve products.  Our sales
revenue for the year ended December 31, 2008 amounted to $65.9 million, which
is $28.9 million or 78% more than that of the same period ended on December
31, 2007, where we had revenue of $37.0 million. The increase in sales revenue
was attributed to larger market share, more direct sales centers and
distribution channels to serve more industries, increased sales of high
value-added products and introduction of new high-end products.
  Cost
of Revenue
 
 Cost of
revenue includes our direct costs to manufacture our products, including the
cost of our raw materials, employee remuneration for staff engaged in production
activity, and related expenses that are directly attributable to the production
of products.
 
 Gross
Profit and Gross Margin
 
 Gross
profit is equal to the difference between our revenue and the cost of
revenue.  Gross margin is equal to gross profit divided by
revenue.  Our gross margin was 39.2% in 2008, compared with 40.5% in
2007.
 
 Operating
Expenses
 
 Our
operating expenses consist of salaries, sales commission and other selling
expense and general and administrative expenses. We expect most components of
our operating expenses will increase as our business grows and as we incur
increased costs related to being a public company.
 
  -31-
 Table of Content
  Principal
Factors Affecting our Financial Performance
 
 We
believe that the following factors affect our financial
performance:
 
 ·   Growth of China’s Urbanization and
Industrialization
 
 According
to the China Valve Industry Association’s research, the annual growth rate of
the valve production industry in China is expected to be 32% for the next 5
years.  This growth is fueled by rapid industrialization and manufacturing
industries developing in China.  If this growth continues, we believe
that the growth rate of the valve production industry will grow at a similar
rate and that the Company will be able to sustain its growth and continue to be
a leader in the valve production industry in China.
  ·   PRC Regulations
  China has
looked favorably on the valve production industry and has loosened regulations
to promote manufacturing growth in China, which ultimately benefits China Valves
and similarly situated companies.  For example, in June, 2007, the
State Department of China issued a new policy called “Expedite the development
of China’s equipment manufacturing industry.”  In this policy, the
Chinese government committed to promote the development of China’s equipment
manufacturing industry, which includes the valve industry, through, among other
things, tax incentives, import/export support and capital support.  In
addition, the stimulus package offered by the Chinese government will provide
market opportunities for us. As long as China continues to promote economic
growth and allow manufacturing companies to grow and expand their operations,
China Valves expects its operations will be positively affected by PRC
regulations.
  Recent
Development
 
 As
discussed in Item 2 Properties, on March 6, 2009, the land use rights for the
Real Estate were transferred from the Casting Company to High Pressure Valve. We
are in the process of arranging for the 5,500,000 shares of our common stock
previously placed in escrow as payment for the land use rights to be
released to Mr. Bin Fang, the owner of the Casting Company.
 
 Taxation
 
 United
States
 We are
subject to United States tax at a tax rate of 34%. No provision for US federal
income taxes has been made as we had no taxable income in the United States for
2007 and 2008.
 
 Hong
Kong
 China
Fluid Equipment was incorporated in Hong Kong and is not subject to income taxes
under the current laws of Hong Kong.
 
 PRC
 A company
registered in China is subject to national and local income taxes within China
at the applicable tax rate on the taxable income as reported in its PRC
statutory financial statements in accordance with relevant income tax laws.
Under the Provisional Taxation Regulation of the People’s Republic of China
effective before January 1, 2008, income tax was generally payable by
enterprises at a rate of 33% of their taxable income.
 
 In 2007,
China passed the New EIT Law and its implementing rules, both of which became
effective on January 1, 2008. The New EIT Law significantly curtails tax
incentives granted to foreign-invested enterprises under the previous law. The
New EIT Law, however, (i) reduces the statutory rate of enterprise income tax
from 33% to 25%, (ii) permits companies to continue to enjoy their existing tax
incentives, adjusted by certain transitional phase-out rules, and (iii)
introduces new tax incentives, subject to various qualification
criteria.
 
 Substantially
all of our income may be derived from dividends we receive from our PRC
operating subsidiaries described above. The New EIT Law and its implementing
rules generally provide that a 10% withholding tax applies to China-sourced
income derived by non-resident enterprises for PRC enterprise income tax
purposes. We expect that such 10% withholding tax will apply to dividends paid
to us by our PRC subsidiaries but this treatment will depend on our status as a
non-resident enterprise. For detailed discussion of PRC tax issues related to
resident enterprise status, see “Risk Factors — Risks Associated with Doing
Business in China — Under the New EIT Law, China Valves Technology Inc. and its
subsidiaries China Fluid Equipment and Henan Tonghai Fluid may be classified as
a ‘resident enterprise’ of China. Such a classification would likely result in
unfavorable tax consequences to us and our non-PRC stockholders.”
  -32-
 Table of Content
  Our
Operating Subsidiaries are classified as resident enterprises under the EIT
law.  High Pressure Valve was exempt from income tax in 2007 due to a
Kaifeng city tax incentive for the privatization of companies. However,
beginning in January 2008 both High Pressure Valve and Zhengdie Valve became
subject to an income tax at an effective rate of 25% because High Pressure
Valve no longer enjoys the tax incentive and under the EIT law, the uniform
rate for enterprise income tax in China is 25% for both domestic
and foreign invested enterprises. The accounting impact of being classified
as a resident enterprise beginning in January 2008, the effective date of the
EIT law, is that we incurred income taxes of $4,379,388 for the year ended
December 31, 2008, an increase of $3,041,645 or 227% from the taxes we incurred
in the same 2007 period, which were $1,337,743. This increase in taxes was
more than offset by our higher revenues and operating profits; however, in
future periods, our operating results and cash flow will continue to reflect the
effect of our operating subsidiaries being subject to an income tax at an
effective rate of 25%.
 
 Results
of Operations
  The
following tables set forth key components of our results of operations for the
periods indicated, in dollars and as a percentage of revenue.
  Year
      Ended December 31,2008
                                      
                                      
                                      2007Sales
      revenue
                                      
                                      $
                                      65,947,615
                                      
                                      
                                      $
                                      37,036,282Cost
      of sales
                                      
                                      
                                      40,082,152
                                      
                                      
                                      
                                      22,050,041Gross
      profit
                                      
                                      
                                      25,865,463
                                      
                                      
                                      
                                      14,986,241ExpensesGeneral
      & administrative expenses (including non-cash stock compensation
      expenses of $14,998,974 in 2008)
                                      
                                      
                                      21,334,235
                                      
                                      
                                      
                                      3,245,954Research
      and development costs
                                      
                                      
                                      217,698
                                      
                                      
                                      
                                      104,502Selling expenses
                                      
                                      
                                      4,929,728
                                      
                                      
                                      
                                      2,998,585Total
      operating expenses
                                      
                                      
                                      26,481,661
                                      
                                      
                                      
                                      6,349,041Income
      from operations
                                      
                                      
                                      (616,198)
                                      
                                      
                                      
                                      8,637,200Other
      income/(expense), net
                                      
                                      
                                      1,245,687
                                      
                                      
                                      
                                      371,633Interest
      and finance expense, net
                                      
                                      
                                      (486,946)
                                      
                                      
                                      
                                      (528,498)Income
      before income taxes
                                      
                                      
                                      142,543
                                      
                                      
                                      
                                      8,480,335Income
      taxes
                                      
                                      
                                      4,379,388
                                      
                                      
                                      
                                      1,337,743Net
      (loss) income
                                      
                                      $
                                      (4,236,845)
                                      
                                      
                                      $
                                      $7,142,592As
      a Percentage of Sales RevenueSales
      revenue
                                      
                                      
                                      100.0
                                      %
                                      
                                      
                                      100.0
                                      %Cost
      of sales
                                      
                                      
                                      60.8
                                      %
                                      
                                      
                                      59.5
                                      %Gross
      profit
                                      
                                      
                                      39.2
                                      %
                                      
                                      
                                      40.5
                                      %ExpensesGeneral
      & administrative expenses
                                      
                                      
                                      32.4
                                      %
                                      
                                      
                                      8.8
                                      %Research
      and development costs
                                      
                                      
                                      0.3
                                      %
                                      
                                      
                                      0.3
                                      %Selling
      expenses
                                      
                                      
                                      7.5
                                      %
                                      
                                      
                                      8.1
                                      %Total
      operating expenses
                                      
                                      
                                      40.2
                                      %
                                      
                                      
                                      17.1
                                      %Income
      before income taxes
                                      
                                      
                                      0.2
                                      %
                                      
                                      
                                      22.9
                                      %Income
      taxes
                                      
                                      
                                      6.6
                                      %
                                      
                                      
                                      3.6
                                      %Net
      (loss) income
                                      
                                      
                                      (6.4)
                                      %
                                      
                                      
                                      19.3
                                      %
 -33-
 Table of Content
 
 The
following tables set forth our sales by valve type, in terms of volume and
revenues for the periods indicated.
   Year
      Ended December 31,Volume,
      in tons
                              
                              2008
                              
                              
                              2007Gate
      valves
                              
                              
                              3,272
                              
                              
                              
                              2,296Check
      valves
                              
                              
                              1,152
                              
                              
                              
                              695Global
      valves
                              
                              
                              640
                              
                              
                              
                              589Safety
      valves
                              
                              
                              249
                              
                              
                              
                              291Butterfly
      valves
                              
                              
                              7,660
                              
                              
                              
                              5,468Ball
      valves
                              
                              
                              701
                              
                              
                              
                              333Vent
      valves
                              
                              
                              423
                              
                              
                              
                              130Other
      valves and accessories
                              
                              
                              3,027
                              
                              
                              
                              1,549Total,
      in tons
                              
                              
                              17,124
                              
                              
                              
                              11,351
 Year
      Ended December 31,2008
                                      
                                      2007Sales
      revenue
                                      
                                      (in
      thousands)Gate
      valves
                                      
                                      $
                                      18,478
                                      
                                      $
                                      10,593Check
      valves
                                      
                                      
                                      5,488
                                      
                                      
                                      3,355Global
      valves
                                      
                                      
                                      3,058
                                      
                                      
                                      2,387Safety
      valves
                                      
                                      
                                      859
                                      
                                      
                                      1,013Butterfly
      valves
                                      
                                      
                                      22,841
                                      
                                      
                                      12,390Ball
      valves
                                      
                                      
                                      3,155
                                      
                                      
                                      1,473Vent
      valves
                                      
                                      
                                      1,927
                                      
                                      
                                      567Other
      valves and accessories
                                      
                                      
                                      10,142
                                      
                                      
                                      5,258Total
      sales revenue
                                      
                                      $
                                      65,948
                                      
                                      $
                                      37,036
 
 The China
Valve Industry Association divides the valve market into five primary segments;
(i) power; (ii) petrochemical; (iii) oil; (iv) water supply; and (v) metallurgy.
Our revenues in these markets are as follows:


Year
      Ended December 31,2008
                        
                        
                        2007(in
      thousands)Power
      Supply
                        
                        $
                        16,263
                        
                        
                        $
                        11,462Petrochemical
      and Oil
                        
                        
                        14,558
                        
                        
                        
                        9,728Water
      Supply
                        
                        
                        19,506
                        
                        
                        
                        8,190Metallurgy
                        
                        
                        6,460
                        
                        
                        
                        3,858Other
      areas
                        
                        
                        9,161
                        
                        
                        
                        3,798Total
      sales revenue
                        
                        $
                        65,948
                        
                        
                        $
                        37,036




-34-
 Table of Content
  Year
Ended December 31, 2008 Compared with Year Ended December 31, 2007
 
 Sales Revenue. Sales
revenue increased $28.9 million, or 78%, to $65.9 million in 2008 from $37.0
million in 2007. The majority of this increase resulted from increases in the
volume of products sold. Adjusting for the effect of changes in exchange
rates, our sales revenue increased by 63%. Sales volume was 17,124 tons for
2008, compared with 11,351 tons in 2007, an increase of 51%. The increased sales
volume was attributable to (1) increased demand for our products fueled by rapid
industrialization and manufacturing development in China, (2) our successful
marketing efforts, (3) retaining our existing customers and adding additional
large customers and (4) our expansion into the nuclear power station valve
market segment.
 
 In 2008,
revenues from butterfly valves, gate valves, ball valves and bent valves
constituted approximately 71% of our total revenues for the period.
 
 Revenue
from butterfly valves for 2008 amounted to $22,841, which is $10,451 or 84% more
than revenue for the same period ended on December 31, 2007. Sales volume for
these valves was 7,660 tons for 2008, up 40% from 5,468 tons in 2007. These
increases are mainly due to the fact that we are the sole manufacturer and
distributor for the integrated integral foundry two-way Metal Sealing Butterfly
Valves used to control municipal water and sewage flow. These new generation
butterfly valves have achieved 86% market share in the largest ten cities in
China. The Central Government’s encouragement of water supply and conservancy
projects in fiscal 2008 also greatly helped sales of the Company’s butterfly
valves.
 
 Revenue
from gate valves for 2008 amounted to $18,478, which is $7,885 or 74% more than
that for 2007. Sales volume was 3,272 tons for 2008, up 43% from 2,296 tons in
2007. These increases were attributable to the large increase in power station
construction projects in China. By the end of 2007, the Company had developed
the capability to manufacture high quality technology intensive forged steel
valves for use in ultra supercritical thermal power generators in 1,000MW power
stations. The Company is the sole designer and manufacturer in China for this
type of valve, which can replace the imported valves used in the thermal power
industry. The newly developed, high-margin valves perform as well as the similar
advanced overseas products and resulted in a large amount of orders in 2008. The
other factor in the sales increase in 2008 was the continued extensive use of
gate valves in the petro-chemical and nuclear power industries.
 
 Revenue
from ball valves for 2008 amounted to $3,155, which is $1,682 or 114% more than
that for 2007, Sales volume was 701 tons for 2008, up 111% from 333 tons in
2007. These increases were attributable to the large market demand for the new
generation products used in the petro-chemical industry.
 
 Revenue
from vent valves for 2008 amounted to $1,927, which is $1,360 or 240% more than
that for 2007. Sales volume was 423 tons for 2008, up 225% from 130 tons in
2007. These increases mainly reflected strong market demand.
  Cost of Sales.     Our cost
of sales is primarily comprised of the costs of our raw materials, components,
labor and overhead.  Our cost of sales increased $18.0 million to
$40.1 million in 2008 from $22.1 million in 2007. The cost of sales, as a
percentage of sales revenue, increased slightly from 59.5% in 2007 to 60.8% in
2008.  As sales revenue increases, cost of goods sold also increase
due to increased purchases of raw materials in order to meet the demand for our
products. The slight increase in cost of sales as a percentage of sales revenue
is attributable to the increase in costs of materials and labor used in
production that we did not pass on to our customers through an increase in our
per unit product prices.
  Gross Profit.  
Our gross profit is equal to the difference between our sales revenue and our
cost of sales.  Our gross profit increased $10.9 million to $25.9
million in 2008 from $15.0 million in 2007. Gross profit as a percentage of net
sales revenue decreased to 39.2% from 40.5% for the same period in 2007. This
decrease resulted primarily from higher raw material and labor costs that we
could not pass on to our customers through an increase in our per unit
prices.
   -35-
 Table of Content
  General and
Administrative Expenses. Our general and
administrative expenses, which consist primarily of related salaries and
benefits, business development, travelling expenses, and legal and
professional expenses, were $21,334,235 for 2008, compared with
$3,245,954 for 2007, an increase of $18,088,280 or approximately 557%. Included
in these expenses in 2008 is a non-cash stock compensation charge of
$14,998,974, as discussed below. The remaining increase was primarily
attributable to the following factors: (i) a non-recurring expense for
labor insurance which increased 140% due to a one time social
insurance contribution for employees who retired in the beginning of 2008; (ii)
an increases in our auditing, accounting and legal fees related to our status as
a public reporting company ; (iii) expenses relating to our reorganization in
2008 as a result of our reverse merger on December 18, 2007 and our subsequent
re-organization; and (iv) higher travelling expenses relating to our
financing activities.
 
 As
described in Note 12 to the Company’s December 31, 2008 consolidated financial
statements, in connection with the Company’s private placement on August 26,
2008, the Company entered into a make good escrow agreement, under which
25,166,064 shares of the Company’s common stock held by Bin Li, the Company’s
major shareholder, were placed in escrow. These shares are the subject of an
Earn-In Agreement between Bin Li and Siping Fang as described in Note 1 to the
consolidated financial statements and Bin Li entered into the Make Good Escrow
Agreement on behalf of Siping Fang. For each of the calendar years 2008, 2009
and 2010, 8,388,688 shares will be released to the investors or returned to the
shareholder, depending on the fulfilment of specified earnings targets. The
specified earnings target for calendar 2008 was net income of $10,500,000, for
calendar 2009 the target is net income of $23,000,000 and fully diluted earnings
per share of $0.369 and for calendar 2010 the target is net income of
$31,000,000 and fully diluted earnings per share of $0.497. In the event that
shares are required to be released from escrow to the Investors, such shares
will be recorded as a contribution to capital and a simultaneous issuance of
common shares to the Investors. The return to Bin Li of any of the shares placed
in escrow by him on behalf of Siping Fang is considered to be a separate
compensatory arrangement because Siping Fang is an officer and director of the
Company.  Accordingly, if any of the required earnings targets are met
and shares are returned to Bin Li, the Company will recognize a non-cash
compensation cost at that time equal to the then fair value of the shares
returned. For 2008, the earnings target of net income of $10,500,000 (before any
charges related to the release of any shares from escrow) was met and
accordingly, the Company recorded a non-cash charge to compensation cost of
$14,998,974 in the fourth quarter of 2008 related to the release from escrow to
Bin Li of 8,388,688 shares.
 
 Research and
Development Costs. Our research and development costs consist
of amounts spent on developing new products and enhancing our existing products.
Our research and development costs increased $113,196, or 108%, to $217,698 in
2008 from $104,502 in 2007. The increase was primarily attributable to (1)
update of certain product lines, (2) the increase in our research and
development expenses for certain valve products (3) the increase in our research
and development expense for our nuclear power station valve products, (4) our
increased investment in high end valve products, and (5) our increased spending
on developing new products.
  Selling Expenses.     Selling
expenses, which consist primarily of sales commission, advertising and promotion
expenses, sales tax, freight charges and related compensation, were $4,929,728
for 2008, compared with $2,998,585 for 2007, an increase of $1,931,143 or
approximately 64%. The increase was in line with the increase in sales. Sales
commission increased 55% which was also in line with the sales
revenue.
 
 Total Operating
Expenses.
   Our total operating expenses increased $20.2 million to $26.5
million in 2008 from $6.3 million in 2007. Excluding the non-cash compensation
charge related to the make good provision amounting to $15.0 million, as a
percentage of sales revenue, our total operating expenses were 17.5% in 2008,
compared with 17.2% in 2007.
  Income Before Income Taxes.    Excluding the
non-cash compensation charge related to the make good provision of $15.0
million, income before income taxes increased $6.7 million, or  78%,
to $15.1 million in 2008 from $8.5 million in 2007. Income before income taxes
as a percentage of revenue slightly decrease 0.1% in 2008 from
2007.
  Net Income.    Excluding the
non-cash compensation charge related to the make good provision of $15.0
million, net income increased $3.6 million, or 51%, to $10.8 million in 2008
from $7.1 million in 2007 due to an overall increase in revenue.
   -36-
 Table of Content
  Foreign
Currency Translation Gains
  We had a
foreign currency translation gain of $2.99 million for 2008 as compared with a
$1.87 million currency translation gain in 2007. In July 2005, China reformed
its foreign currency exchange policy and allowed the Renminbi to fluctuate as
much as 0.3 percent per day against the U.S. dollar. We use period-end
exchange rates in translating our assets and liabilities denominated in Renminbi
into U.S. dollars and average exchange rates for the period to translate
our income and expenses. At December 31, 2008, the period end exchange rate was
RMB1 to US$0.1467 and the average exchange rate for 2008 was RMB1 to
US$0.14415. At December 31, 2007, the period end exchange rate was RMB1 to
US$0.1371 and the average exchange rate for 2007 was RMB1 to US$0.13167. The
average exchange rate for 2008 compared with 2007 (RMB1 to US$0.14415 and RMB1
to US$0.13167, respectively) increased approximately 9%.
 
 Our sales
revenue increased by RMB 176.2 million or 63% compared with the same period
in 2007 and our operating expenses increased by RMB 135.5 million or 281%
compared with the same period in 2007. As the Renminbi increased in value
against the U.S. dollar during the period, our reported sales revenues and
operating expenses were affected, increasing 78% and 316%, respectively, in
U.S. dollar terms, as follows:
  Year
      Ended December 31,(in
      thousands)
                        2008
                        
                        2007
                        
                        Change
                        %US$
                        Average Rate
                        RMB
                        
                        US$
                        Average Rate
                        RMB
                        
                        US$
                        RMB
                        US$
                        RMBRevenue
                        65,948
                        0.14415
                        457,496
                        
                        37,036
                        0.13167
                        281,279
                        
                        28,912
                        176,217
                        78%
                        63%Total
      operating expenses
                        26,482
                        0.14415
                        183,711
                        
                        6,349
                        0.13167
                        48,219
                        
                        20,133
                        135,492
                        317%
                        281%
   Allowance
for Doubtful Debts
  Our trade
receivables net of allowance for doubtful accounts were $26.1 million as of December 31,
2008, an increase of $9.3 million, or 55%, from $16.8 million as of December 31,
2007. Our allowance for doubtful accounts totaled $1,163,457 as of December 31,
2008, compared with $274,167 at December 31, 2007.
 
 The
increase in our trade receivables was mainly due to the overall increase in
sales revenue.  Generally we consider a trade receivable as a doubtful
account only if it remains uncollected for more than one year from the due
date.  Our allowance for doubtful debts accounts for an insignificant
portion of the receivable balance in spite of the increasing trade receivable
balance throughout the reporting periods because almost all the outstanding
debts were aged less than one year. Many of our customers have long business
relationships with us and good settlement histories. In the absence of
significant bad debt experience, we consider the existing provisioning policy as
adequate.
 
 Liquidity
and Capital Resources
 
 As
of December 31, 2008, we had cash and cash equivalents of $16,427,883 and restricted cash
of $3,191,237. The
following table provides summarized information about our net cash flow for 2008
and 2007.
  Years
      Ended December 31,2008
                                              
                                              
                                              2007(dollars
      in thousands)Net
      cash (used in) provided by operating activities
                                              
                                              $
                                              (927
                                              )
                                              
                                              $
                                              4,571Net
      cash (used in) investing activities
                                              
                                              
                                              (11,082
                                              )
                                              
                                              
                                              (2,091
                                              )Net
      cash provided by (used in) financing activities
                                              
                                              
                                              25,438
                                              
                                              
                                              
                                              (5,491
                                              )Effect
      of foreign currency translation on cashand
      cash equivalents
                                              
                                              
                                              226
                                              
                                              
                                              
                                              191Net
      increase/(decrease) in cash and cash equivalents
                                              
                                              
                                              13,655
                                              
                                              
                                              
                                              (2,818
                                              )Cash
      and cash equivalents, beginning of year
                                              
                                              
                                              2,773
                                              
                                              
                                              
                                              5,591Cash
      and cash equivalents, end of year
                                              
                                              $
                                              16,428
                                              
                                              
                                              $
                                              2,773
   -37-
 Table of Content
   The
Company currently generates its cash flow through operations which it believes
will be sufficient to sustain the current level of operations for at least the
next twelve months.  In 2009, we intend to continue to work to develop
new valves and expand our presence as the leader in the development and
manufacture of various valves.
 
 We intend
to grow and expand our business in 2009.  One of the ways we expect to
grow is through acquisitions of other similar companies. We expect to acquire
high-growth small and medium size companies but will also evaluate the benefits
of acquiring larger competitors where we can combine our brand names and
consolidate the valve industry and increase our market share in the
industry.  These acquisitions will be financed either through revenues
of the Company or by financings and sales of the Company’s stock or other
securities.
 
 In
addition, China Valves expects to increase its market development and strengthen
its position as a leader in the valve market by improving the quality of
existing valves and developing newer, better quality valves.
 
 Lastly,
we intend to increase our market share by expanding into overseas
markets.  We anticipate expanding into neighboring Asian countries
over the next few years and then growing into an international valve
manufacturer that distributes to countries all over the world.
 
 In our
August 2008 equity financing transaction, we received investment proceeds of
approximately $30 million ($27 million net of financing costs). We plan to use a
substantial portion of these investment proceeds to fund our strategic
acquisitions and operations expansion plans as well as for working capital
purposes. Our management is currently evaluating potential acquisition targets
and we are in the process of negotiating the terms of these potential
acquisitions. We cannot assure you that any of the acquisitions will be able to
be completed on terms favorable to us or at all.
 Operating
Activities
  In the
fiscal year ended December 31, 2007, we had net income of $7,142,592 and cash
provided by operating activities of $4,571,359. Although our accounts receivable
increased significantly as a result of our increased sales revenues, we were
able to partially offset this increase in accounts receivable by substantial
reductions in our inventory levels and increases in our level of accounts
payable.
  -38-
 Table of Content
  
 In the
fiscal year ended December 31, 2008, although our net income (after adjusting
for the non-cash compensation charge of $14,998,974) increased to $10,762,129,
our net cash flow used by operating activities was $927,412, a reduction of
$5,498,771 from the net cash provided by operating activities of $4,571,359 in
the comparable period of 2007. Our accounts receivable again increased
significantly, reflecting our increased sales revenues, which increased by 78%
compared with the prior year. Although we were able to again reduce our
inventory levels, the amount of this reduction was much lower than in 2007
($32,045 in 2008, compared with $3,215,500 in the comparable period of 2007).
Our other payables also declined significantly in 2008, adversely affecting our
cash flow from operations. Previously, we delayed the payment of commissions to
our sales personnel and in particular were able to pay large commissions in
phases. In 2008, we made the decision to accelerate the payment of these
commissions, in order to encourage our sales personnel in a continuing effort to
enlarge our market share and increase sales. We also made a one-time payment of
RMB 5.3 million (approximately $760,000) to the Kaifeng Social Security Center
for our retired staff’s social security fund. We also had less bank acceptance
bills to suppliers in 2008 as compared with the same period of 2007; in December
2006, we acquired a quota of RMB4.6 million (approximately $675,000) of
restricted bank acceptance bills from China CITIC Bank Corporation Limited which
expired in May 2007 and which were not renewed due to the tightened monetary
policy of the Central Bank. In 2008, we did not have any bank acceptance bills.
Although our customer deposits increased (which positively affects our cash
flow), the rate of increase in 2008 was lower than in 2007, attributable to our
increasing number of repeat customers with good credit histories from whom we do
not request deposits, based on their good credit history. These customers
accounted for 60% to 70% of our customer base. The increase in other receivables
during 2008 was mainly attributable to increased cash advances to sales staff as
a result of the sales volume increases and prepayments of sales and marketing
expenses.
  Investing
Activities
  Our main
uses of cash for investing activities are for the acquisition of plant and
equipment as well as purchases for construction.  Net cash used in
investing activities in 2008 was $11.1 million, as compared with $2.1 million in
2007. The increase in net cash used in investing activities was mainly
attributable to greater equipment purchases and new factory construction in
2008.
  Financing
Activities
  Net cash
provided by financing activities in 2008 totaled $25.4 million as compared with
net cash used in financing activities of $5.5 million in 2007.  On
August 26, 2008, we completed a private placement of our common shares to
certain accredited investors for $29.9 million in gross proceeds, resulting in
$26.7 million in net proceeds after payment of $3.2 million in offering
expenses. We expect to use most of the proceeds from the private placement to
acquire other companies, although at this time it has not yet identified any
acquisitions that are probable of completion.
  Net cash
used in financing activities in 2007 totaled $5.5 million, primarily
attributable to repayment of all of our notes payable, totaling $4.5 million in
2007.
  Our debt
to equity ratio was 0.42 as of December 31, 2008 as compared to 0.74 as of
December 31, 2007. We believe we have greatly improved our company’s position by
decreasing our borrowings. We plan to maintain our debt to equity ratio as the
ratio as of December 31, 2008.
 
 As of
December 31, 2008, the maturities for our bank loans are all below one
year.
 
 We
believe that we maintain good relationships with the banks we deal with and our
current available working capital, after receiving the aggregate proceeds of the
capital raising activities and bank loans, should be adequate to sustain our
operations at our current levels through at least the next twelve
months.
 
 Capital
Expenditures
 
 Our
capital expenditures in 2008 and 2007 are set forth below. Our capital
expenditures were used primarily for plant construction and purchases of
equipment to expand our production capacity.
 
 Years
      Ended December 31,2008
                            
                            
                            2007(in
      thousands)Construction
      costs
                            
                            $
                            5,880
                            
                            
                            $
                            768Purchase
      of equipment
                            
                            $
                            3,194
                            
                            
                            $
                            629Advance
      on equipment & construction fee
                            
                            $
                            1,654
                            
                            
                            $
                            312Total
      capital expenditure
                            
                            $
                            10,728
                            
                            
                            $
                            1,709
   -39-
 Table of Content
  
 Our
depreciation and amortization expense for the years ended December 31, 2008 and
2007, and the income statement line items in which it is included, was as
follows:
 
 Years
      Ended December 31,2008
                      
                      
                      2007(in
      thousands)Cost
      of goods sold
                      
                      $
                      430
                      
                      
                      $
                      374General
      and administrative expenses
                      
                      $
                      572
                      
                      
                      $
                      196Total
      depreciation and amortization expense
                      
                      $
                      1,002
                      
                      
                      $
                      570
 
 We
estimate that our total capital expenditures in fiscal year 2009 will reach
approximately $10 million, $3.9 million of which will be used to
complete construction of a new plant in Kaifeng to increase our production
capacity.  $6.1 million will be used for purchase of new equipment and
production line upgrades for companies we plan to acquire in 2009.  The
expenditures will also be used for equipment purchases, such as those for
ultra-supercritical thermal power projects.
 
 We used
part of the net proceeds of $27 million from the private placement to fund the
new manufacturing facility construction which had a 2008 budgeted cost of $7.5
million. We also spent $3.2 million on the purchase of equipment through
December 31, 2008, resulting in total capital expenditures in 2008 of $10.7
million. Our total capital expenditures for 2009 are estimated to be
approximately $10 million, including $3.9 million to complete construction
of the new facility.
  Obligations
under Material Contracts
 
 We had a
capital commitment of approximately $3.9 million for the acquisition of
plant and machinery as of December 31, 2008.  We had no material
capital commitments as of December 31, 2007.
  Other
than the contractual obligations and commercial commitments set forth above, we
did not have any other long-term debt obligations, capital commitments, purchase
obligations or other long-term liabilities as of December 31, 2008.
 
 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.
 
 Revenue
Recognition
  The
Company’s revenue recognition policies are in compliance with Staff Accounting
Bulletin 104. Sales revenue is recognized when all of the following have
occurred: (i) persuasive evidence of an arrangement exists, (ii) delivery has
occurred or services have been rendered, (iii) the price is fixed or
determinable, and (iv) the ability to collect is reasonably assured. These
criteria are generally satisfied at the time of shipment when risk of loss and
title passes to the customer.
   -40-
 Table of Content
 
 The
Company recognizes revenue when the goods are delivered and title has passed.
Sales revenue represents the invoiced value of goods, net of a value-added tax
(VAT). All of the Company ’ s products that are sold in the PRC are subject to a
Chinese value-added tax at a rate of 17% of the gross sales price or at a rate
approved by the Chinese local government. This VAT may be offset by the VAT paid
by the Company on raw materials and other materials included in the cost of
producing the finished product.
 
 Foreign
Currency Translation and Other Comprehensive Income
 
 The
reporting currency of the Company is the US dollar. The functional currency of
our Chinese operating entities High Pressure Valve and Zhengdie Valve is the
Renminbi (RMB).
 
 For the
subsidiaries whose functional currencies are other than the US dollar, all
assets and liabilities accounts were translated at the exchange rate on the
balance sheet date; shareholders’ equity is translated at the historical rates
and items in the income and cash flow statements are translated at the average
rate for the year. Because cash flows are calculated based using the average
translation rate, amounts related to assets and liabilities reported on the
statement of cash flows will not necessarily agree with changes in the
corresponding balances on the balance sheet. Translation adjustments resulting
from this process are included in accumulated other comprehensive income in the
statement of shareholders’ equity. The resulting translation gains and losses
that arise from exchange rate fluctuations on transactions denominated in a
currency other than the functional currency are included in the results of
operations as incurred.
 
 Accumulated
other comprehensive income in the consolidated statement of shareholders’ equity
amounted to $6,009,072 and
$3,173,745 as of December 31, 2008 and 2007, respectively. The balance sheet
amounts with the exception of equity at December 31, 2008 and 2007 were
translated at 6.82 RMB and 7.29 RMB to $1.00 USD, respectively. The average
translation rates applied to income and cash flow statement amounts for the year
ended December 31, 2008 and 2007 were 6.94 RMB and 7.59 RMB to $1.00,
respectively.
 
 Income
Taxes
 
 The
Company follows Statement of Financial Accounting Standards No. 109, “Accounting
for Income Taxes” (SFAS 109) that requires recognition of deferred income tax
liabilities and assets for the expected future tax consequences of temporary
differences between the income tax basis and financial reporting basis of assets
and liabilities. Provision for income taxes consists of taxes currently due plus
deferred taxes. Because the Company had no operations within the United States
there is no provision for US income taxes and there are no deferred tax amounts
as of December 31, 2008 and 2007.
  The
charge for taxation is based on the results for the year as adjusted for items
which are non-assessable or disallowed. It is calculated using tax rates that
have been enacted or substantively enacted by the balance sheet date. Deferred
tax is accounted for using the balance sheet liability method in respect of
temporary differences arising from differences between the carrying amount of
assets and liabilities in the financial statements and the corresponding tax
basis used in the computation of assessable tax profit. In principle, deferred
tax liabilities are recognized for all taxable temporary differences, and
deferred tax assets are recognized to the extent that it is probable that
taxable profit will be available against which deductible temporary differences
can be utilized.
 
 Deferred
tax is calculated at the tax rates that are expected to apply to the period when
the asset is realized or the liability is settled. Deferred tax is charged or
credited in the income statement, except when it relates to items credited or
charged directly to equity, in which case the deferred tax is also recorded in
equity. Deferred tax assets and liabilities are offset when they relate to
income taxes levied by the same taxation authority and the Company intends to
settle its current tax assets and liabilities on a net basis.
 
 The
Company adopted FASB Interpretation 48, “Accounting for Uncertainty in Income
Taxes” (“FIN 48”), as of January 1, 2007. A tax position is recognized as a
benefit only if it is “more likely than not” that the tax position would be
sustained in a tax examination, with a tax examination being presumed to occur.
The amount recognized is the largest amount of tax benefit that is greater than
50% likely of being realized on examination. For tax positions not meeting the
“more likely than not” test, no tax benefit is recorded. The adoption of FIN 48
had no affect on the Company’s financial statements.
   -41-
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 Warranties
  We
typically warranty all of our products. It is the Company’s policy to replace
parts if they become defective within one year after deployment at no additional
charge.  Historically, failure of product parts due to materials or
workmanship is rare. Therefore, at December 31, 2008 and December 31, 2007, the
Company made no provision for warranty claims for our products.  Management
continuously evaluates the potential warranty obligation. Management will record
the expenses related to the warranty obligation if the estimated amount becomes
material at the time revenue is recorded.
 
 Concentration
Risks
 
 The
Company's operations are carried out in the PRC. Accordingly, the Company's
business, financial condition and results of operations may be influenced by the
political, economic and legal environment in the PRC, and by the general state
of the PRC's economy. The Company's operations in the PRC are subject to
specific considerations and significant risks not typically associated with
companies in North America and Western Europe. The Company's results may be
adversely affected by changes in governmental policies with respect to laws and
regulations, anti-inflationary measures, currency conversion and remittance
abroad, and rates and methods of taxation, among other things.
  Certain
financial instruments may subject the Company to concentration of credit risk.
The Company maintains bank deposits within state-owned banks within the PRC and
Hong Kong. Balances at financial institutions of state owned banks within the
PRC are not covered by insurance. As of December 31, 2008 and 2007, the
Company’s cash and restricted cash balances, totaling $11,984,233 and
$2,814,118, respectively at those dates, were not covered by insurance. The
Company has not experienced any losses in such accounts and believes it is not
exposed to any significant risks on its cash in bank
accounts.
  Five
major suppliers represented approximately 21% and 38% of the Company’s total
purchases for the years ended December 31, 2008 and 2007, respectively. Five
customers accounted for 5.24% and 5.0% of total accounts receivable as of
December 31, 2008 and 2007 respectively.
  Accounts
Receivable and Allowance For Doubtful Accounts
 
 The
Company’s business operations are conducted in the PRC. During the normal course
of business, the Company extends unsecured credit to its customers by selling on
various credit terms. Management reviews its accounts receivable on a quarterly
basis to determine if the allowance for doubtful accounts is adequate. An
estimate for doubtful accounts is recorded when collection of the full amount is
no longer probable. The Company’s existing reserve is consistent with its
historical experience and considered adequate by the management.
 
 Fair
Value of Financial Instruments
  The
Company adopted SFAS No. 157, “Fair Value Measurements” on January 1, 2008. SFAS
No. 157 defines fair value, establishes a three-level valuation hierarchy for
disclosures of fair value measurement and enhances disclosure requirements for
fair value measures. The carrying amounts reported in the balance sheets for
receivables and payables qualify as financial instruments and are a reasonable
estimate of fair value because of the short period of time between the
origination of such instruments and their expected realization and their current
market rate of interest.  The three levels are defined as
follows:
 
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 Table of Content
   Level
1   inputs to the valuation methodology are quoted prices
(unadjusted) for identical assets or liabilities in active markets.
 Level
2   inputs to the valuation methodology include quoted prices for
similar assets and liabilities in active markets, and inputs that are observable
for the assets or liability, either directly or indirectly, for substantially
the full term of the financial instruments.
 Level
3   inputs to the valuation methodology are unobservable and
significant to the fair value.
 
 The
Company invested in China Perfect Machinery Industry Co., Ltd. in 1996 and
Kaifang Commercial Bank in 1997.   These long term investments are
carried at the lower of cost or market value and amounted to $764,515 and
$714,485 as of December 31, 2008 and December 31, 2007,
respectively.  There is no quoted or observable market price for the
joint venture interest or other similar joint ventures; therefore, the Company
used level 3 inputs for its valuation methodology.   Based on its
proportionate share of the underlying book value of the investees, the Company
believes the fair value of the investments is at least equal to the original
cost at which they are carried.
  Long
Term Investment
  The Company invested in China Perfect
Machinery Industry Co., Ltd. in 1996 and Kaifeng Commercial Bank in 1997. The
Company owns approximately 0.14% of China Perfect Machinery Industry Co. Ltd.
and approximately 4.01% of Kaifeng Commercial Bank. The Company does not have
the ability to exercise control over the investee companies and the investments
have been recorded under the cost method. These long term investments amounted
to $764,515and $714,485 as of December 31, 2008
and 2007, respectively.
  The
Company periodically evaluates potential impairment whenever events or changes
in circumstances indicate that the carrying amount of the investments may not be
recoverable. For investments carried at cost, the Company recognizes impairment
of long term investments in the event that the carrying value of the investment
exceeds our proportionate share of the net book value of the investee. As of
December 31, 2008, management believes no impairment charge is
necessary.
 
 Goodwill
 
 We test
goodwill for impairment annually and whenever events or circumstances make it
more likely than not that impairment may have occurred, such as a significant
adverse change in the business climate or a decision to sell or dispose of all
or a portion of a reporting unit. Our two operating subsidiaries are considered
separate reporting units for purposes of this evaluation. Determining whether an
impairment has occurred requires valuation of the respective reporting unit,
which we estimate using a discounted cash flow method. In applying this
methodology, we rely on a number of factors, including actual operating results,
future business plans, economic projections and market data.
  We test
other identified intangible assets with defined useful lives and subject to
amortization by comparing the carrying amount to the sum of undiscounted cash
flows expected to be generated by the asset. We test any other intangible assets
with indefinite lives annually for impairment using a fair value method such as
discounted cash flows.
 
 The
calculation of value in use for the operating unit is most sensitive to the
following assumptions:
  I.
              Operating
      margin;
  II.
              Long-term
      growth rate; and
  III.
              Discount
      rates.
  Operating
margins are based on the estimated effects of planned business operation. We
believe that our operating margin is conservatively projected at 38%.
Approximately 87% of the Company’s cost of goods sold consists of raw materials,
of which approximately 60% is steel and iron. From October 2007 to September
2008, the price of steel and iron increased continuously but our operating
margin for the first nine months of 2008 was maintained at 40% due to the
increased market demand for our higher margin products. The price of steel and
iron started to decline beginning in October 2008.
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 Table of Content
  We
believe our estimated growth rate is reasonably projected at 50% per year, based
on the following factors:
  ·
              The
      Company will benefit from the central government’s announcement in
      November 2008 of a $586 billion economic stimulus plan which will provide
      huge spending on infrastructure and construction including post-earthquake
      reconstruction in Sichuan Province. Three to five percent of the total
      infrastructure expenditure will go to the valve industry and valves
      regulate the flow of fluids and are widely used in a variety of industries
      and residential facilities.
  ·
              Before
      the stimulus plan, according to the General Machinery Industry Association
      of China, the size of the Chinese valve industry was expected to grow to
      $12.25 billion in 2009 from $7.25 billion in 2007 at a compound average
      growth rate of 30%.
  ·
              The
      Company also expects to benefit from China's aggressive plans to undertake
      new oil and gas pipeline projects and increase nuclear power
      capacity.
  ·
              The
      Company has planned to maintain its capital expenditures around
      $10 million in 2009 from $10.7 million in 2008. Over a third of the funds
      will be spent on a new plant for our operating subsidiary in Kaifeng City,
      which is expected to begin production in March 2009. The new facilities
      will significantly increase our production capacities for our high-tech,
      high-margin valves.
  ·
              The
      Company is seeking acquisitions to help the Company diversify its
      portfolio of fluid equipment products. Synergy from any acquisitions will
      also be expected to contribute to cost
  efficiency.
  The
discount rate applied to the cash flow projections is 6.5 per cent. This
discount rate is derived from the Company’s weighted average cost of capital,
adjusted for the risks specific to the market. The discount rate reflects
management’s estimate of the long-run return on capital. Changes in our funding
or the cost of that funding could result in changes to the discount rates
used.
  The
Company performs a sensitivity analysis by increasing the discount rate to 10%
and reducing the risk-adjusted cash flow projections (decrease in margins and
decrease in growth) by 15 per cent; such adjustments have not indicated that
there is any impairment of goodwill.
 
 Stock
Based Compensation
  The
Company applies Statement of Financial Accounting Standards No. 123R “Accounting
for Stock-Based Compensation” (“SFAS 123R”), which defines a fair-value-based
method of accounting for stock based employee compensation and transactions in
which an entity issues its equity instruments to acquire goods and services from
non-employees. Stock compensation for stock granted to non-employees has
been determined in accordance with SFAS 123R and the Emerging Issues Task
Force consensus in Issue No. 96-18, "Accounting for Equity Instruments that are
issued to Other than Employees for Acquiring, or in Conjunction with Selling
Goods or Services" ("EITF 96-18"), as the fair value of the consideration
received or the fair value of equity instruments issued, whichever is more
reliably measured. SFAS 123R allows the “simplified” method to determine the
term of employee options when other information is not available.
  The
Company follows the guidance in EITF 07-5 “Determining Whether an Instrument (or
Embedded Feature) is Indexed to an Entity’s Own Stock”. Paragraph 11(a) of SFAS
133 “Accounting for Derivatives and Hedging Activities” specifies that a
contract that would otherwise meet the definition of a derivative but is both
(a) indexed to the Company’s own stock and (b) classified in
stockholders’ equity in the statement of financial position would not be
considered a derivative financial instrument. EITF 07-5 provides a new two-step
model to be applied in determining whether a financial instrument or an embedded
feature is indexed to an issuer’s own stock and thus able to qualify for the
SFAS 133 paragraph 11(a) scope exception. All Company warrants are denominated
in U.S. dollars; because the Company’s functional currency is the Renminbi, the
Company accounts for these warrants as derivative instrument liabilities and
marks them to market each period.
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 Recently
issued accounting pronouncements
  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 (“FAS 159”). FAS 159 permits companies to choose to measure man y financial
instruments and certain other items at fair value that are not currently
required to be measured at fair value. The objective of FAS 159 is to provide
opportunities to mitigate volatility in reported earnings caused by measuring
related assets and liabilities differently without having to apply hedge
accounting provisions. FAS 159 also establishes presentation and disclosure
requirements designed to facilitate comparisons between companies that choose
different measurement attributes for similar types of assets and liabilities.
The Company adopted SFAS No. 159 on January 1, 2008. The Company chose not to
elect the option to measure the fair value of eligible financial assets and
liabilities.
  In June
2007, the FASB issued FASB Staff Position No. EITF 07-3, “Accounting for
Nonrefundable Advance Payments for Goods or Services Received for use in Future
Research and Development Activities” (“FSP EITF 07-3”), which addresses whether
nonrefundable advance payments for goods or services that are to be used for
future research and development activities should be expensed when the advance
payment is made or when the research and development activity has been
performed.  The Company adopted FSP EITF 07-3 and expenses any such
advance payments when the research and development is performed.
  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
adoption of FAS 160 is not expected to have any material affect on the Company’s
financial statements.
 
 In
December 2007, Statement of Financial Accounting Standards No. 141(R), “Business
Combinations”, was issued. SFAS No. 141R replaces SFAS No. 141, “Business
Combinations”. SFAS 141R retains the fundamental requirements in SFAS 141 that
the acquisition method of accounting (which SFAS 141 called the purchase method)
be used for all business combinations and for an acquirer to be identified for
each business combination. SFAS 141R requires an acquirer to recognize the
assets acquired, the liabilities assumed, and any noncontrolling interest in the
acquiree at the acquisition date, measured at their fair values as of that date,
with limited exceptions.
 
 This
replaces SFAS 141’s cost-allocation process, which required the cost of an
acquisition to be allocated to the individual assets acquired and liabilities
assumed based on their estimated fair values. SFAS 141R also requires the
acquirer in a business combination achieved in stages (sometimes referred to as
a step acquisition) to recognize the identifiable assets and liabilities, as
well as the noncontrolling interest in the acquiree, at the full amounts of
their fair values (or other amounts determined in accordance with SFAS
141R). SFAS 141R applies prospectively to business combinations for which
the acquisition date is on or after the beginning of the first annual reporting
period beginning on or after December 15, 2008. An entity may not apply it
before that date.
  In March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities, an amendment of FASB Statement No. 133”, (“SFAS 161” ) which
requires additional disclosures about the objectives of the derivative
instruments and hedging activities, the method of accounting for such
instruments under SFAS 133 and its related interpretations, and a tabular
disclosure of the effects of such instruments and related hedged items on our
financial position, financial performance, and cash flows. SFAS 161 is effective
for us beginning January 1, 2009. The Company is currently evaluating the impact
that adopting SFAS 161 will have on its financial statements.
 
 In April
2008, the FASB issued FASB Staff Position 142-3 “Determination of the useful
life of Intangible Assets”, which amends the factors a company should consider
when developing renewal assumptions used to determine the useful life of an
intangible asset under SFAS 142. This Issue is effective for financial
statements issued for fiscal years beginning after December 15, 2008, and
interim periods within those fiscal years. SFAS 142 requires companies to
consider whether renewal can be completed without substantial cost or material
modification of the existing terms and conditions associated with the asset. FSP
142-3 replaces the previous useful life criteria with a new requirement — that
an entity consider its own historical experience in renewing similar
arrangements. If historical experience does not exist, then the Company would
consider market participant assumptions regarding renewal including 1) highest
and best use of the asset by a market participant, and 2) adjustments for other
entity-specific factors included in SFAS 142. Adoption of FSP 142-3 had no
affect on the Company’s financial statements.
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 Table of Content
  
 In May
2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted
Accounting Principles.” This Statement identifies the sources of accounting
principles and the framework for selecting the principles to be used in the
preparation of financial statements of nongovernmental entities that are
presented in conformity with generally accepted accounting principles (GAAP) in
the United States (the “GAAP hierarchy”). SFAS 162 does not change the existing
GAAP hierarchy and its adoption had no affect on the Company’s financial
statements.
 
 In May
2008, the FASB issued SFAS No. 163, “Accounting for Financial Guarantee
Insurance Contracts, an interpretation of FASB Statement No. 60.” The scope of
this Statement is limited to financial guarantee insurance (and reinsurance)
contracts, as described in this Statement, issued by enterprises included within
the scope of Statement 60. Accordingly, this Statement does not apply to
financial guarantee contracts issue d by enterprises excluded from the scope of
Statement 60 or to some insurance contracts that seem similar to financial
guarantee insurance contracts issued by insurance enterprises (such as mortgage
guaranty insurance or credit insurance on trade receivables). This Statement
also does not apply to financial guarantee insurance contracts that are
derivative instruments included within the scope of FASB Statement No. 133,
“Accounting for Derivative Instruments and Hedging Activities.” This Statement
will not have any impact on the Company’s financial statements.
 
 In June
2008, the FASB issued Emerging Issues Task Force Issue 07-5 “Determining whether
an Instrument (or Embedded Feature) is Indexed to an Entity’s Own Stock” (“EITF
07-5”). This Issue is effective for financial statements issued for fiscal years
beginning after December 15, 2008, and interim periods within those fiscal
years. Paragraph 11(a) of Statement of Financial Accounting Standard No. 133
“Accounting for Derivatives and Hedging Activities” (“SFAS 133”) specifies that
a contract that would otherwise meet the definition of a derivative but is both
(a) indexed to the Company’s own stock and (b) classified in
stockholders’ equity in the statement of financial position would not be
considered a derivative financial instrument. EITF 07-5 provides a new two-step
model to be applied in determining whether a financial instrument or an embedded
feature is indexed to an issuer’s own stock and thus able to qualify for the
SFAS 133 paragraph 11(a) scope exception. Amongst other requirements, EITF 07-5
requires derivative liability accounting for options and warrants exercisable at
strike prices denominated in a currency other than the functional currency of
the issuer. We previously issued warrants to purchase 100,000 shares of our
Common Stock to CCG Investors Relation Partners LLC on December 12, 2007 and on
August 26, 2008, we issued to Brean Murray, Carret & Co., LLC and Rosewood
Securities, LLC warrants to purchase 1,174,497 shares of our Common Stock. All
of these warrants are denominated in U.S. dollars. The Company already accounts
for these warrants as derivative instrument liabilities and marks to market
their value each period. The adoption of EITF 07-5 is not expected to have
any affect on the Company’s financial statements.
 
 In June
2008, the FASB issued EITF Issue No. 08-4, “Transition Guidance for Conforming
Changes to Issue No. 98-5 (“EITF 08-4”)”.  The objective of EITF 08-4 is to
provide transition guidance for conforming changes made to EITF 98-5,
“Accounting for Convertible Securities with Beneficial Conversion Features or
Contingently Adjustable Conversion Ratios”, that result from EITF 00-27
“Application of Issue 98-5 to Certain Convertible Instruments”, and SFAS 150,
“Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity”. This Issue is effective for financial statements
issued for fiscal years ending after December 15, 2008. Early application is
permitted. This Statement did not have any impact on the Company’s
financial statements.
  In
October 2008, the FASB issued FSP FAS 157-3, “Determining the Fair Value of a
Financial Asset in a Market That Is Not Active” (FSP 157-3), which clarifies the
application of SFAS 157 when the market for a financial asset is inactive.
Specifically, FSP 157-3 clarifies how (1) management’s internal assumptions
should be considered in measuring fair value when observable data are not
present, (2) observable market information from an inactive market should be
taken into account, and (3) the use of broker quotes or pricing services should
be considered in assessing the relevance of observable and unobservable data to
measure fair value. The Company adopted the provisions of FSP 157-3 which did
not impact the Company’s financial position or results of
operations.
 
 In
December 2008, the FASB issued FSP FAS 140-4 and FIN 46(R)-8, “Disclosures by
Public Entities (Enterprises) about Transfers of Financial Assets and Interests
in Variable Interest Entities” (“FSP FAS 140-4 and FIN 46(R)-8”). FSP FAS 140-4
and FIN 46(R)-8 amends FAS 140 and FIN 46(R) to require additional disclosures
regarding transfers of financial assets and interest in variable interest
entities. FSP FAS 140-4 and FIN 46(R)-8 is effective for interim or annual
reporting periods ending after December 15, 2008. FSP FAS140-4 and
FIN46(R)-8 did not have any impact on the Company's financial
statements.
   -46-
 Table of Content
 
 In
January 2009, the FASB issued FSP EITF 99-20-1, “Amendments to the Impairment
Guidance of EITF Issue No. 99-20, and EITF Issue No. 99-20, Recognition of
Interest Income and Impairment on Purchased and Retained Beneficial Interests in
Securitized Financial Assets”. FSP EITF 99-20-1 changes the impairment model
included within EITF 99-20 to be more consistent with the impairment model of
SFAS 115. FSP EITF 99-20-1 achieves this by amending the impairment model in
EITF 99-20 to remove its exclusive reliance on “market participant” estimates of
future cash flows used in determining fair value. Changing the cash flows used
to analyze other-than-temporary impairment from the “market participant” view to
a holder’s estimate of whether there has been a “probable” adverse change
in estimated cash flows allows companies to apply reasonable judgment in
assessing whether an other-than-temporary impairment has occurred. The adoption
of FSP EITF 99-20-1, which is effective for annual reporting periods ending
after December 15, 2008 did not have a material impact on our consolidated
financial statements.
 
 Off-Balance
Sheet Arrangements
  We do not
have any off-balance sheet arrangements.
  Seasonality
  Our
operating results and operating cash flows historically have not been subject to
seasonal variations. This pattern may change, however, as a result of new market
opportunities or new product introductions.
 
 Item 7A.  Quantitative and Qualitative Disclosure About Market
Risk
 
 Not
required.
  Item 8.  Financial Statements and Supplementary Financial
Data
  The full
text of our audited consolidated financial statements as of December 31, 2008
and 2007 begins on page F-1 of this Annual Report on Form 10-K.
  Item 9.  Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.
  Change
in Accountants
 
 Prior to
our share exchange transaction, the independent registered public accounting
firm for Intercontinental Resources Inc. was Chisholm, Bierwolf & Nilson,
LLC (“Chisholm”). On December 16, 2007, concurrent with the reverse acquisition,
our board of directors approved the dismissal of Chisholm as the independent
auditor of the registrant. Concurrent with the decision to dismiss Chisholm as
our independent auditor, our board of directors elected to appoint Madsen &
Associates CPAs, Inc., the independent auditor of China Valves, as our
independent auditor.
 
 Chisholm’s
report on Intercontinental Resources Inc.’s financial statements as of and for
the fiscal year ended December 31, 2006 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 that its report for the fiscal year
ended December 31, 2006
contained a going concern qualification as to the Holding Company’s ability to
continue.
 
 In
connection with the audit for the fiscal year ended December 31, 2006, and
during the subsequent interim period through December 16 , 2007, there were (1)
no disagreements with Chisholm 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 Chisholm, would have
caused Chisholm. to make reference to the subject matter of the disagreements in
connection with its reports, and (2) no events of the type listed in paragraphs
(A) through (D) of Item 304(a)(1)(v) of Regulation S-K.
 
  -47-
 Table of Content
   During
the fiscal year ended December 31, 2006 and through December 16, 2007, neither
us nor anyone acting on our behalf consulted Madsen & Associates CPAs, Inc.
with respect to (i) the application of accounting principles to a specified
transaction, either completed or proposed, or the type of audit opinion that
might be rendered on our
financial statements, and neither a written report was provided to us or oral
advice was provided that Madsen & Associates CPAs, Inc. concluded was an
important factor considered by us in reaching a decision as to the accounting,
auditing or financial reporting issue; or (ii) any matter that was the subject
of a disagreement or reportable events set forth in Item 304(a)(1)(iv) and (v),
respectively, of Regulation S-K.
 
 On
February 19, 2008, Madsen was dismissed as independent auditor for the Company.
On February 19, 2008, the Company engaged Moore Stephens Wurth Frazer and
Torbet, LLP (“Moore Stephens”) as its principal independent auditor. This
decision to engage Moore Stephens was ratified by the majority approval of the
Board of Directors of the Company.
 
 For
fiscal year 2007 and any subsequent interim period through Madsen’s termination
on February 19, 2008, neither us nor anyone acting on our behalf consulted Moore
Stephens with respect to (i) the application of accounting principles to a
specified transaction, either completed or proposed, or the type of audit
opinion that might be rendered on our financial statements, and neither a
written report was provided to us or oral advice was provided that Madsen
concluded was an important factor considered by us in reaching a decision as to
the accounting, auditing or financial reporting issue; or (ii) any matter that
was the subject of a disagreement or reportable events set forth in Item 304(a)
(1)(iv) and (v), respectively, of Regulation S-K.
 
 Madsen’s
reports on China Valve Holdings Limited’s balance sheets as of December 31, 2006
and 2005, and the related statements of income, stockholders’ equity and
comprehensive income, and cash flows for each of the years ended December 31,
2006 and 2005 did not contain an adverse opinion or disclaimer of opinion and
were not qualified or modified as to uncertainty, audit scope, or accounting
principles. Management of the Company has not had any disagreements with Madsen
and Chisholm related to any matter of accounting principles or practices,
financial statement disclosure or auditing scope or procedure. For the two most
recent fiscal years and any subsequent interim period through Madsen’s
termination on February 19, 2008, there has been no disagreement between the
Company and Madsen on any matter of accounting principles or practices,
financial statement disclosure, or auditing scope or procedure, which
disagreement, if not resolved to the satisfaction of Madsen would have
caused it to make a reference to the subject matter of the disagreement in
connection with its reports.
  Item 9A.  Controls and Procedures.
 
 (a)
Evaluation of Disclosure Controls and Procedures
 
 Our
management, with the participation of our chief executive officer and chief
financial officer, Messrs. Siping Fang and Renrui Tang, respectively, evaluated
the effectiveness of our disclosure controls and procedures. The term
“disclosure controls and procedures,” as defined in Rules 13a-15(e) and
15d-15(e) under the Exchange Act, means controls and other procedures of a
company that are designed to ensure that information required to be disclosed by
a company in the reports, such as this report, that it files or submits under
the Exchange Act is recorded, processed, summarized and reported, within the
time periods specified in the SEC’s rules and forms. Disclosure controls and
procedures include, without limitation, controls and procedures designed to
ensure that information required to be disclosed by a company in the reports
that it files or submits under the Exchange Act is accumulated and communicated
to the company’s management, including its principal executive and principal
financial officers, as appropriate to allow timely decisions regarding required
disclosure. Management recognizes that any controls and procedures, no matter
how well designed and operated, can provide only reasonable assurance of
achieving their objectives and management necessarily applies its judgment in
evaluating the cost-benefit relationship of possible controls and procedures.
Based on that evaluation, Messrs. Fang and Tang concluded that because of the
material weakness in internal control over financial reporting described below,
our disclosure controls and procedures were not effective as of December 31,
2008, to satisfy the objectives for which they are intended.
   -48-
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 (b)
Management’s annual 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:
 
 ·
              pertain
      to the maintenance of records that in reasonable detail accurately and
      fairly reflect the transactions and dispositions of our
      assets;
 ·
              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
 ·
              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.
 
 During
our assessment of the effectiveness of internal control over financial reporting
as of December 31, 2008, our management identified material weakness 
related to the following:
  1. Accounting
and Finance Personnel Weaknesses  –  US GAAP
expertise.  Our current accounting staff is relatively new and
inexperienced, and needs substantial training to meet the higher demands of
being a U.S. public company. The accounting skills and understanding necessary
to fulfill the requirements of U.S. GAAP-based reporting, including the skills
of subsidiary financial statements consolidation, are inadequate and were
inadequately supervised. The lack of sufficient and adequately trained
accounting and finance personnel resulted in an ineffective segregation of
duties relative to key financial reporting functions.
 
 2.  
Lack of
Internal Audit Function  – We lack qualified resources to perform
the internal audit functions properly.  In addition, the scope and
effectiveness of the internal audit function are yet to be
developed.
 
 3. Lack of
Internal Audit System
– We lack an
internal audit department, which renders ineffective our ability to prevent and
detect control lapses and errors in the accounting of certain key areas like
revenue recognition, purchase approvals, inter-company transactions, cash
receipt and cash disbursement authorizations, inventory safeguard and proper
accumulation for cost of products, in accordance with our appropriate costing
method.  Management also determined that the lack of an Audit
Committee of the board of directors of the Company also contributes to
insufficient oversight of our accounting and audit functions.
  As
disclosed in our Management's Annual Report on Internal Control over Financial
Reporting filed with the 2007 Form 10-K, the Company's management has identified
the steps necessary to address the material weaknesses described above and in
2008, we continued to implement these remedial procedures.
  1. Hire,
as needed,  additional accounting and operations personnel and outside
contractors with technical accounting expertise and  reorganized the
accounting and finance department to ensure that accounting personnel with
adequate experience, skills and knowledge relating to complex, non-routine
transactions are directly involved in the review and accounting evaluation of
our complex, non-routine transactions.
 2.  Involve,
as needed, both internal accounting and operations personnel and outside
contractors with technical accounting expertise early in the evaluation of our
complex, non-routine transaction to obtain additional guidance as to the
application of generally accepted accounting principles to such a proposed
transaction.
 3.  Require
that our senior accounting personnel and the principal accounting officer review
our complex, non-routine transactions to evaluate and approve the accounting
treatment for such transactions.
 4.  Interview
prospective persons for appointment to our Board, including a person who is
appropriately credentialed as a financial expert with a goal to establish an
Audit and Compensation committee as well as ensure that we have sufficient
independent directors.
 5.
Evaluate our internal audit function in relation to our financial resources and
requirements.
   -49-
 Table of Content
 
 Our
management is not aware that the material weakness in our internal control over
financial reporting causes them to believe that any material inaccuracies or
errors existed in our financial statement as of December 31, 2008. The
reportable conditions and other areas of our internal control over financial
reporting identified by us as needing improvement have not resulted in a
material restatement of our financial statements. Nor are we aware of any
instance where such reportable conditions or other identified areas of weakness
have resulted in a material misstatement or omission in any report we have filed
with or submitted to the Commission.
 
 Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. 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 and procedures may deteriorate.
 
 Management
remains committed to improving its internal controls and will continue to work
to put effective controls in place. The Company is actively recruiting staff
with good knowledge of U.S. GAAP to assist in the Company’s financial
reporting.
 
 This
annual report does not include an attestation report of our registered public
accounting firm regarding internal control over financial reporting.
Management’s report was not subject to attestation by our registered public
accounting firm pursuant to temporary rules of the SEC that permit the Company
to provide only management’s report in this annual report.
 
 (c)
Changes in internal control over financial reporting
 
 Except as
described above, there were no changes in our internal controls over financial
reporting during the fourth quarter of our fiscal year ended December 31, 2008,
that have materially affected, or are reasonably likely to materially affect,
our internal control over financial reporting.
 
 Item 9B.  Other Information.
  None.
  PART
III
  Item 10.   Directors, Executive Officers, and Corporate
Governance
  Directors
and Executive Officers
  The
following table sets forth the names, ages, and positions of our executive
officers and directors as of March 13, 2009. Executive officers are elected
annually by our Board of Directors.  Each executive officer holds his
office until he resigns, is removed by the Board, or his successor is elected
and qualified.  Directors are elected annually by our stockholders at
the annual meeting.  Each director holds his office until his
successor is elected and qualified or his earlier resignation or
removal.
  NAME
                  AGE
                  POSITIONSiping
      Fang
                  55
                  President,
      Chief Executive Officer, Chairman and SecretaryZengbiao
      Yu
                  47
                  DirectorRenrui
      Tang
                  35
                  Chief
      Financial OfficerPeter
      Li
                  44
                  DirectorWilliam
      Haus
                  45
                  DirectorQizhong
      Xiang
                  60
                  Chief
      Technology OfficerBinjie
      Fang
                  35
                  Chief
      Operating Officer and
Director
   -50-
 Table of Content
    Siping Fang, Chairman, Chief Executive Officer,
Chairman and Secretary
 Mr. Fang
has over 20 years’ of experience in the valve industry.  In 2001, Mr.
Fang established Zhengdie Valve and was appointed as President and CEO of that
company. In 2003, Mr. Fang acquired state-owned enterprise High Pressure Valve
and was appointed as President and CEO of the company. Mr. Fang has been
responsible for making strategic decisions on major corporate issues and
directing the operations and market expansion of both companies. In 2007, Mr.
Fang became our CEO after the reverse acquisition of China Valve
Samoa.
 
 Zengbiao
Yu, Director
 Mr. Yu
has been working as a professor and a Ph.D. tutor for Tsinghua University since
1999. Mr. Yu is currently a member of PRC Accounting Study Committee and PRC
Cost Research Committee, the special editor of Accounting Study, a publication
of PRC Accounting Study Committee, and independent director of China Heavy Auto
Company and Shanghai Yongle Company Limited. In addition, he is an editor of
"Educational Case Journal" published by IMA of U.S.A. Mr. Yu has a Ph.D. in
modern management accounting from a business school established jointly by the
University of Illinois and Xiamen University. He was awarded "certificates of
high attainment" from the University of Illinois in 1991 and was recognized as
an "outstanding accountant" by the Ministry of Finance in 1995.
 
 Renrui
Tang, Chief Financial Officer
 Mr. Tang
became our CFO on February 1, 2009. Between 1994 and 2004, Mr. Tang worked for
Zhengdie Valve as the manager of the financial department and was in charge of
the firm’s financing activities and various issues related to its accounting.
From 2004 to January 2009, Mr. Tang was the financial director of High Pressure
Valve. His major duties included managing accounting and financing activities,
supervising financial analysis, capital allocation, internal control and
auditing.
  William
Haus, Director
 Since
August 2008, Mr. Haus is the CEO and director of CS China Acquisition
Corporation, a special purpose acquisition corporation focused on effecting a
business combination with a China-based private company. Over the past 8 years,
Mr. Haus has worked in a variety of roles in analyzing companies and evaluating
companies as potential investments. From September 2005 to May 2008, Mr. Haus
was the Analyst for The Pinnacle Fund & The Pinnacle China Fund, both of
which are hedge funds focused on investment opportunities in the United States
and China. Between April 2005 and September 2005, he was the S.V.P. and Equity
Research Analyst for Healthcare Information Technology and Pharmaceutical
Outsourcing, Stanford Group Company, a securities brokerage firm. From March
2000 to March 2005, Mr. Haus was the Senior Equity Research Analyst for
Healthcare Information Technology and Pharmaceutical Outsourcing, Advest, Inc.,
a securities brokerage firm. Mr. Haus graduated from the State University of New
York College at Fredonia with a B.S. in business administration and a B.A. in
economics and received a Master of Business Administration from Boston
University. He is a Chartered Financial Analyst (CFA) and member of the CFA
Institute.
  Peter
Li, Director
 
 Peter Li
brings more than 15 years experience of corporate financial management, investor
relationship management, corporate strategy and internal controls. Since August
2008, Mr. Li is a co-founder and director of CS China Acquisition Corp., an
OTCBB listed company engaged in seeking a business combination with a Chinese
operating company.  Since June 2008, he is also an independent
director and audit committee chairman for Yuhe International Inc., an OTCBB
listed company in the broiler breeding business in China. Mr. Li is also a
senior advisor to Yucheng Technologies, Ltd., a leading IT service provider to
the banking industry in China. Between October 2004 and November 2006, Mr. Li
was the CFO of Beijing Sihitech Technology Co. which merged to form Yucheng
Technologies, Ltd. Prior to his tenure at Beijing Sihitech Technology Co., Mr.
Li worked in corporate financial management with various companies, including
the role of Internal Controller at Lenovo. Mr. Li graduated from Beijing Foreign
Studies University with a B.A. and received a Master of Education from the
University of Toronto. Mr. Li is a Certified General Accountant in Ontario,
Canada.
 
 Qizhong Xiang, Chief Technology
Officer
 Since
1998, Mr. Xiang has been working in various positions for the Company’s
subsidiary Zhengdie Valve as a valve engineer, vice president of marketing and
director of research and development. Prior to joining the Company, Mr. Xiang
was a valve engineer for Hong Cheng Co. Ltd.
   -51-
 Table of Content
  Board
Composition and Committees
 
 The Board of Directors is currently
composed of five members: Siping Fang, Binjie Fang, William Haus, Peter Li and Zengbiao Yu.
  We
currently have standing audit, corporate governance and nominating, and
compensation committees.
  Our audit
committee comprises Peter Li, William Haus and Zengbiao Yu. Peter Li serves as
the chairman of the audit committee. The audit committee is primarily
responsible for reviewing the services performed by our independent auditors,
evaluating our accounting policies and our system of internal controls. Mr. Li
serves as our
 audit
committee financial expert as that term is defined by the applicable SEC
rules.
 
 The
corporate governance and nominating committee comprises William Haus, Siping
Fang and Zengbiao Yu with Mr. Yu as the chairman. The committee is primarily
responsible for nominating directors and setting policies and procedures for the
nomination of directors. The committee is also responsible for overseeing the
creation and implementation of our corporate governance policies and
procedures.
  The
compensation committee comprises Peter Li, William Haus and Zengbiao
Yu  with William Haus as the chairman. The compensation committee is
primarily responsible for reviewing and approving our compensation and benefit
policies, including compensation of executive officers.
 
 Independent
Directors
  Our Board
is currently composed of five members, three of which, Peter Li, William Haus
and Zengbiao Yu, are “independent” as that term is defined by Rule 4200(a)(15)
of the NASDAQ listing standards.
  Policy
Regarding Board Attendance
 
 Our
directors are expected to attend Board meetings as frequently as necessary to
properly discharge their responsibilities and to spend the time needed to
prepare for each such meeting.  Our directors are expected to attend
annual meetings of stockholders, but we do not have a formal policy requiring
them to do so.
  Family
Relationships
  Mr.
Binjie Fang is the son of Mr. Siping Fang.  Other than otherwise
disclosed, there are no other family relationships between any of our directors
or executive officers.
 
 Involvement
in Certain Legal Proceedings
 
 To the
best of our knowledge, none of our directors or executive officers has been
convicted in a criminal proceeding, excluding traffic violations or similar
misdemeanors, or has been a party to any judicial or administrative proceeding
during the past five years that resulted in a judgment, decree or final order
enjoining the person from future violations of, or prohibiting activities
subject to, federal or state securities laws, or a finding of any violation of
federal or state securities laws, except for matters that were dismissed without
sanction or settlement. Except as set forth in the discussion below in Item 13
“Certain Relationships and Related Transactions, and Director Independence” none
of our directors, director nominees or executive officers has been involved in
any transactions with us or any of our directors, executive officers, affiliates
or associates which are required to be disclosed pursuant to the rules and
regulations of the SEC.
 
 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. In 2008, we were late in filing
Form 4 for Jing Chen and Form 3 for Peter Li due to an administrative
oversight.
 
  -52-
 Table of Content
  Code
of Ethics
  We
currently do not have a code of ethics that applies to our officers, employees
and directors, including our Chief Executive Officer and senior executives;
however, we intend to adopt one in the near future.
 
 Item 11.   Executive Compensation
  Summary
Compensation Table
 
 The
following table sets forth information concerning all compensation awarded to,
earned by or paid to the following persons for services rendered in all
capacities during 2008 and 2007: Siping Fang, who became our President and Chief
Executive Officer when we completed the reverse acquisition.  No other
executive officers received total compensation in excess of $100,000 in any
fiscal year.
  Name
      and Principal Position
                    Year
                    Salary
                    Total
                      ($)Matthew
      Markin, former Chairman andCEO
      (1)
                    2008
                    N/A
                    N/A2007
                    0
                    0Siping
      Fang, President, CEO and Director  (2)(3)
                    2008
                    $100,000
                    $100,0002007
                    $100,000
                    $100,000
 
 (1)
              Mr.
      Markin did not receive any compensation for his services in 2007 because
      the company was not operating at the time he served as the Chief Executive
      Officer and Chief Financial Officer. On December 18, 2007, Mr. Markin
      resigned from his positions in connection with the reverse merger between
      Intercontinental Resources, Inc. and China
  Valves.
 
 (2)
              On
      December 18, 2007, we acquired China Valves in a reverse acquisition
      transaction that was structured as a share exchange and in connection with
      that transaction, Mr. Fang became our Chief Executive Officer, President
      and Secretary. Prior to the effective date of the reverse acquisition, Mr.
      Fang served Henan Tonghai Valve as Chief Executive Officer and Chairman.
      The compensation shown in this table includes the amount Mr. Fang received
      from Henan Tonghai Valve prior to the consummation of our reverse
      acquisition of China Valves on December 18, 2007 in addition to the
      compensation Mr. Fang received for his services for the remainder of
      2007.
 
 (3)
              Does
      not include a non-cash compensation charge of $14,998,974 in
      connection with 8,388,688 common shares to be released for the year
      2008 to Bin Li pursuant to the Make Good Escrow Agreement dated August 26,
      2008, which shares are subject to the Earn-In Agreement between Bin Li and
      Siping Fang.
 
 Bonuses
and Deferred Compensation
 
 We do not
have any bonus, deferred compensation or retirement plan.
 
 Options
and Stock Appreciation Rights
 
 We do not
currently have a stock option or other equity incentive plan.
 
 Employment
Contracts
 
 We have
no employment contracts with any of our executive officers or
employees
 .
 -53-
 Table of Content
   Payment
of Post-Termination Compensation
  The
Company does not have change-in-control agreements with any of its executive
officers, and the Company is not obligated to pay severance or other enhanced
benefits to executive officers upon termination of their
employment.
  Director
Compensation
 
 The
following table sets forth all compensation awarded to, earned by or paid to the
directors in 2008:
 
 Name
                Fees
      Earned or Paid in Cash
                Stock
      Awards
                Option
      Awards
                TotalZengbiao
      Yu
                $17,000
                N/A
                N/A
                $17,000Siping
      Fang
                N/A
                N/A
                N/A
                N/ABinjie
      Fang
                N/A
                N/A
                N/A
                N/APeter
      Li
                $12,000
                N/A
                N/A
                $12,000William
      Haus
                $12,000
                N/A
                N/A
                $12,000
  Zengbiao
Yu was appointed director effective as of January 30, 2008.  We
entered into an independent director indemnification agreement with Zengbiao Yu,
pursuant to which he is entitled to $17,000, as annual compensation for the
services to be provided as an independent director, and as chairperson of
various board committees, as applicable.  Under the terms of the
indemnification agreement, we agreed to indemnify the independent director
against expenses, judgments, fines, penalties or other amounts actually and
reasonably incurred by the independent director in connection with any
proceeding if the independent director acted in good faith and in our best
interests.  It is our practice to reimburse our directors for
reasonable travel expenses related to attendance at board of directors and
committee meetings.
  On
November 22, 2008, the Company appointed Peter Li and William Haus as new
directors of the Company to fill the vacancies created by Huifeng Chen and
Renrui Tang’s resignations from the board on the same day. We entered
into separate independent director agreements with Peter Li and William
Haus.
 
 Mr. Li’s
agreement is effective as of November 22, 2008 for a term of two years. Under
the terms of Mr. Li’s agreement, the Company agreed to pay Mr. Li a monthly fee
of $1,000, as compensation for the services to be provided by him as a director
of the Company. The Company also agreed to grant a non-qualified stock option to
Mr. Li for the purchase of 45,000 shares of common stock of the Company at an
exercise price of $4.00.  One third of the options (or 15,000 shares)
will vest on November 22, 2009. The remaining options will vest in eight equal
quarterly installments (or 3,750 shares each installment) over a two-year period
in every quarter after November 22, 2009. The stock option expires in five
years. Mr. Li’s agreement also contains customary confidentiality and
non-compete provisions.
 
 The
agreement with Mr. Haus became effective on December 1, 2008. Under the terms of
Mr. Haus’ agreement, the Company agreed to pay Mr. Haus a monthly fee of $1,000,
as compensation for the services to be provided by him as a director of the
Company. The Company also agreed to grant 10,000 shares of restricted common
stock to Mr. Haus on December 1, 2008. The restricted shares are subject to a
lock-up agreement for a period of 30 months and will be returned to the company
should Mr. Haus voluntarily resign within 18 months. Mr. Haus’ agreement also
prohibits Mr. Haus from disclosing any confidential information of the Company
..
  The stock
options and restricted common shares granted to Mr. Li and
Mr. Haus have not yet been issued as of December 31, 2008.
  Mr.
Siping Fang and Mr. Binjie Fang are paid in their capacity as executive officers
of the Company and they do not receive any additional compensation for their
service as directors.
 
 Limitation
of Liability and Indemnification of Officers and Directors
  Our
bylaws provide for the indemnification of our present and prior directors and
officers or any person who may have served at our request as a director or
officer of another corporation in which we own shares of capital stock or of
which we are a creditor against expenses actually and necessarily incurred by
them in connection with the defense of any actions, suits or proceedings in
which they, or any of them, are made parties, or a party, by reason of being or
having been director(s) or officer(s) of us or of such other corporation, in the
absence of negligence or misconduct in the performance of their duties. This
indemnification policy could result in substantial expenditure by us, which we
may be unable to recoup.
   -54-
 Table of Content
  Insofar
as indemnification by us for liabilities arising under the Securities Exchange
Act of 1934 may be permitted to our directors, officers and controlling persons
pursuant to provisions of the Articles of Incorporation and Bylaws, or
otherwise, we have been advised that in the opinion of the SEC, such
indemnification is against public policy and is, therefore, unenforceable. In
the event that a claim for indemnification by such director, officer or
controlling person of us in the successful defense of any action, suit or
proceeding is asserted by such director, officer or controlling person, we will,
unless in the opinion of our counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by us is against public policy as expressed in the Act and
will be governed by the final adjudication of such issue.
  At the
present time, there is no pending litigation or proceeding involving a director,
officer, employee or other agent of ours in which indemnification would be
required or permitted. We are not aware of any threatened litigation or
proceeding which may result in a claim for such indemnification.
  Item 12.  Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters.
  The
following table sets forth certain information regarding our common stock $0.001
par value, beneficially owned on March 13, 2009, for (i) each shareholder known
to be the beneficial owner of 5% or more of our outstanding common stock, (ii)
each of our officers and directors, and (iii) all executive officers and
directors as a group.
 
 Unless
otherwise specified, the address of each of the persons set forth below is in
care of China Valves Technology, Inc., No. 93 West Xinsong Road, Kaifeng , Henan
Province, China 475002.
 
 Name
      & Address of
                                              Beneficial
      Owner
                                            Office,
      if Any
                                            Amount
      & Nature of
                                              Beneficial
                                              Ownership(1)
                                            Percent
      of Class(2)Officers and DirectorsSiping
      Fang
                                            Chief
      Executive Officer, President and Chairman
                                            0
                                            *Renrui
      Tang
                                            Chief
      Financial Officer
                                            0
                                            *Binjie
      Fang
                                            Chief
      Operating Officer and Director
                                            0
                                            *Qizhong
      Xiang
                                            Chief
      Technology Officer
                                            0
                                            *William
      Haus
                                              5700
      Henry Cook Blvd. Suite #6333, Plano, TX 75024-4542
                                            Director
                                            0
                                            *Peter
      Li
                                              C/O
      CS China Acquisition Corp.
                                              4100
      N. E. Second Avenue, Miami, FL 33137
                                            Director
                                            0
                                            *Zengbiao
      Yu Director
                                            0
                                            *All
      officers and directors as a group (7 persons named above)
                                            
                                            0
                                            0%5% Securities HolderBin
      Li
                                              1165
      Rugglestone Way, Duluth, GA 30097
                                            
                                            25,166,064
                                            40.34%Bin
      Fang
                                            
                                            5,500,000
                                            8.82%Pinnacle
      China Fund, L.P.
                                              4965
      Preston Park Blvd., Suite 240, Plano, TX 75093-5170
                                            
                                            4,500,000  (3)
                                            7.21%The
      Pinnacle Fund, L.P.
                                              4965
      Preston Park Blvd., Suite 240, Plano, TX 75093-5170
                                            
                                            4,500,000  (4)
                                            7.21%Barry
      M. Kitt
                                              c/o
      Pinnacle Fund, L.P.
                                              4965
      Preston Park Blvd.
                                              Suite
      240, Plano, Texas 75093
                                            
                                            9,000,000
      (3)
      (4)
                                            14.42%
   -55-
 Table of Content
  * Less
than 1%.
 1Beneficial ownership is
determined in accordance with the rules of the Commission and includes voting or
investment power with respect to the ordinary shares.
 2A total of 62,385,103
shares of our common stock as of March 13, 2009 are considered to be outstanding
pursuant to the Commission Rule 13d-3(d)(1).  For each beneficial
owner above, any options exercisable within 60 days have been included in the
denominator.
 3Pinnacle Advisers, L.P.
(“Advisers”) is the general partner of The Pinnacle Fund, L.P.
(“Pinnacle”).  Pinnacle Fund Management, LLC (“Management”) is the
general partner of Advisers.  Mr. Barry Kitt is the sole member of
Management.  Mr. Kitt has dispositive and voting power over the shares
and may be deemed to be the beneficial owner of the shares of common stock
beneficially owned by Pinnacle. Mr. Kitt disclaims beneficial ownership of the
shares to the extent of his direct or indirect pecuniary interest.
 4Pinnacle China Advisers,
L.P. (“China Advisers”) is the general partner of Pinnacle China Fund, L.P.
(“Pinnacle China”). Pinnacle China Management, LLC (“China Management”) is the
general partner of China Advisers. Kitt China Management, LLC (“China Manager”)
is the manager of China Management. Mr. Barry Kitt is the manager of China
Manager. Mr. Kitt has dispositive and voting power over the shares and may be
deemed to be the beneficial owner of the shares of common stock beneficially
owned by Pinnacle China. Mr. Kitt disclaims beneficial ownership of the shares
to the extent of his direct or indirect pecuniary interest.
 
 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 Transactions, and
Director Independence
 
 Transactions
with Related Persons
 
 The
following includes a summary of transactions since the beginning of 2008, or any
currently proposed transaction, in which we were or are to be a participant and
the amount involved exceeded or exceeds $120,000, and in which any related
person had or will have a direct or indirect material interest (other than
compensation described under “Executive Compensation” ).  We believe
the terms obtained or consideration that we paid or received, as applicable, in
connection with the transactions described below were no less favorable to
the Company than the terms available or the amounts that would be paid or
received, as applicable, in arm's-length transactions.
  The
Company received advances from Siping Fang, Chief Executive Officer and
Chairman, for cash flow purposes. As of December 31, 2008 and December 31, 2007
the outstanding amount due to Mr. Fang was $658,367 and $2,848,032,
respectively. The advances are unsecured, interest-free and have no fixed terms
of repayment, but are expected to be repaid in cash. In 2007, Siping Fang
contributed $1,249,999 to the Company’s subsidiary, Zhengdie Valve, to fulfill
its PRC registered capital requirement.  In 2008, during the
reorganization of the ownership of the Operating Subsidiaries (see Item 1 –
Business – Reorganization), Siping Fang contributed a further RMB 10 million
($1,317,095) to the Operating Subsidiaries to enable them to meet their approved
PRC registered capital requirements.  Following our re-acquisition of
the legal ownership of the Operating Subsidiaries and the subsequent
consummation of the Securities Purchase Agreement related to the private
placement of our common stock, this contribution is to be returned to Mr. Fang.
Together with the $658,367 due to Mr. Fang for working capital advances as
described above, a total of $1,975,462 was due to Mr. Fang at December 31,
2008.
 
 The
Company borrowed money from certain employees for cash flow purposes. The loans
bear interest at 10% per annum with no fixed repayment terms. Loans from
employees amounted to $131,263 and $671,188 as of December 31, 2008 and December
31, 2007, respectively. The Company borrowed money from the family members of
Mr. Siping Fang, for working capital purposes. The loans are unsecured, interest
free and have no fixed terms of repayment, but are expected to be repaid in cash
upon request. As of December 31, 2008, these loans amounted to
$465,528.
  -56-
 Table of Content
  
 As a
condition precedent to the consummation of the Securities Purchase Agreement
related to the private placement of our common stock, on August 26, 2008, High
Pressure Valve and the Casting Company entered into an Agreement for the
Transfer of Land Use Right and Housing Titles (the “Real Estate
Transfer Agreement”) for the transfer of certain land use rights and
buildings to High Pressure Valve (the “Real
Estate”). As the transfer was expected to take approximately ten
months to complete with relevant Chinese government agencies, on August 26,
2008, High Pressure Valve and the Casting Company also entered into a Lease
Agreement (the “Lease
Agreement”) pursuant to which the Casting Company agreed to lease the
Real Estate to High Pressure Valve until the latter acquires title to the Real
Estate. In addition, High Pressure Valve and the Casting Company entered into a
Leaseback Agreement (the “Leaseback
Agreement”) pursuant to which High Pressure Valve agreed to lease a
portion of the Real Estate to the Casting Company for a period of one year
starting on the date of the acquisition of title to the Real Estate by High
Pressure Valve.
 
 In
connection with the Real Estate Transfer Agreement, on August 26, 2008, the
Company entered into a Real Estate Share Escrow Agreement with the shareholder
of the Casting Company, Mr. Bin Fang, Brean Murray, Carret & Co., LLC and
Escrow, LLC (the “Real Estate Escrow Agreement ”), pursuant to which the Company
agreed to issue and place in escrow for the benefit of Mr. Fang or his designee,
5,500,000 shares of the Company’s common stock (the “Real Estate Shares”) in
exchange for Mr. Fang’s agreement to cause the Casting Company to transfer the
Real Estate under the Real Estate Transfer Agreement. The Real Estate was
transferred to High Pressure Valve on March 6, 2009 and we are in the process of
arranging for the 5,500,000 shares to be released to Mr. Bin Fang.
 
 As a
result of the Company’s issuance of contingent shares to the Casting Company’s
shareholder, Mr. Bin Fang, the Casting Company became an 8.81% shareholder and a
related party. Mr. Bin Fang is not related to either Mr. Siping Fang, our Chief
Executive Officer and Chairman or Mr. Binjie Fang, our Chief Operating Officer
and a director. As of December 31, 2008 advances on inventory purchases due to
the Casting Company amounted to $1.47 million.
 
 On August
26, 2008, High Pressure Valve and the Casting Company, our largest supplier,
entered into a Manufacturing and Supply Agreement pursuant to which the Casting
Company agreed to provide High Pressure Valve with molds, casts, dies and other
supplies and equipment for use in the manufacture of High Pressure Valve’s
products. The Casting Company also agreed to use its production capacity to
fulfill High Pressure Valve’s orders before it may take any orders from third
parties. The term of the agreement is five years.  The agreement does
not require High Pressure Valve to purchase any minimum volume or value of
products.  Prices will be determined at the time orders are submitted
to the Casting Company, based on prevailing market prices.
 
 Promoters
and Certain Control Persons
 
 We did
not have any promoters at any time during the past five fiscal
years.
 
 Director
Independence
  Our Board
is currently composed of 5 members, of which Zengbiao Yu, Peter Li and William
Haus are “independent” as that term is defined under the NASDAQ listing
standards.
  All
actions of the board of directors require the approval of a majority of the
directors in attendance at a meeting at which a quorum is
present.  Our directors have a duty of to act in good faith with a
view to our interests.  In fulfilling their duty of care to us, our
directors must ensure compliance with our Certificate of
Incorporation.   During 2008, our board met one time and no director
missed any meetings of the board.
  Item 14.  Principal Accountant Fees and Services.
  Moore
Stephens Wurth Frazer and Torbet, LLP, (“Moore Stephens”) are the Company’s
independent PCAOB registered public accounting firm and were engaged to examine
the Company’s consolidated financial statements for the fiscal years ended
December 31, 2008 and 2007.
   -57-
 Table of Content
  Audit Fees. Moore
Stephens was paid aggregate fees of approximately $297,816 and $180,000 for the
fiscal years ended December 31, 2008 and 2007, respectively, for professional
services rendered for the audit of our annual financial statements.
  Tax Fees. Moore
Stephens was paid $7,000 for the fiscal years ended December 31, 2008 for
professional services rendered for tax compliance.  This service was
not provided in 2007.
 
 All Other Fees. Moore
Stephens was paid no other fees for professional services during the fiscal
years ended December 31, 2008 and 2007.
 
 Board
of Directors Pre-Approval Policies and Procedures
 
 Our Board
of Directors has adopted the policy to pre-approve audit and permissible
non-audit services provided by our independent auditors.
  PART
IV
  Item 15.  Exhibits, Financial Statement and
Schedules
  (a)
              The
      following documents are filed as part of this
  Report:
  (1)
              Financial
      Statements are set forth beginning on page F-1 of this
    Report
  Section
      1.   Report of Independent Registered Public Accounting
      Firm
                  F-2Section
      2.   Consolidated Balance
      Sheets
                  F-3Section
      3.   Consolidated Statements of
      Operations
                  F-4Section
      4.   Consolidated Statement of Stockholders’
      Equity
                  F-5Section
      5.   Consolidated Statements of Cash
      Flows
                  F-6Section
      6.   Notes to Consolidated
      Statements
                  F-7-F-25
  (2)
              Financial
      Statement Schedules: All Schedules are omitted because the information
      called for is not applicable, is not required, or because the financial
      information is set forth in the financial statements or notes
      thereto.
  (3)
              Exhibits
  Exhibits
(Including Those Incorporated By Reference).
  Exhibit
Index
  Exhibit
      No.
                  Description2.1
                  Share
      Exchange Agreement, dated December 18, 2007, among the Company, the
      stockholders of the Company, China Valves and the China Valves Shareholder
      (incorporated herein by reference to Exhibit 2.1 to the registrant’s
      current report on Form 8-K filed on December 21, 2007).3.1
                  Articles
      of Incorporation of the Company as filed with the Secretary of State of
      Nevada on August 1, 1997 (incorporated herein by reference to Exhibit 3.1
      to the SB-2 Registration Statement filed on November 1,
    2001)
   -58-
 Table of Content
   3.2
                    Certificate
      of Amendment to Certificate of Incorporation changing the corporate name
      filed with the Secretary of State of Nevada (incorporated herein by
      reference to Exhibit 3.2 to the registrant’s current report on Form 8-K
      filed on December 21, 2007).3.
      3
                    Bylaws
      of the registrant, as amended to date, (incorporated herein by reference
      to Exhibit 3.2 to the SB-2 Registration Statement filed on November 1,
      2001).10.1
                    Form
      of Securities Purchase Agreement, dated August 26, 2008 (incorporated
      herein by reference to Exhibit 10.1 to the registrant’s current report on
      Form 8-K filed on August 27, 2008).10.2
                    Form
      of Registration Rights Agreement, dated August 26, 2008 (incorporated
      herein by reference to Exhibit 4.1 to the registrant’s current report on
      Form 8-K filed on August 27, 2008).10.3
                    Escrow
      Agreement, dated August 26, 2008, by and among the Company, Brean Murray,
      Carret & Co., LLC, The Pinnacle Fund, LLC,  Pinnacle China
      Fund, LLC and Escrow, LLC. (incorporated herein by reference to Exhibit
      10.4 to the registrant’s current report on Form 8-K filed on August 27,
      2008).10.4
                    Form
      of Holdback Escrow Agreement, dated August 26, 2008 (incorporated herein
      by reference to Exhibit 10.2 to the registrant’s current report on Form
      8-K filed on August 27, 2008).10.5
                    Form
      of Make Good Escrow Agreement, dated August 26, 2008 (incorporated herein
      by reference to Exhibit 10.3 to the registrant’s current report on Form
      8-K filed on August 27, 2008).10.6
                    Form
      of Lockup Agreement, dated August 26, 2008 by and between the Company and
      the stockholders listed therein (incorporated herein by reference to
      Exhibit 4.2 to the registrant’s current report on Form 8-K filed on August
      27, 2008).10.7
                    Form
      of Warrant (incorporated herein by reference to Exhibit 4.3 to the
      registrant’s current report on Form 8-K filed on August 27,
      2008).10.8
                    English
      version of Agreement for Transfer of Land Use Right and Housing Titles,
      dated August 26, 2008, by and between the Company’s wholly owned
      subsidiary Kaifeng High Pressure Valve Co., Ltd. and Kaifeng High Pressure
      Valve Steel Casting Limited Liabilities Company (incorporated herein by
      reference to Exhibit 10.5 to the registrant’s current report on Form 8-K
      filed on August 27, 2008).10.9
                    English
      version of Premises Lease Agreement, dated August 26, 2008, by and between
      the Company’s wholly owned subsidiary Kaifeng High Pressure Valve Co.,
      Ltd. and Kaifeng High Pressure Valve Steel Casting Limited Liabilities
      Company (incorporated herein by reference to Exhibit 10.6 to the
      registrant’s current report on Form 8-K filed on August 27,
      2008).10.10
                    English
      version of Premises Leaseback Agreement, dated August 26, 2008, by and
      between the Company’s wholly owned subsidiary Kaifeng High Pressure Valve
      Co., Ltd. and Kaifeng High Pressure Valve Steel Casting Limited
      Liabilities Company (incorporated herein by reference to Exhibit 10.7 to
      the registrant’s current report on Form 8-K filed on August 27,
      2008).10.11
                    Real
      Estate Share Escrow Agreement, dated August 26, 2008, by and among the
      Company, Bin Fang and Brean Murray, Carret & Co., LLC. (incorporated
      herein by reference to Exhibit 10.8 to the registrant’s current report on
      Form 8-K filed on August 27, 2008).10.12
                    English
      version of Manufacturing and Supply Agreement, dated August 26, 2008, by
      and between the Company’s wholly owned subsidiary Kaifeng High Pressure
      Valve Co., Ltd. and Kaifeng High Pressure Valve Steel Casting Limited
      Liabilities Company (incorporated herein by reference to Exhibit 10.9 to
      the registrant’s current report on Form 8-K filed on August 27,
      2008).10.13
                    Employment
      Agreement with Veronica Jing Chen dated September 19, 2008 (incorporated
      by reference to Exhibit 10.1 to the registrant’s current report on Form
      8-K filed on September 23, 2008).
   -59-
 Table of Content
   21
                List
      of Subsidiaries (incorporated by reference to Exhibit 21 to the
      registrant’s registration statement  on Form S-1 filed on
      October 10, 2008).31.1
                Certification
      of Chief Executive Officer, pursuant to Rule 13a – 14(a).
  *31.2
                Certification
      of Chief Financial Officer, pursuant to Rule 13a – 14(a).
  *32.1
                Certification
      of Chief Executive Officer, pursuant to 18 U.S.C. Section 1350, as adopted
      pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
    *32.2
                Certification
      of Chief Financial Officer, pursuant to 18 U.S.C. Section 1350, as adopted
      pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
    *
   * filed
herein.
  -60-
 Table of Content
   SIGNATURES
  Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act
of 1934, the Company has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized.
  CHINA
      VALVES TECHNOLOGY, INC.March 23,
      2009
                    By:/s/  Siping
      Fang(Date
      Signed)
                    Siping
      Fang, President
  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 Company in the capacities
and on the dates indicated.
  Each
person whose signature appears below hereby authorizes Siping Fang as
attorney-in-fact to sign on his behalf, individually, and in each capacity
stated below, and to file all amendments and/or supplements to this annual
report on Form 10-K.
   Signature
                                  
                                  Capacity
                                  
                                  Date/s/ Siping Fang
                                  
                                  President,
      Director and Chief Executive Officer (Principal Executive
      Officer)
                                  
                                  March
      23 , 2009Siping
      Fang/s/ Renrui Tang
                                  
                                  Chief
      Financial Officer (Principal Financial Officer and Principal Accounting
                                  
                                  March
      23 , 2009Renrui
      Tang
                                  
                                  Officer)/s/ Peter Li
                                  
                                  Director
                                  
                                  March
      23 , 2009Peter
      Li/s/ Zengbiao Yu
                                  
                                  Director
                                  
                                  March
      23 , 2009Zengbiao
      Yu/s/ Binjie Fang
                                  
                                  Chief
      Operating Officer and Director
                                  
                                  March
      23 , 2009Binjie
      Fang
 
 
 -61-
 Table of Content
 
 Exhibit
Index
  Exhibit
      No.
                Description2.1
                Share
      Exchange Agreement, dated December 18, 2007, among the Company, the
      stockholders of the Company, China Valves and the China Valves Shareholder
      (incorporated herein by reference to Exhibit 2.1 to the registrant’s
      current report on Form 8-K filed on December 21, 2007).3.1
                Articles
      of Incorporation of the Company as filed with the Secretary of State of
      Nevada on August 1, 1997 (incorporated herein by reference to Exhibit 3.1
      to the SB-2 Registration Statement filed on November 1,
    2001)3.2
                Certificate
      of Amendment to Certificate of Incorporation changing the corporate name
      filed with the Secretary of State of Nevada (incorporated herein by
      reference to Exhibit 3.2 to the registrant’s current report on Form 8-K
      filed on December 21, 2007).3.
      3
                Bylaws
      of the registrant, as amended to date, (incorporated herein by reference
      to Exhibit 3.2 to the SB-2 Registration Statement filed on November 1,
      2001).10.1
                Form
      of Securities Purchase Agreement, dated August 26, 2008 (incorporated
      herein by reference to Exhibit 10.1 to the registrant’s current report on
      Form 8-K filed on August 27, 2008).10.2
                Form
      of Registration Rights Agreement, dated August 26, 2008 (incorporated
      herein by reference to Exhibit 4.1 to the registrant’s current report on
      Form 8-K filed on August 27, 2008).10.3
                Escrow
      Agreement, dated August 26, 2008, by and among the Company, Brean Murray,
      Carret & Co., LLC, The Pinnacle Fund, LLC,  Pinnacle China
      Fund, LLC and Escrow, LLC. (incorporated herein by reference to Exhibit
      10.4 to the registrant’s current report on Form 8-K filed on August 27,
      2008).10.4
                Form
      of Holdback Escrow Agreement, dated August 26, 2008 (incorporated herein
      by reference to Exhibit 10.2 to the registrant’s current report on Form
      8-K filed on August 27, 2008).10.5
                Form
      of Make Good Escrow Agreement, dated August 26, 2008 (incorporated herein
      by reference to Exhibit 10.3 to the registrant’s current report on Form
      8-K filed on August 27, 2008).10.6
                Form
      of Lockup Agreement, dated August 26, 2008 by and between the Company and
      the stockholders listed therein (incorporated herein by reference to
      Exhibit 4.2 to the registrant’s current report on Form 8-K filed on August
      27, 2008).10.7
                Form
      of Warrant (incorporated herein by reference to Exhibit 4.3 to the
      registrant’s current report on Form 8-K filed on August 27,
      2008).10.8
                English
      version of Agreement for Transfer of Land Use Right and Housing Titles,
      dated August 26, 2008, by and between the Company’s wholly owned
      subsidiary Kaifeng High Pressure Valve Co., Ltd. and Kaifeng High Pressure
      Valve Steel Casting Limited Liabilities Company (incorporated herein by
      reference to Exhibit 10.5 to the registrant’s current report on Form 8-K
      filed on August 27, 2008).10.9
                English
      version of Premises Lease Agreement, dated August 26, 2008, by and between
      the Company’s wholly owned subsidiary Kaifeng High Pressure Valve Co.,
      Ltd. and Kaifeng High Pressure Valve Steel Casting Limited Liabilities
      Company (incorporated herein by reference to Exhibit 10.6 to the
      registrant’s current report on Form 8-K filed on August 27,
      2008).10.10
                English
      version of Premises Leaseback Agreement, dated August 26, 2008, by and
      between the Company’s wholly owned subsidiary Kaifeng High Pressure Valve
      Co., Ltd. and Kaifeng High Pressure Valve Steel Casting Limited
      Liabilities Company (incorporated herein by reference to Exhibit 10.7 to
      the registrant’s current report on Form 8-K filed on August 27,
      2008).
  -62-
 Table of Content
   10.11
                Real
      Estate Share Escrow Agreement, dated August 26, 2008, by and among the
      Company, Bin Fang and Brean Murray, Carret & Co., LLC. (incorporated
      herein by reference to Exhibit 10.8 to the registrant’s current report on
      Form 8-K filed on August 27, 2008).10.12
                English
      version of Manufacturing and Supply Agreement, dated August 26, 2008, by
      and between the Company’s wholly owned subsidiary Kaifeng High Pressure
      Valve Co., Ltd. and Kaifeng High Pressure Valve Steel Casting Limited
      Liabilities Company (incorporated herein by reference to Exhibit 10.9 to
      the registrant’s current report on Form 8-K filed on August 27,
      2008).10.13
                Employment
      Agreement with Veronica Jing Chen dated September 19, 2008 (incorporated
      by reference to Exhibit 10.1 to the registrant’s current report on Form
      8-K filed on September 23, 2008).21
                List
      of Subsidiary (incorporated by reference to Exhibit 21 to the registrant’s
      registration statement  on Form S-1 filed on October 10,
      2008).31.1
                Certification
      of Chief Executive Officer, pursuant to Rule 13a – 14(a).
  *31.2
                Certification
      of Chief Financial Officer, pursuant to Rule 13a – 14(a).
  *32.1
                Certification
      of Chief Executive Officer, pursuant to 18 U.S.C. Section 1350, as adopted
      pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
    *32.2
                Certification
      of Chief Financial Officer, pursuant to 18 U.S.C. Section 1350, as adopted
      pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
    *
 
 * filed
herein.
 
   -63-
 Table of Content
  INDEX
TO CONSOLIDATED FINANCIAL STATEMENTS
 
 
 
 
 PageReport
      of Independent Registered Public Accounting Firm
                      F-2Consolidated
      Balance Sheets
                      F-3Consolidated
      Statements of Income and Other Comprehensive Income
                      F-4Consolidated
      Statement of Stockholders’ Equity
                      F-5Consolidated
      Statements of Cash Flows
                      F-6Notes
      to Consolidated Financial Statements
                      F-7
      - F-25
 
   
 F-1
 Table of Content
   REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
  
 To the
Board of Directors and Stockholders
 of China
Valves Technology, Inc
  We have
audited the accompanying consolidated balance sheets of China Valves Technology,
Inc and subsidiaries as of December 31, 2008 and 2007, and the related
consolidated statements of operations and other comprehensive income,
shareholders’ equity, and cash flows for the years then ended. These financial
statements are the responsibility of the Company’s management. Our
responsibility is to express an opinion on these 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 audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting. Our audits included consideration of internal
control over financial reporting as a basis for designing audit procedures that
are appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the company’s internal control over financial
reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, 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 China Valves Technology, Inc
and subsidiaries as of December 31, 2008 and 2007, and the results of its
operations and its cash flows for the years then ended in conformity with
accounting principles generally accepted in the United States of
America.
   /s/ Moore
Stephens Wurth Frazer and Torbet, LLP
 
 
 Walnut,
California
 March 15,
2009
   F-2
 Table of Content




CHINA VALVES TECHNOLOGY INC. AND
      SUBSIDIARIESCONSOLIDATED
      BALANCE SHEETSAS
      OF DECEMBER 31, 2008 AND DECEMBER 31, 2007ASSETSDecember
      31,
                                  
                                  
                                  December
      31,2008
                                  
                                  
                                  2007CURRENT
      ASSETS:Cash
      and cash equivalents
                                  
                                  $
                                  16,427,883
                                  
                                  
                                  $
                                  2,773,262Restricted
      cash
                                  
                                  
                                  3,191,237
                                  
                                  
                                  
                                  40,856Notes
      receivable
                                  
                                  
                                  880,200
                                  
                                  
                                  
                                  -Accounts
      receivable, net of allowance for doubtful accounts of
      $1,163,457and  $274,167 as of December 31, 2008 and December 31, 2007,
      respectively
                                  
                                  
                                  26,119,447
                                  
                                  
                                  
                                  16,789,383Other
      receivables
                                  
                                  
                                  4,841,691
                                  
                                  
                                  
                                  4,638,477Inventories
                                  
                                  
                                  11,244,442
                                  
                                  
                                  
                                  10,539,087Advances
      on inventory purchases
                                  
                                  
                                  1,108,512
                                  
                                  
                                  
                                  458,699Advances
      on inventory purchases - related party
                                  
                                  
                                  1,367,446
                                  
                                  
                                  
                                  -Prepaid
      expenses
                                  
                                  
                                  52,921
                                  
                                  
                                  
                                  519,043Total current assets
                                  
                                  
                                  65,233,779
                                  
                                  
                                  
                                  35,758,807PLANT
      AND EQUIPMENT, net
                                  
                                  
                                  16,184,894
                                  
                                  
                                  
                                  7,523,788OTHER
      ASSETS:Accounts
      receivable - retainage, long term
                                  
                                  
                                  2,541,418
                                  
                                  
                                  
                                  559,368Advances
      on equipment purchases
                                  
                                  
                                  2,001,733
                                  
                                  
                                  
                                  324,858Long
      term receivable
                                  
                                  
                                  382,552
                                  
                                  
                                  
                                  -Goodwill
      - purchased
                                  
                                  
                                  20,811,767
                                  
                                  
                                  
                                  19,449,851Intangibles,
      net of accumulated amortization
                                  
                                  
                                  823,331
                                  
                                  
                                  
                                  435,633Other
      investments, at lower of cost or market
                                  
                                  
                                  764,515
                                  
                                  
                                  
                                  714,485Total other assets
                                  
                                  
                                  27,325,316
                                  
                                  
                                  
                                  21,484,195Total assets
                                  
                                  $
                                  108,743,989
                                  
                                  
                                  $
                                  64,766,790LIABILITIES AND SHAREHOLDERS'
      EQUITYCURRENT
      LIABILITIES:Accounts
      payable - trade
                                  
                                  $
                                  6,630,574
                                  
                                  
                                  $
                                  6,452,519Short
      term loans
                                  
                                  
                                  7,839,960
                                  
                                  
                                  
                                  6,479,291Short
      term loans - related parties
                                  
                                  
                                  596,791
                                  
                                  
                                  
                                  671,188Other
      payables
                                  
                                  
                                  4,453,881
                                  
                                  
                                  
                                  4,435,982Other
      payable - related party
                                  
                                  
                                  1,975,462
                                  
                                  
                                  
                                  2,848,032Notes
      payable
                                  
                                  
                                  2,934,000
                                  
                                  
                                  
                                  -Accrued
      liabilities
                                  
                                  
                                  2,382,138
                                  
                                  
                                  
                                  1,734,679Customer
      deposits
                                  
                                  
                                  3,129,708
                                  
                                  
                                  
                                  2,810,352Taxes
      payable
                                  
                                  
                                  1,227,338
                                  
                                  
                                  
                                  1,064,512Derivative
      instrument liabilities
                                  
                                  
                                  924,291
                                  
                                  
                                  
                                  -Total
      current liabilities
                                  
                                  
                                  32,094,143
                                  
                                  
                                  
                                  26,496,555Long-term
      liabilities:Long
      term debt
                                  
                                  
                                  -
                                  
                                  
                                  
                                  1,096,800SHAREHOLDERS'
      EQUITY:Common
      stock, $0.001 par value; 300,000,000 shares authorized;62,385,103 shares and 40,106,500 shares issued and
    outstandingas of December 31, 2008 and December 31, 2007,
respectively
                                  
                                  
                                  62,386
                                  
                                  
                                  
                                  40,107Additional
      paid-in-capital
                                  
                                  
                                  66,904,774
                                  
                                  
                                  
                                  16,365,029Common
      stock subscription receivable
                                  
                                  
                                  (9,834,000
                                  )
                                  
                                  
                                  -Statutory
      reserves
                                  
                                  
                                  2,958,659
                                  
                                  
                                  
                                  1,749,601Retained
      earnings
                                  
                                  
                                  10,399,050
                                  
                                  
                                  
                                  15,844,953Accumulated
      other comprehensive income
                                  
                                  
                                  6,158,977
                                  
                                  
                                  
                                  3,173,745Total shareholders' equity
                                  
                                  
                                  76,649,846
                                  
                                  
                                  
                                  37,173,435Total liabilities and shareholders' equity
                                  
                                  $
                                  108,743,989
                                  
                                  
                                  $
                                  64,766,790




See report of
independent registered public accounting firm


The
accompanying notes are an integral part of these statements.


F-3
 Table of Content




CHINA VALVES TECHNOLOGY INC. AND
      SUBSIDIARIESCONSOLIDATED
      STATEMENTS OF OPERATIONS AND OTHER COMPREHENSIVE INCOMEFOR
      THE YEARS ENDED DECEMBER 31, 2008 AND 20072008
                                      
                                      
                                      2007SALES
                                      
                                      $
                                      65,947,615
                                      
                                      
                                      $
                                      37,036,282COST
      OF GOODS SOLD
                                      
                                      
                                      40,082,152
                                      
                                      
                                      
                                      22,050,041GROSS
      PROFIT
                                      
                                      
                                      25,865,463
                                      
                                      
                                      
                                      14,986,241EXPENSES:Selling
      expense
                                      
                                      
                                      4,929,728
                                      
                                      
                                      
                                      2,998,585General
      and administrative (including non-cash stockcompensation expense
      of $14,998,974 in 2008)
                                      
                                      
                                      21,334,235
                                      
                                      
                                      
                                      3,245,954Research
      and development
                                      
                                      
                                      217,698
                                      
                                      
                                      
                                      104,502Total
      Operating Expenses
                                      
                                      
                                      26,481,661
                                      
                                      
                                      
                                      6,349,041(LOSS)
      INCOME FROM OPERATIONS
                                      
                                      
                                      (616,198
                                      )
                                      
                                      
                                      8,637,200OTHER
      (INCOME) EXPENSE :Other
      income, net
                                      
                                      
                                      (1,145,208
                                      )
                                      
                                      
                                      (371,633
                                      )Interest
      and finance expense, net
                                      
                                      
                                      486,946
                                      
                                      
                                      
                                      528,498Change
      in fair value of derivative instruments
                                      
                                      
                                      (100,479
                                      )
                                      
                                      
                                      -Total
      Other (Income) Expense, net
                                      
                                      
                                      (758,741
                                      )
                                      
                                      
                                      156,865INCOME
      BEFORE PROVISION FOR INCOME TAXES
                                      
                                      
                                      142,543
                                      
                                      
                                      
                                      8,480,335INCOME
      TAX EXPENSE
                                      
                                      
                                      4,379,388
                                      
                                      
                                      
                                      1,337,743NET
      (LOSS) INCOME
                                      
                                      
                                      (4,236,845
                                      )
                                      
                                      
                                      7,142,592OTHER
      COMPREHENSIVE INCOMEForeign
      currency translation gain
                                      
                                      
                                      2,985,232
                                      
                                      
                                      
                                      1,869,646COMPREHENSIVE
      (LOSS) INCOME
                                      
                                      $
                                      (1,251,613
                                      )
                                      
                                      $
                                      9,012,238EARNINGS
      (LOSS) PER SHARE:Basic
      and diluted weighted average number of shares
                                      
                                      
                                      45,974,427
                                      
                                      
                                      
                                      40,003,550Basic
      and diluted earnings (loss) per share
                                      
                                      $
                                      (0.09
                                      )
                                      
                                      $
                                      0.18




See report of
independent registered public accounting firm


The
accompanying notes are an integral part of these statements.


F-4
 Table of Content






CHINA
      VALVES TECHNOLOGY INC. AND SUBSIDIARIESCONSOLIDATED
      STATEMENTS OF SHAREHOLDERS' EQUITYFOR
      THE YEARS ENDED DECEMBER 31, 2008 AND 2007Common
      Stock
                                                                  
                                                                  
                                                                  Additional
                                                                  
                                                                  
                                                                  Common
      Stock
                                                                  
                                                                  
                                                                  Retained
      Earnings
                                                                  
                                                                  
                                                                  Accumulated
      otherNumber
                                                                  
                                                                  
                                                                  Par
                                                                  
                                                                  
                                                                  Paid-in
                                                                  
                                                                  
                                                                  Subscription
                                                                  
                                                                  
                                                                  Statutory
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  comprehensiveof
      shares
                                                                  
                                                                  
                                                                  Value
                                                                  
                                                                  
                                                                  capital
                                                                  
                                                                  
                                                                  receivable
                                                                  
                                                                  
                                                                  reserves
                                                                  
                                                                  
                                                                  Unrestricted
                                                                  
                                                                  
                                                                  income
                                                                  
                                                                  
                                                                  TotalBALANCE,
      December 31,2006
                                                                  
                                                                  
                                                                  40,000,000
                                                                  
                                                                  
                                                                  $
                                                                  40,000
                                                                  
                                                                  
                                                                  $
                                                                  15,115,137
                                                                  
                                                                  
                                                                  $
                                                                  -
                                                                  
                                                                  
                                                                  $
                                                                  1,032,933
                                                                  
                                                                  
                                                                  $
                                                                  9,419,029
                                                                  
                                                                  
                                                                  $
                                                                  1,304,099
                                                                  
                                                                  
                                                                  $
                                                                  26,911,198Shares
      issued for reorganization on December
      18, 2007
                                                                  
                                                                  
                                                                  106,500
                                                                  
                                                                  
                                                                  
                                                                  107
                                                                  
                                                                  
                                                                  
                                                                  (107
                                                                  )
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  -Capital
      contribution from shareholder
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  1,249,999
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  1,249,999Net
      income
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  7,142,592
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  7,142,592Adjustment
      to statutory reserve
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  716,668
                                                                  
                                                                  
                                                                  
                                                                  (716,668
                                                                  )
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  -Foreign
      currency translation adjustment
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  1,869,646
                                                                  
                                                                  
                                                                  
                                                                  1,869,646BALANCE,
      December 31, 2007
                                                                  
                                                                  
                                                                  40,106,500
                                                                  
                                                                  
                                                                  $
                                                                  40,107
                                                                  
                                                                  
                                                                  $
                                                                  16,365,029
                                                                  
                                                                  
                                                                  $
                                                                  -
                                                                  
                                                                  
                                                                  $
                                                                  1,749,601
                                                                  
                                                                  
                                                                  $
                                                                  15,844,953
                                                                  
                                                                  
                                                                  $
                                                                  3,173,745
                                                                  
                                                                  
                                                                  $
                                                                  37,173,435Shareholder
      contribution
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  1,317,095
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  1,317,095Common
      stock issuance for cash at $1.788
                                                                  
                                                                  
                                                                  16,778,603
                                                                  
                                                                  
                                                                  
                                                                  16,779
                                                                  
                                                                  
                                                                  
                                                                  25,712,271
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  25,729,050Common
      stock issuance for real estate
      acquisition at $1.788
                                                                  
                                                                  
                                                                  5,500,000
                                                                  
                                                                  
                                                                  
                                                                  5,500
                                                                  
                                                                  
                                                                  
                                                                  9,828,500
                                                                  
                                                                  
                                                                  
                                                                  (9,834,000
                                                                  )
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  -Stock
      compensation expense related to
      Make Good Escrow Agreement
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  14,998,974
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  14,998,974-Shareholder
      contribution returned
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  (1,317,095
                                                                  )
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  (1,317,095
                                                                  )Net
      income
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  (4,236,845
                                                                  )
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  (4,236,845
                                                                  )Adjustment
      to statutory reserve
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  1,209,058
                                                                  
                                                                  
                                                                  
                                                                  (1,209,058
                                                                  )
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  -Foreign
      currency translation adjustment
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  
                                                                  2,985,232
                                                                  
                                                                  
                                                                  
                                                                  2,985,232BALANCE,
      December 31, 2008
                                                                  
                                                                  
                                                                  62,385,103
                                                                  
                                                                  
                                                                  $
                                                                  62,386
                                                                  
                                                                  
                                                                  $
                                                                  66,904,774
                                                                  
                                                                  
                                                                  $
                                                                  (9,834,000
                                                                  )
                                                                  
                                                                  $
                                                                  2,958,659
                                                                  
                                                                  
                                                                  $
                                                                  10,399,050
                                                                  
                                                                  
                                                                  $
                                                                  6,158,977
                                                                  
                                                                  
                                                                  $
                                                                  76,649,846




See report of
independent registered public accounting firm


The
accompanying notes are an integral part of these statements.


F-5
 Table of Content




CHINA
      VALVES TECHNOLOGY INC. AND SUBSIDIARIESCONSOLIDATED
      STATEMENTS OF CASH FLOWSFOR
      THE YEARS ENDED DECEMBER 31, 2008 AND 20072008
                        
                        
                        2007CASH
      FLOWS FROM OPERATING ACTIVITIES:Net
      (Loss) income
                        
                        $
                        (4,236,845
                        )
                        
                        $
                        7,142,592Adjustments
      to reconcile net income to cashprovided
      by (used in) operating activities:Depreciation
                        
                        
                        933,714
                        
                        
                        
                        551,252Amortization
      of intangible assets
                        
                        
                        68,506
                        
                        
                        
                        18,917Bad
      debt allowance
                        
                        
                        819,711
                        
                        
                        
                        263,308Gain
      on disposal of fixed assets
                        
                        
                        26,559
                        
                        
                        
                        1,363Change
      in fair value of derivatives
                        
                        
                        (100,479
                        )
                        
                        
                        -Debt
      forgiven as government grant
                        
                        
                        (264,060
                        )
                        
                        
                        -Stock
      compensation cost
                        
                        
                        14,998,974
                        
                        
                        
                        -Change
      in operating assets and liabilities:Restricted
      cash due to export covenant
                        
                        
                        (53,193
                        )
                        
                        
                        (39,238
                        )Note
      receivable
                        
                        
                        (864,900
                        )
                        
                        
                        -Accounts
      receivable-trade
                        
                        
                        (10,741,517
                        )
                        
                        
                        (7,023,086
                        )Other
      receivables
                        
                        
                        (256,434
                        )
                        
                        
                        (664,963
                        )Inventories
                        
                        
                        32,045
                        
                        
                        
                        3,215,500Advance
      on inventory purchases
                        
                        
                        (606,957
                        )
                        
                        
                        (440,532
                        )Advance
      on inventory purchases-related party
                        
                        
                        (1,343,676
                        )
                        
                        
                        -Prepaid
      expenses
                        
                        
                        493,732
                        
                        
                        
                        70,541Accounts
      payable-trade
                        
                        
                        (269,003
                        )
                        
                        
                        (2,886,075
                        )Other
      payables
                        
                        
                        (287,629
                        )
                        
                        
                        2,032,192Accrued
      liabilities
                        
                        
                        516,849
                        
                        
                        
                        1,137,096Customer
      deposits
                        
                        
                        120,439
                        
                        
                        
                        589,965Taxes
      payables
                        
                        
                        86,752
                        
                        
                        
                        602,527Net
      cash (used in) provided by operating activities
                        
                        
                        (927,412
                        )
                        
                        
                        4,571,359CASH
      FLOWS FROM INVESTING ACTIVITIES:Acquisition
      of intangible assets
                        
                        
                        (419,492
                        )
                        
                        
                        (381,419
                        )Advance
      on equipment purchases
                        
                        
                        (1,654,128
                        )
                        
                        
                        (311,992
                        )Purchases
      of plant and equipment
                        
                        
                        (3,194,387
                        )
                        
                        
                        (628,934
                        )Construction
      in progress
                        
                        
                        (5,879,870
                        )
                        
                        
                        (768,387
                        )Proceeds
      from sale of equipment
                        
                        
                        65,575
                        
                        
                        
                        -Net
      cash used in investing activities
                        
                        
                        (11,082,302
                        )
                        
                        
                        (2,090,732
                        )CASH
      FLOWS FROM FINANCING ACTIVITIES:Restricted
      cash due to covenant
                        
                        
                        (105,616
                        )
                        
                        
                        -Restricted
      cash due to notes payable
                        
                        
                        (2,934,000
                        )
                        
                        
                        -Proceeds
      from/(repayments of) other payable-related party
                        
                        
                        (976,466
                        )
                        
                        
                        880,977Proceeds
      from/(repayments of) notes payable
                        
                        
                        2,883,000
                        
                        
                        
                        (4,486,925
                        )Proceeds
      from short term debt
                        
                        
                        5,753,375
                        
                        
                        
                        4,397,140Proceeds
      from short term loans-related parties
                        
                        
                        457,436
                        
                        
                        
                        139,939Repayments
      of short term debt
                        
                        
                        (5,751,304
                        )
                        
                        
                        (8,724,565
                        )Repayments
      of short term loans-related parties
                        
                        
                        (576,721
                        )
                        
                        
                        -Proceeds
      from long term debt
                        
                        
                        -
                        
                        
                        
                        1,053,360Shareholder
      contributions
                        
                        
                        -
                        
                        
                        
                        1,249,999Proceeds
      from private placement financing
                        
                        
                        26,688,246
                        
                        
                        
                        -Net
      cash provided by (used in) financing activities
                        
                        
                        25,437,950
                        
                        
                        
                        (5,490,075
                        )EFFECTS
      OF EXCHANGE RATE CHANGES ON CASH
                        
                        
                        226,385
                        
                        
                        
                        191,499INCREASE
      (DECREASE) IN CASH
                        
                        
                        13,654,621
                        
                        
                        
                        (2,817,949
                        )CASH
      and CASH EQUIVALENTS, beginning of year
                        
                        
                        2,773,262
                        
                        
                        
                        5,591,211CASH
      and CASH EQUIVALENTS, end of year
                        
                        $
                        16,427,883
                        
                        
                        
                        2,773,262SUPPLEMENTAL
      DISCLOSURE OF CASH FLOW INFORMATION:Cash
      paid for interest
                        
                        $
                        571,139
                        
                        
                        $
                        665,213Cash
      paid for income taxes
                        
                        $
                        4,001,458
                        
                        
                        $
                        1,005,265




See report of
independent registered public accounting firm


The
accompanying notes are an integral part of these statements.


F-6
 Table of Content




CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008




Note 1 –
Organization
  China
Valves Technology, Inc., (the “Company”), through its direct and indirect
subsidiaries, focuses primarily on the development, manufacture and sale of
high-quality metal valves for the electricity, petroleum, chemical, water, gas
and metal industries in the People’s Republic of China (“PRC”). Our operations
are headquartered in Kaifeng, Henan Province, PRC.
 
 We were
originally incorporated on August 1, 1997 in the State of Nevada. Our name has
been changed several times over the years and, in May 2006, our name was changed
to Intercontinental Resources, Inc. We had no active operations during the
period from 2001 until December 18, 2007, when we filed with the Secretary of
State for the state of Nevada a Certificate of Amendment to our Certificate of
Incorporation changing our name to China Valves Technology, Inc.
 
 Reverse
Acquisition and Recapitalization
  On
December 18, 2007, the Company entered into a Stock Purchase Agreement and Share
Exchange (the “Exchange Agreement”) with China Valve Holding Limited (“China
Valve Samoa”), a company incorporated under the laws of Samoa. China Valve Samoa
was the owner of all of the outstanding capital stock of China Valve Holding
Limited, a corporation incorporated under the laws of Hong Kong (“China Valve
Hong Kong”). China Valve Hong Kong, in turn, was the owner of all of the
outstanding equity interests in Henan Tonghai Valve Technology Co., Ltd.,
(“Henan Tonghai Valve”), a corporation incorporated under the laws of the PRC
which in turn owned all of the outstanding equity interests in two entities (the
“Operating Subsidiaries”), namely, Henan Kaifeng High Pressure Valve Co., Ltd.,
(“High Pressure Valve”) and Zhengzhou City Zhengdie Valve Co., Ltd., (“Zhengdie
Valve”), both corporations incorporated under the laws of the PRC. The closing
of the transaction took place on December 18, 2007 and resulted in the
acquisition by the Company of China Valve Samoa and indirectly of the
subsidiaries of China Valve Samoa (i.e., China Valve Hong Kong, Henan Tonghai
Valve, and the Operating Subsidiaries). Pursuant to the terms of the Exchange
Agreement, the Company acquired all of the outstanding capital stock of China
Valve Samoa from the China Valve Samoa shareholder for 40,000,000 shares, or
99.8% of the Company’s common stock. In addition, China Valve Samoa agreed to
pay cash of $490,000 to Intercontinental Resources, Inc. pursuant to the terms
of the Exchange Agreement. Of such amount, $300,000 was forwarded to Belmont
Partners for its financial services rendered in the reverse merger transaction.
Because the acquisition is treated as a reverse acquisition, the financial
statements of the Company have been retroactively adjusted to reflect the
acquisition from the beginning of the reporting period. The merger transaction
has been accounted for as a reverse acquisition and recapitalization of the
Company whereby China Valve Samoa is deemed to be the accounting acquirer (legal
acquiree) and the Company to be the accounting acquiree (legal acquirer).
Accordingly, the historical financial statements for periods prior to December
18, 2007 are those of China Valve Samoa, including the Operating Subsidiaries
(Zhengdie Valve and High Pressure Valve), except that the equity section and
earnings per share have been retroactively restated to reflect the reverse
acquisition.
  China
Valve Samoa was incorporated on June 6, 2007 in Samoa and its principle activity
was its investment in the Operating Subsidiaries. Prior to entry into the
Exchange Agreement, China Valve Samoa undertook a group reorganization plan to
comply with the regulations of the China State Administration of Foreign
Exchange and to facilitate a reverse merger of the Operating Subsidiaries with a
U.S. public shell. As part of the original acquisition of the Operating
Subsidiaries, China Valve Samoa’s wholly owned subsidiary, China Valve Hong
Kong, which was incorporated on June 11, 2007, established Henan Tonghai Valve,
a wholly-owned subsidiary in the PRC, on September 5, 2007.  Neither China
Valve Samoa nor China Valve Hong Kong had any active business operations other
than their ownership of Henan Tonghai Valve.  Henan Tonghai Valve
acquired 100% of the equity of the Operating Subsidiaries (High Pressure Valve
and Zhengdie Valve) from Mr. Siping Fang, the Chief Executive Officer of the
Company, and the other individual owners of those companies.  The
owners of the Operating Subsidiaries and of China Valve Samoa and their
respective interests, before and after this reorganization, were as
follows:
 
 Before
      re-organization:High
      Pressure Valve
                                                  
                                                  Zhengdie
      ValveSiping
      Fang
                                                  
                                                  67%
                                                  
                                                  84%Xiuying
      Wei
                                                  
                                                  33%
                                                  
                                                  -Binjie
      Fang
                                                  
                                                  -
                                                  
                                                  16%100%
                                                  
                                                  100%After
      re-organization:China
      Valve SamoaSiping
      Fang
                                                  
                                                  100%Xiuying
      Wei
                                                  
                                                  -Binjie
      Fang
                                                  
                                                  -100%
 
 Ms.
Xiuying Wei is the spouse of Mr. Siping Fang and Mr. Binjie Fang is the son of
Mr. Siping Fang. As part of the re-organization, the parties agreed that
ownership of China Valves Samoa would be held by Mr. Siping Fang. Mr. Siping
Fang controlled the Operating Subsidiaries both before and after the
re-organization. The family members are considered to be part of the same
control group and the transfer of the interests of Mr. Siping Fang’s spouse and
son was a matter of convenience, for which no consideration was exchanged.
Accordingly, the acquisition of the Operating Subsidiaries by Henan Tonghai
Valve was considered to be a transaction between entities under common
control.
 
  F-7
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  Restructuring
Plan
  Subsequent
to entry into the Exchange Agreement, the Company undertooka
restructuring plan intended to ensure compliance with regulatory requirements of
the PRC. Under that plan, on April 1 and 3, 2008, the Company transferred 100%
of the equity of the Operating Subsidiaries back to Sipang Fang and the other
original owners, with the intention that Sipang Fang would transfer the
Operating Subsidiaries to a new entity controlled by Mr. Bin Li (a Canadian
citizen and Mr. Siping Fang’s cousin), and that Mr. Li would then sell such
entity to the Company, thereby allowing the Company to reacquire legal ownership
of the Operating Subsidiaries.
  Under the
restructuring plan, on April 10, 2008, Mr. Fang, the Company’s Chief Executive
Officer and President, sold 24,300,000 shares of the Company’s common stock
beneficially owned by him and which he had received in the merger transaction
described above, to Mr. Li for HK$10,000. In connection with his acquisition of
the Shares, Mr. Li issued to Mr. Fang a HK$10,000 note. The note, which does not
bear interest, is due sixty days after a written demand for payment is made by
Mr. Fang to Mr. Li, provided that such demand is made on or after October 15,
2008. The sale represented a change of control of the Company and the Shares
acquired by Mr. Li represented approximately 60.75% of the then issued and
outstanding capital stock of the Company calculated on a fully-diluted basis.
Prior to the acquisition, Mr. Li was not affiliated with the Company. However
following the acquisition, Mr. Li is deemed an affiliate of the Company as a
result of his stock ownership interest in the Company. In connection therewith,
Mr. Fang and Mr. Li entered into an Earn-In Agreement (the “Earn-In Agreement”)
pursuant to which Mr. Fang obtained the right and option to re-acquire the
shares of the Company from Mr. Li, subject to the satisfaction of four
conditions as set forth in the Earn-In Agreement, as follows: (1) 12,150,000
shares, upon the later occurrence of either (i) the date that is six months
after April 10, 2008 or (ii) the date upon which Mr. Fang and Henan Tonghai
Valve enter into a binding employment agreement for a term of not less than five
years for Mr. Fang to serve as Henan Tonghai Valve’s chief executive officer and
chairman of its board of directors; (2) 4,050,000 shares upon the declaration of
effectiveness of a registration statement filed by the Company under the
Securities Act of 1933, as amended; (3) 4,050,000 shares when the Operating
Subsidiaries achieve after-tax net income of not less than $3,000,000, as
determined under United States Generally Accepted Accounting Principles (“GAAP”)
consistently applied for six months ended June 30, 2008; and (4) 4,050,000 of
the Shares when the Operating Subsidiaries achieve not less than $7,232,500 in
pre tax profits, as determined under GAAP, for the fiscal year ended December
31, 2008. Conditions (3) and (4) have been met. The shares under the Earn-In
Agreement are also the subject of a Make-Good Escrow Agreement in connection
with the Company’s August 26, 2008 private placement – see Note 12.
 
 In
accordance with the restructuring plan, Mr. Li established China Fluid Equipment
Holdings Limited (“China Fluid Equipment”) on April 18, 2008, to serve as the
100% owner of a new PRC subsidiary, Henan Tonghai Fluid Equipment Co., Ltd.
(“Henan Tonghai”). On June 30, 2008, Henan Tonghai acquired the Operating
Subsidiaries from Mr. Fang and the other original owners. The acquisitions were
consummated under the laws of the PRC. The former Hong Kong holding company,
China Valve Hong Kong and its subsidiary Henan Tonghai Valve, which no longer
hold any assets, are now dormant. On July 31, 2008, the Company and Mr. Li
completed the restructuring plan when Mr. Li transferred all of the capital
stock of China Fluid Equipment to the Company pursuant to an Instrument of
Transfer for a nominal consideration of HK$10,000 (approximately $1,281). As a
result of these transactions, the Operating Subsidiaries are again the Company’s
indirect wholly-owned subsidiaries. During the time that the operating
subsidiaries were held by the original owners as part of the restructuring plan,
Siping Fang made an additional capital contribution of $1,317,095 to Zhengdie
Valve which, subsequent to the reacquisition of the subsidiaries, is to be
returned to him (see Note 11).
  As part
of these restructuring transactions, no significant amounts were paid to or
received from Mr. Fang or Mr. Li. Mr. Li was not at risk during these
transactions and no new capital was introduced. As a result, no new basis in the
net assets of the Operating Subsidiaries was established. During this
restructuring, Mr. Fang continued to serve as Chairman and Chief Executive of
the Company and, together with other management of the Company, continued to
direct both the day-to-day operating and management of the Operating
Subsidiaries, as well as their strategic direction. Because of this operating
and management control and because the restructuring plan effectively resulted
in the Company continuing to bear the residual risks and rewards related to the
Operating Subsidiaries, the Company continued to consolidate the Operating
Subsidiaries during the restructuring. The acquisition by the Company on July
31, 2008 of the new holding company for the Operating Subsidiaries, which
represented the return to legal ownership of the Operating Subsidiaries by the
Company, represented a transaction between related parties under common control
and did not establish a new basis in the assets and liabilities of the Operating
Subsidiaries. The Earn-In Agreement will enable Mr. Fang to regain ownership of
the Company’s shares originally transferred by him to Mr. Li as part of the
restructuring arrangements and, accordingly, the Company does not consider his
re-acquisition of those shares to represent compensation cost to the Company.
However, those shares are also subject to a Make-Good Escrow Agreement in
connection with the Company’s August 26, 2008 private placement and their
release from that escrow may require us to recognize compensation cost – see
Note 12.
 
  F-8
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  New
Company
 
 On
November 17, 2008, the Company’s subsidiary, China Fluid Equipment established a
new holding company, Tai Zhou Tai De Valve Co., Ltd. for the purpose of
acquiring new valve manufacturing companies. The newly established company’s
approved registered capital is $1,199,980 (RMB 8,201,520), which has been
received from China Fluid Equipment as of December 31, 2008.
 
 Note 2 –
Summary of significant accounting policies
  THE
REPORTING ENTITIES
  The
accompanying consolidated financial statements include the following
subsidiaries:
  Name
      of entity
                                              Place
      of
                                                incorporation
                                              Capital
                                              Ownership
                                              Principle
      businessLocal
      currency
                                              USDHenan
      Kai Feng High Pressure Valve Co., Ltd.
                                              PRC
                                              RMB
      60,000,000
                                              $7,260,000
                                              100%
      Indirectly
                                              ManufacturingZhengzhou
      City ZhengDie Valve., Ltd.
                                              PRC
                                              RMB
      50,000,000
                                              $6,454,174
                                              100%
      Indirectly
                                              ManufacturingTai
      Zhou Tai De Valve Co. , Ltd.
                                              PRC
                                              RMB
      8,201,520
                                              $1,199,980
                                              100%
      Indirectly
                                              Holding
      CompanyHenan
      Tonghai Fluid Equipment Co., Ltd.
                                              PRC
                                              RMB
      146,793,400
                                              $21,500,000
                                              100%
      Indirectly
                                              Holding
      CompanyChina
      Fluid Equipment Holdings Limited
                                              Hong
      Kong
                                              HKD
      10,000
                                              $1,282
                                              100%
      Directly
                                              Holding
      Company
 
 BASIS OF
PRESENTATION
  The
consolidated financial statements are prepared in accordance with generally
accepted accounting principles in the United States of America ("US GAAP"). In
the opinion of management, the accompanying balance sheets, and statements of
income, stockholders’ equity and cash flows include all adjustments, consisting
only of normal recurring items, considered necessary to give a fair presentation
of operating results for the periods presented. All material inter-company
transactions and balances have been eliminated in consolidation.
  USE OF
ESTIMATES
  The
preparation of consolidated financial statements in conformity with US GAAP
requires us to make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosures of contingent assets and liabilities
at the date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
  REVENUE RECOGNITION
  The
Company’s revenue recognition policies are in accordance with Staff Accounting
Bulletin 104. Sales revenue is recognized when all of the following have
occurred: (i) persuasive evidence of an arrangement exists, (ii) delivery has
occurred or services have been rendered, (iii) the price is fixed or
determinable, and (iv) the ability to collect is reasonably assured. These
criteria are generally satisfied at the time of shipment when risk of loss and
title passes to the customer.
  The
Company recognizes revenue when the goods are delivered and title has passed.
Sales revenue represents the invoiced value of goods, net of a value-added tax
(“VAT”). All of the Company’s products that are sold in the PRC are subject to a
Chinese value-added tax at a rate of 17% of the gross sales price or at a rate
approved by the Chinese local government. This VAT may be offset by the VAT paid
by the Company on raw materials and other materials included in the cost of
producing their finished product.
  The
Company allows its customers to retain 5% to 10% of the contract prices as
retainage during the warranty period, usually 12 or 18 months, to guarantee
product quality. Historically, the Company has experienced very few actual
warranty claims resulting in the Company having to repair or exchange a
defective product. Due to the infrequency and insignificant amount of warranty
claims, the ability to collect retainage is reasonably assured and is recognized
at the time of shipment.
   F-9
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  COST OF
GOODS SOLD
  Cost of
goods sold consists primarily of direct material costs, direct labor costs,
direct depreciation and related direct expenses attributable to the production
of the products. Inbound freight costs and purchasing are included in direct
material costs. Manufacturing overhead includes expenses such as indirect labor,
depreciation as it relates to the cost of production, rent, utilities, receiving
costs, and equipment maintenance and repairs.
  SHIPPING
AND HANDLING
  Shipping
and handling for raw materials purchased are included in inventory costs.
Shipping and handling costs incurred for shipping of finished products to
customers are included in selling expense and totaled $289,805 and $336,852 for
the years ended December 31, 2008, and 2007, respectively.
 
 SELLING
EXPENSE
 
 Selling
expense includes transportation expense, advertising, salaries, conference fees
and sales commissions.
 
 GENERAL
AND ADMINSTRATIVE EXPENSE
 
 General
and administrative expenses include insurance expense, administrative and
management salaries, bad debt expense, depreciation, rent, travel expense,
welfare expense, office expenses, meal and entertainment expense, conference
expense, and repairs and maintenance expense.
 
 ADVERTISING
  Advertising
costs are expensed as incurred and totaled $49,918 and $29,413 for the years
ended December 31, 2008, and 2007, respectively.
 
 FOREIGN
CURRENCY TRANSLATION AND OTHER COMPREHENSIVE INCOME
  The
reporting currency of the Company is the US dollar. The functional currency of
the Company and its Operating Subsidiaries, High Pressure Valve and Zhengdie
Valve, is the Chinese Renminbi (RMB).
  For those
entities whose functional currency is other than the US dollar, all assets and
liabilities are translated into U.S. dollars at the exchange rate on the balance
sheet date; shareholders’ equity is translated at historical rates and items in
the statements of income and of cash flows are translated at the average rate
for the period. Because cash flows are translated based on the average
translation rate, amounts related to assets and liabilities reported in the
statement of cash flows will not necessarily agree with changes in the
corresponding balances in the balance sheet. Translation adjustments resulting
from this process are included in accumulated other comprehensive income in the
statement of shareholders’ equity. Transaction gains and losses that arise from
exchange rate fluctuations on transactions denominated in a currency other than
the functional currency are included in the results of operations as
incurred.
  Accumulated
other comprehensive income in the consolidated statement of shareholders’ equity
amounted to $6,158,977 and $3,173,745 as of December 31, 2008 and December 31,
2007, respectively. The balance sheet amounts with the exception of equity at
December 31, 2008 and 2007 were translated at 6.82 RMB and 7.29 RMB to $1.00,
respectively. The average translation rates applied to the statements of income
and of cash flows for the years ended December 31, 2008 and 2007 were 6.94 RMB
and 7.59 RMB to $1.00, respectively.
  PLANT AND
EQUIPMENT
  Plant and
equipment are stated at cost less accumulated depreciation. Depreciation is
calculated using the straight-line method over the estimated life of the asset,
ranging from five to ten years.
  Construction
in progress represents direct costs of construction as well as acquisition and
design fees incurred. Capitalization of these costs ceases and the construction
in progress is transferred to plant and equipment when substantially all the
activities necessary to prepare the assets for their intended use are completed.
No depreciation is provided until construction is completed and the asset is
ready for its intended use. Maintenance, repairs and minor renewals are charged
directly to expenses as incurred. Major additions and betterments to property
and equipment are capitalized.
  INTANGIBLE
ASSETS
  Intangible
assets consist of goodwill, patents and software.  The Company records
goodwill when the purchase price of the net assets acquired exceeds their fair
value. In accordance with SFAS 142, “Goodwill and Other Intangible Assets,”
goodwill has an indefinite life and therefore costs are not amortized
but reviewed for impairment.  Patents and software are subject to
amortization. Patents, which have a legal life of 10 years in the PRC, are being
amortized over 5 years as management believes that five years is the estimated
useful life of the patents currently owned by the Company. Software is amortized
over 10 years, its estimated useful life.
  F-10
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  LONG-LIVED
ASSETS
  The
Company periodically reviews the carrying amount of its long-lived assets,
including intangibles, for impairment. An asset is considered impaired when
estimated future cash flows are less than the carrying amount of the asset. In
the event the carrying amount of such asset is considered not recoverable, the
asset is adjusted to its fair value. Fair value is generally determined based on
discounted future cash flow. As of December 31, 2008, the Company determined no
impairment charges were necessary.
 
 INVENTORY
  The
Company values its inventory at the lower of cost or market, determined on a
weighted average method, or net realizable value. The Company reviews its
inventories periodically to determine if any reserves are necessary for
potential obsolescence or if a write down is necessary because the carrying
value exceeds net realizable value.
  RESEARCH
AND DEVELOPMENT COSTS
  Research
and development costs are expensed as incurred. The costs of material and
equipment that are acquired or constructed for research and development
activities and which have alternative future uses, either in research and
development, marketing, or sales, are classified as property and equipment and
depreciated over their estimated useful lives.
  RETIREMENT
BENEFIT COSTS
  Amounts
payable for the PRC state managed retirement benefit programs are expensed in
the financial statements following the accrual basis of accounting.
  INCOME
TAXES
  The
Company applies SFAS 109, “Accounting for Income Taxes”, which requires
recognition of deferred income tax liabilities and assets for the expected
future tax consequences of temporary differences between the income tax basis
and financial reporting basis of assets and liabilities. Provision for income
taxes consist of taxes currently due plus deferred taxes. Because the Company
has no operations within the United States, there is no provision for US income
taxes and there are no deferred tax amounts as of December 31, 2008 and
2007.
 
 The
charge for taxation is based on the results for the year as adjusted for items
that are non-assessable or disallowed. It is calculated using tax rates that
have been enacted or substantively enacted by the balance sheet date. Deferred
taxes are accounted for using the balance sheet liability method in respect of
temporary differences arising from differences between the carrying amount of
assets and liabilities in the financial statements and the corresponding tax
basis used in the computation of assessable tax profit.  In principle,
deferred tax liabilities are recognized for all taxable temporary differences,
and deferred tax assets are recognized to the extent that it is probable that
taxable profit will be available against which deductible temporary differences
can be utilized.
  Deferred
taxes are calculated at the tax rates that are expected to apply to the period
when the asset is realized or the liability is settled.  Deferred
taxes are charged or credited in the income statement, except when they relate
to items credited or charged directly to equity, in which case the deferred
taxes are also recorded in equity. Deferred tax assets and liabilities are
offset when they relate to income taxes levied by the same taxation authority
and the Company intends to settle its current tax assets and liabilities on a
net basis.
  The
Company adopted FASB Interpretation 48, “Accounting for Uncertainty in Income
Taxes” (“FIN 48”), as of January 1, 2007. A tax position is recognized as a
benefit only if it is “more likely than not” that the tax position would be
sustained in a tax examination, with a tax examination being presumed to occur.
The amount recognized is the largest amount of tax benefit that is greater than
50% likely of being realized on examination. For tax positions not meeting the
“more likely than not” test, no tax benefit is recorded. The adoption of FIN 48
had no affect on the Company’s financial statements.
  CASH AND CASH EQUIVALENTS
  Cash and
cash equivalents comprise cash in banks and on hand, demand deposits with banks
and other financial institutions, and short-term, highly liquid investments
which are readily convertible into known amounts of cash and which are subject
to an insignificant risk of changes in value, having been within three months of
maturity at acquisition.
   F-11
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  RESTRICTED
CASH
  The Company’s restricted cash consists
of cash in the bank as security for its exported products, notes payable and
cash in held escrow pursuant to the Securities Purchase Agreement entered into
on August 26, 2008. For restricted cash held in bank, the restriction is
released after the customers have received and inspected the
products.The Company has notes payable
outstanding with various banks and is required to keep certain amounts on
deposit that are subject to withdrawal restrictions. Cash held in escrow
pursuant to the Securities Purchase Agreement is released after the Company
satisfies certain covenants as stated in the Securities Purchase Agreement, see
note 12. Restricted cash amounted to $3,191,237and $40,856 as of December 31,
2008 and 2007, respectively.
  CONCENTRATION
RISKS
  The
Company's operations are carried out in the PRC. Accordingly, the Company's
business, financial condition and results of operations may be influenced by the
political, economic and legal environment in the PRC, and by the general state
of the PRC's economy. The Company's operations in the PRC are subject to
specific considerations and significant risks not typically associated with
companies in North America and Western Europe. The Company's results may be
adversely affected by changes in governmental policies with respect to laws and
regulations, anti-inflationary measures, restrictions on currency conversion and
remittance abroad, and rates and methods of taxation, among other things.
 
 Certain
financial instruments may subject the Company to concentration of credit risk.
The Company maintains bank deposits within state-owned banks within the PRC and
Hong Kong. Balances at financial institutions of state owned banks within the
PRC are not covered by insurance. As of December 31, 2008 and 2007, the
Company’s cash and restricted cash balances, totaling $11,984,233 and
$2,814,118, respectively at those dates, were not covered by insurance. The
Company has not experienced any losses in such accounts and believes it is not
exposed to any significant risks on its cash in bank accounts.
  Five
major suppliers represented approximately 21% and 38% of the Company’s total
purchases for the years ended December 31, 2008 and 2007, respectively. Five
major customers represented approximately 13% and 10% of the Company’s total
sales for the years ended December 31, 2008 and 2007.
  FINANCIAL
INSTRUMENTS
  SFAS 107,
“Disclosures about Fair Value of Financial Instruments” requires disclosure of
the fair value of financial instruments held by the Company. Management believes
that the carrying amounts of cash, accounts receivable, other receivables,
accounts payable, accrued liabilities, other payables and lines of credit
approximate their fair values because of the short period of time between the
origination of such instruments and their expected
realization.  Additionally, the stated rate on the line of credit is
consistent with rates currently available, and therefore, management concluded
the carrying value was equivalent to fair value.
  FAIR
VALUE OF FINANCIAL INSTRUMENTS
  The
Company adopted SFAS 157, “Fair Value Measurements” on January 1, 2008. SFAS 157
defines fair value, establishes a three-level valuation hierarchy for
disclosures of fair value measurement and enhances disclosure requirements for
fair value measures. Current assets and current liabilities qualified as
financial instruments and management believes their carrying amounts are a
reasonable estimate of fair value because of the short period of time between
the origination of such instruments and their expected realization and if
applicable, their current interest rate is equivalent to interest rates
currently available. The three levels are defined as follows:
  Level
1   inputs to the valuation methodology are quoted prices
(unadjusted) for identical assets or liabilities in active markets.
  Level
2   inputs to the valuation methodology include quoted prices for
similar assets and liabilities in active markets, and inputs that are observable
for the assets or liability, either directly or indirectly, for substantially
the full term of the financial instruments.
  Level
3   inputs to the valuation methodology are unobservable and
significant to the fair value.
 
  F-12
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  The
Company analyzes all financial instruments with features of both liabilities and
equity under SFAS 150, “Accounting for Certain Financial Instruments with
Characteristics of Both Liabilities and Equity,” SFAS 133, “Accounting for
Derivative Instruments and Hedging Activities” and EITF 00-19, “Accounting for
Derivative Financial Instruments Indexed to, and Potentially Settled in, a
Company’s Own Stock.” and EITF 07-5 “Determining Whether an Instrument (or
Embedded Feature) Is Indexed to an Entity’s Own Stock.” Under SFAS 133, EITF
00-19 and EITF 07-5, the Company’s warrants are recorded as a liability at fair
value and marked to market each reporting period. Because there is no quoted or
observable market price for the warrants, the Company used level 3 inputs for
its valuation methodology.
  The
Company invested in China Perfect Machinery Industry Co., Ltd. in 1996 and
Kaifeng Commercial Bank in 1997.  There is no quoted or observable
market price for these investments; therefore, the Company used level 3 inputs
for its valuation methodology.  Based on its proportionate share of the
underlying book value of the investees, the Company believes the fair value of
the investments is at least equal to the original cost. The determination of the
fair value was based on the capital investment that the Company
contributed.  There has been no change in the carrying value since
inception, other than the effects of translating the balances to US
dollars.
 
 Fair
      Value as of
                    December
      31, 2008
                  
                  Fair
      Value Measurements at December 31, 2008
                    using
      Fair Value HierarchyLevel
      1
                  Level
      2
                  
                  Level
      3Warrant
      liability
                  
                  $
                  924,291
                  
                  
                  
                  
                  $
                  924,291Investments
                  
                  $
                  764,515
                  
                  
                  
                  
                  $
                  764,515
 
 Except
for the warrant liability and investments, the Company did not identify any
other asset and liability that are measured at fair value on a recurring basis
in accordance with SFAS 157.
 
 ACCOUNTS RECEIVABLE
  The
Company’s business operations are conducted in the PRC by selling on various
credit terms. Management reviews its accounts receivable on a quarterly basis to
determine if the allowance for doubtful accounts is adequate. An estimate for
doubtful accounts is recorded when collection of the full amount is no longer
probable. Known bad debts are written off against the allowance for doubtful
accounts when identified. The Company’s existing reserve is consistent with its
historical experience and considered adequate by management.
  EARNINGS
PER SHARE
  The
Company reports earnings per share in accordance with the provisions of SFAS
128, "Earnings per Share." SFAS 128 requires presentation of basic and diluted
earnings per share in conjunction with the disclosure of the methodology used in
computing such earnings per share. Basic earnings per share excludes dilution
and is computed by dividing income available to common stockholders by the
weighted average common shares outstanding during the period. Diluted earnings
per share takes into account the potential dilution (using the treasury stock
method) that could occur if securities or other contracts to issue common stock
were exercised and converted into common stock.
  All per
share data including earnings per share has been retroactively restated to
reflect the merger on December 18, 2007 as if it had occurred at the beginning
of 2007. For the years ended December 31, 2008 and 2007, basic and diluted
(loss) earnings per share amount to $(0.09) and $0.18,
respectively.
  At
December 31, 2008, 1,274,497 warrants, whose weighted average exercise price is
$2.60, are excluded from the calculation of diluted earnings per share because
of their anti-dilutive nature.
  As
described in Notes 10, 11 and 12, on August 26, 2008, the Company issued
5,500,000 shares as consideration for the transfer to the Company of certain
land use rights and property.  The shares are currently in escrow,
pending PRC governmental approval of the transfer.  In the event that
governmental approval is not obtained, the shares will be returned to the
Company.  In accordance with SFAS 128, outstanding common shares that
are contingently returnable (that is, subject to recall) are treated in the same
manner as contingently issuable shares.  Contingently issuable shares
are considered outstanding for earnings per share based on the assumption that
the current status of the condition will remain unchanged until the end of the
contingency period; accordingly, the 5,500,000 shares are currently excluded in
the calculation of the Company’s earnings per share.  On March 6,
2009, the land use rights and property were transferred to the Company, thus
resolving the contingency. For the year ended December 31, 2008, the shares have
continued to be excluded from diluted earnings per share because their effect is
anti-dilutive. For periods beginning after December 31, 2008, they will be
included in diluted earnings per share as of the beginning of the period
(assuming their effect is not anti-dilutive) and in basic earnings per share on
a weighted-average basis from the date the contingency was
resolved.
  LONG TERM
INVESTMENT
  The
Company invested in China Perfect Machinery Industry Co., Ltd. in 1996 and
Kaifeng Commercial Bank in 1997. The Company owns approximately 0.14% of China
Perfect Machinery Industry Co. Ltd. and approximately 4.01% of Kaifeng
Commercial Bank. The Company does not have the ability to exercise control over
the investee companies and the investments have been recorded under the cost
method. These long term investments amounted to $764,515 and $714,485 as of
December 31, 2008 and 2007, respectively.
  F-13
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  The
Company periodically evaluates potential impairment whenever events or changes
in circumstances indicate that the carrying amount of the investments may not be
recoverable. For investments carried at cost, the Company recognizes impairment
of long term investments in the event that the carrying value of the investment
exceeds our proportionate share of the net book value of the investee. As of
December 31, 2008, management believes no impairment charge is
necessary.
  CUSTOMER
DEPOSITS
  Customer
deposits represent amounts advanced by customers on product orders. The product
normally is shipped within six months after receipt of the advance payment and
the related sale is recognized in accordance with the Company’s revenue
recognition policy. As of December 31, 2008 and 2007, customer deposits amounted
to $3,129,708 and $2,810,352, respectively.
 
 STOCK
BASED COMPENSATION
  The
Company applies Statement of Financial Accounting Standards No. 123R “Accounting
for Stock-Based Compensation” (“SFAS 123R”), which defines a fair-value-based
method of accounting for stock based employee compensation and transactions in
which an entity issues its equity instruments to acquire goods and services from
non-employees. Stock compensation for stock granted to non-employees has
been determined in accordance with SFAS 123R and the Emerging Issues Task
Force consensus in Issue No. 96-18, "Accounting for Equity Instruments that are
issued to Other than Employees for Acquiring, or in Conjunction with Selling
Goods or Services" ("EITF 96-18"), as the fair value of the consideration
received or the fair value of equity instruments issued, whichever is more
reliably measured. SFAS 123R allows the “simplified” method to determine the
term of employee options when other information is not available.
  The
Company follows the guidance in EITF 07-5 “Determining Whether an Instrument (or
Embedded Feature) is Indexed to an Entity’s Own Stock”. Paragraph 11(a) of SFAS
133 “Accounting for Derivatives and Hedging Activities” specifies that a
contract that would otherwise meet the definition of a derivative but is both
(a) indexed to the Company’s own stock and (b) classified in
stockholders’ equity in the statement of financial position would not be
considered a derivative financial instrument. EITF 07-5 provides a two-step
model to be applied in determining whether a financial instrument or an embedded
feature is indexed to an issuer’s own stock and thus able to qualify for the
SFAS 133 paragraph 11(a) scope exception. All warrants issued by the Company are
denominated in U.S. dollars; because the Company’s functional currency is the
Renminbi, the Company accounts for these warrants as derivative instrument
liabilities and marks them to market each period.
  RECENTLY
ISSUED ACCOUNTING PRONOUNCEMENTS
  In
February 2007, the FASB issued SFAS 159, The Fair Value Option for Financial
Assets and Financial Liabilities—including an amendment of FASB Statement No.
115. SFAS 159 permits companies to choose to measure many financial instruments
and certain other items at fair value that are not currently required to be
measured at fair value. The objective of SFAS 159 is to provide opportunities to
mitigate volatility in reported earnings caused by measuring related assets and
liabilities differently without having to apply hedge accounting provisions.
SFAS 159 also establishes presentation and disclosure requirements designed to
facilitate comparisons between companies that choose different measurement
attributes for similar types of assets and liabilities. The Company adopted SFAS
159 on January 1, 2008. The Company chose not to elect the option to measure the
fair value of eligible financial assets and liabilities.
  In June
2007, the FASB issued FASB Staff Position No. EITF 07-3, “Accounting for
Nonrefundable Advance Payments for Goods or Services Received for use in Future
Research and Development Activities” (“FSP EITF 07-3”), which addresses whether
nonrefundable advance payments for goods or services that are used for research
and development activities should be expensed when the advance payment is made
or when the research and development activity has been performed.  The
Company adopted FSP EITF 07-3 and expenses any nonrefundable advance payment
when the research and development is performed.
  In
December 2007, the FASB issued SFAS 160, “Noncontrolling Interests in
Consolidated Financial Statements - an amendment of Accounting Research Bulletin
No. 51”, which establishes accounting and reporting standards for ownership
interests in subsidiaries held by parties other than the parent, the amount of
consolidated net income attributable to the parent and to the noncontrolling
interest, changes in a parent’s ownership interest and the valuation of retained
non-controlling equity investments when a subsidiary is deconsolidated. The
Statement also establishes reporting requirements that provide sufficient
disclosures that clearly identify and distinguish between the interests of the
parent and the interests of the non-controlling owners. SFAS 160 is effective
for fiscal years beginning after December 15, 2008. The adoption of SFAS 160 is
not expected to have any effect on the Company’s consolidated financial
statements.
 
  F-14
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  In
December 2007, the FASB issued SFAS 141(R), “Business Combinations”, which
replaces SFAS 141, “Business Combinations”. SFAS 141R retains the fundamental
requirements in SFAS 141 that the acquisition method of accounting (which SFAS
141 called the purchase method) be used for all business combinations and for an
acquirer to be identified for each business combination. SFAS 141R requires an
acquirer to recognize the assets acquired, the liabilities assumed, and any
noncontrolling interest in the acquiree at the acquisition date, measured at
their fair values as of that date, with limited exceptions. This replaces SFAS
141’s cost-allocation process, which required the cost of an acquisition to be
allocated to the individual assets acquired and liabilities assumed based on
their estimated fair values. SFAS 141R also requires the acquirer in a business
combination achieved in stages (sometimes referred to as a step acquisition) to
recognize the identifiable assets and liabilities, as well as the noncontrolling
interest in the acquiree, at the full amounts of their fair values (or other
amounts determined in accordance with SFAS 141R). SFAS 141R applies
prospectively to business combinations for which the acquisition date is on or
after the beginning of the first annual reporting period beginning on or after
December 15, 2008. An entity may not apply it before that date.
  In March
2008, the FASB issued SFAS 161, “Disclosures about Derivative Instruments and
Hedging Activities, an amendment of FASB Statement No. 133”, which requires
additional disclosures about the objectives of the derivative instruments and
hedging activities, the method of accounting for such instruments under SFAS 133
and its related interpretations, and a tabular disclosure of the effects of such
instruments and related hedged items on our financial position, financial
performance, and cash flows. SFAS 161 is effective for us beginning
January 1, 2009. The Company is currently evaluating the impact that
adopting SFAS 161 will have on its financial statements.
  In April
2008, the FASB issued FSP FAS 142-3 “Determination of the useful life of
Intangible Assets”, which amends the factors a company should consider when
developing renewal assumptions used to determine the useful life of an
intangible asset under SFAS142. This FSP is effective for financial statements
issued for fiscal years beginning after December 15, 2008, and interim periods
within those fiscal years. SFAS 142 requires companies to consider whether
renewal can be completed without substantial cost or material modification of
the existing terms and conditions associated with the asset. FSP FAS 142-3
replaces the previous useful life criteria with a new requirement—that an entity
consider its own historical experience in renewing similar arrangements. If
historical experience does not exist, then the Company would consider market
participant assumptions regarding renewal including 1) highest and best use of
the asset by a market participant, and 2) adjustments for other entity-specific
factors included in SFAS 142. The Company is currently evaluating the impact
that adopting FSP FAS 142-3 will have on its financial statements.
  In May
2008, the FASB issued SFAS 162, “The Hierarchy of Generally Accepted Accounting
Principles.” This Statement identifies the sources of accounting principles and
the framework for selecting the principles to be used in the preparation of
financial statements of nongovernmental entities that are presented in
conformity with generally accepted accounting principles (GAAP) in the United
States (the “GAAP hierarchy”). SFAS 162 did not have any effect on the Company’s
financial statements.
  In May
2008, the FASB issued SFAS 163, “Accounting for Financial Guarantee Insurance
Contracts, an interpretation of FASB Statement No. 60.” The scope of this
Statement is limited to financial guarantee insurance (and reinsurance)
contracts, as described in this Statement, issued by enterprises included within
the scope of Statement 60. Accordingly, this Statement does not apply to
financial guarantee contracts issued by enterprises excluded from the scope of
Statement 60 or to some insurance contracts that seem similar to financial
guarantee insurance contracts issued by insurance enterprises (such as mortgage
guaranty insurance or credit insurance on trade receivables). This Statement
also does not apply to financial guarantee insurance contracts that are
derivative instruments included within the scope of SFAS 133, “Accounting for
Derivative Instruments and Hedging Activities.” This Statement will not have any
impact on the Company’s financial statements.
 
 In June
2008, the FASB issued EITF 08-4, “Transition Guidance for Conforming Changes to
Issue No. 98-5.” The objective of EITF 08-4 is to provide transition
guidance for conforming changes made to EITF 98-5, “Accounting for Convertible
Securities with Beneficial Conversion Features or Contingently Adjustable
Conversion Ratios”, that result from EITF 00-27 “Application of Issue No. 98-5
to Certain Convertible Instruments”, and SFAS 150, “Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and Equity”. This
Issue is effective for financial statements issued for fiscal years ending after
December 15, 2008 and has no effect on the Company’s financial
statements.
  In
October 2008, the FASB issued FSP FAS 157-3, “Determining the Fair Value of a
Financial Asset in a Market That Is Not Active” (FSP 157-3), which clarifies the
application of SFAS 157 when the market for a financial asset is inactive.
Specifically, FSP 157-3 clarifies how (1) management’s internal assumptions
should be considered in measuring fair value when observable data are not
present, (2) observable market information from an inactive market should be
taken into account, and (3) the use of broker quotes or pricing services should
be considered in assessing the relevance of observable and unobservable data to
measure fair value. The Company adopted the provisions of FSP 157-3, which did
not impact the Company’s financial position or results of
operations.
 
  F-15
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  In
December 2008, the FASB issued FSP FAS 140-4 and FIN 46(R)-8, “Disclosures by
Public Entities (Enterprises) about Transfers of Financial Assets and Interests
in Variable Interest Entities” (“FSP FAS 140-4 and FIN 46(R)-8”). FSP FAS 140-4
and FIN 46(R)-8 amends FAS 140 and FIN 46(R) to require additional disclosures
regarding transfers of financial assets and interest in variable interest
entities. FSP FAS 140-4 and FIN 46(R)-8 is effective for interim or annual
reporting periods ending after December 15, 2008. FSP FAS 140-4 and FIN
46(R)-8 did not have any impact on the Company's financial
statements.
 
 In
January 2009, the FASB issued FSP EITF 99-20-1, “Amendments to the Impairment
Guidance of EITF Issue No. 99-20, and EITF Issue No. 99-20, Recognition of
Interest Income and Impairment on Purchased and Retained Beneficial Interests in
Securitized Financial Assets”. FSP EITF 99-20-1 changes the impairment model
included within EITF 99-20 to be more consistent with the impairment model of
SFAS 115. FSP EITF 99-20-1 achieves this by amending the impairment model in
EITF 99-20 to remove its exclusive reliance on “market participant” estimates of
future cash flows used in determining fair value. Changing the cash flows used
to analyze other-than-temporary impairment from the “market participant” view to
a holder’s estimate of whether there has been a “probable” adverse change in
estimated cash flows allows companies to apply reasonable judgment in assessing
whether an other-than-temporary impairment has occurred. The adoption of FSP
EITF 99-20-1, which is effective for annual reporting periods ending after
December 15, 2008, did not have a material impact on our consolidated financial
statements.
 
 RECLASSIFICATIONS
 
 Certain
prior period amounts have been reclassified to conform to the current period
presentation. These classifications have no effect on net income. The Company
has also reclassified certain items in the Statements of Cash Flows, the effect
of which were as follows:
 
 Year
      ended
                                          December
      31, 2007As
      Originally Reported
                                        
                                        
                                        As
      RevisedCash
      Flows from Operating Activities:Accounts
      receivable – trade
                                        
                                        
                                        (6,704,495
                                        )
                                        
                                        
                                        (7,023,086
                                        )Prepaid
      expenses
                                        
                                        
                                        (277,882
                                        )
                                        
                                        
                                        70,541Other
      payables
                                        
                                        
                                        1,831,323
                                        
                                        
                                        
                                        2,032,192Accrued
      liabilities
                                        
                                        
                                        974,596
                                        
                                        
                                        
                                        1,137,096Other
      items
                                        
                                        
                                        8,354,616
                                        
                                        
                                        
                                        8,354,616Net
      cash provided by operating activities
                                        
                                        
                                        4,178,158
                                        
                                        
                                        
                                        4,571,359Cash
      Flows from Investing Activities:Other
      items
                                        
                                        
                                        (2,090,732
                                        )
                                        
                                        
                                        (2,090,732
                                        )Net
      cash used in investing activities
                                        
                                        
                                        (2,090,732
                                        )
                                        
                                        
                                        (2,090,732
                                        )Cash
      Flows from Financing Activities:Proceeds
      from short-term debt
                                        
                                        
                                        4,747,066
                                        
                                        
                                        
                                        4,397,140Repayment
      of notes payable
                                        
                                        
                                        (4,309,215
                                        )
                                        
                                        
                                        (4,486,925
                                        )Other
      items
                                        
                                        
                                        (5,400,290
                                        )
                                        
                                        
                                        (5,400,290
                                        )Net
      cash used in financing activities
                                        
                                        
                                        (4,962,439
                                        )
                                        
                                        
                                        (5,490,075
                                        )Effects
      of exchange rate changes on cash
                                        
                                        
                                        57,064
                                        
                                        
                                        
                                        191,499Decrease
      in cash and cash equivalents
                                        
                                        
                                        (2,817,949
                                        )
                                        
                                        
                                        (2,817,949
                                        )Cash
      and cash equivalents, beginning of year
                                        
                                        
                                        5,591,211
                                        
                                        
                                        
                                        5,591,211Cash
      and cash equivalents, end of year
                                        
                                        
                                        2,773,262
                                        
                                        
                                        
                                        2,773,262
 
 The
Company also reclassified $2,275,010 from office equipment to buildings and
improvements.
   F-16
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  Note 3 - Plant and equipment
  Plant and
equipment consist of the following:
  December
      31, 2008
                              
                              
                              December
      31, 2007Buildings
      and improvements
                              
                              $
                              3,291,978
                              
                              
                              $
                              2,275,010Machinery
                              
                              
                              13,569,698
                              
                              
                              
                              10,163,141Motor
      vehicles
                              
                              
                              1,638,036
                              
                              
                              
                              1,519,634Office
      equipment
                              
                              
                              465,922
                              
                              
                              
                              370,246Construction
      in progress
                              
                              
                              5,600,335
                              
                              
                              
                              239,05924,565,969
                              
                              
                              
                              14,567,090Less:
      Accumulated depreciation
                              
                              
                              (8,381,075)
                              
                              
                              
                              (7,043,302
                              )$
                              16,184,894
                              
                              
                              $
                              7,523,788
  Depreciation
expense was $933,714 and $551,252 for the years ended December 31, 2008 and
2007, respectively. Capitalized interest amounted to $84,974 and $117,446 as of
December 31, 2008 and 2007, respectively.
 
 Note 4 –
Goodwill and intangible assets
  In 2004,
the Company acquired two companies engaged in the production of
valves.  As a result of these acquisitions the Company recorded
goodwill representing the fair value of the assets acquired in these
acquisitions over the cost of the assets acquired. The change in the carrying
value of goodwill is due solely to currency translation.
  Intangible
assets consist of the following:
  December
      31, 2008
                        
                        
                        December
      31, 2007Patents
                        
                        $
                        191,088
                        
                        
                        $
                        96,969Software
                        
                        
                        723,038
                        
                        
                        
                        397,149914,126
                        
                        
                        
                        494,118Less:
      Accumulated amortization
                        
                        
                        (90,795
                        )
                        
                        
                        (58,485
                        )$
                        823,331
                        
                        
                        $
                        435,633
  Amortization
expense was $68,506 and $18,917 for years ended December 31, 2008 and 2007,
respectively. For each of the upcoming five years, estimated amortization
expense is expected to be approximately $68,500 per year.
  Note 5 -
Inventories
  December
      31, 2008
                      
                      
                      December
      31, 2007Raw
      materials
                      
                      $
                      2,451,477
                      
                      
                      $
                      2,393,230Work-in-progress
                      
                      
                      1,853,317
                      
                      
                      
                      666,897Finished
      goods
                      
                      
                      6,939,648
                      
                      
                      
                      7,478,960$
                      11,244,442
                      
                      
                      $
                      10,539,087
  As of
December 31, 2008, the Company determined the carrying amount of raw materials
exceeded realized value; therefore, $159,078 was written down, and the amount
has been included in cost of goods sold for 2008 There was no inventory allowance for 2007.
 
 Note 6 –
Accounts receivable
  Accounts
receivable consists of the following:
  December
      31, 2008
                        
                        
                        December
      31, 2007Total
      accounts receivable
                        
                        
                        29,824,322
                        
                        
                        
                        17,622,918Allowance
      for bad debts
                        
                        
                        (1,163,457)
                        
                        
                        
                        (274,167
                        )Accounts
      receivable, net
                        
                        
                        28,660,865
                        
                        
                        
                        17,348,751Accounts
      receivable – non-current retainage
                        
                        
                        (2,541,418
                        )
                        
                        
                        (559,368
                        )Accounts
      receivable – current
                        
                        $
                        26,119,447
                        
                        
                        $
                        16,789,383
   F-17
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  Retainage
represents portions held for payment by customers pending quality inspection
ranging from 12-18 months after shipment of products.  At December 31,
2008 and 2007, retainage held by customers included in the Company’s accounts
receivable is as follows:
 
 December
      31, 2008
                            
                            
                            December
      31, 2007RetainageCurrent
                            
                            $
                            1,194,025
                            
                            
                            $
                            1,264,062Non-current
                            
                            
                            2,541,418
                            
                            
                            
                            559,368Total
      retainage
                            
                            $
                            3,735,443
                            
                            
                            $
                            1,823,430
 
 The
following represents the changes in the allowance for doubtful
accounts:
  December
      31, 2008
                      
                      
                      December
      31,2007Balance,
      beginning of the period
                      
                      $
                      274,167
                      
                      
                      $
                      -Additions
      to the reserve
                      
                      
                      819,711
                      
                      
                      
                      263,308Write-off
      charged against the allowance
                      
                      
                      -
                      
                      
                      
                      -Recovery
      of amounts previously reserved
                      
                      
                      -
                      
                      
                      
                      -Foreign
      currency translation adjustment
                      
                      
                      69,579
                      
                      
                      
                      10,859Balance,
      end of the period
                      
                      $
                      1,163,457
                      
                      
                      $
                      274,167
  Note 7 –
Loans
 
 SHORT
      TERM LOANS:
                                    
                                    December
      31,
                                      2008
                                    
                                    
                                    December
      31,
                                      2007Commercial
      Bank of Zhengzhou CityDue
      May 2009.  Monthly interest only payment at0.93375%
      per month guaranteed by Zhengzhou HuazhongCapital
      Construction Co., Ltd
                                    
                                    $
                                    396,090
                                    
                                    
                                    $
                                    370,170Commercial
      Bank of Zhengzhou,Due
      May 2009. Monthly interest only payment at 0.93375%per
      month, guaranteed by Zhengzhou HuazhongCapital
      Construction Co., Ltd.
                                    
                                    
                                    1,467,000
                                    
                                    
                                    
                                    1,371,000Unrelated
      third parties, non-secured, non-interestBearing,
      due on demand
                                    
                                    
                                    1,058,061
                                    
                                    
                                    
                                    991,178Citic
      bank, Zhengzhou branchDue
      June, 2009. Monthly interest only payment at 8.217%per
      annum, guaranteed by Kaifeng Cast Iron Co., Ltd.
                                    
                                    
                                    2,934,000
                                    
                                    
                                    
                                    2,742,000Local
      Bureau of Finance, Kaifeng City.No
      expiration date and non-interest bearing
                                    
                                    
                                    547,191
                                    
                                    
                                    
                                    511,383Local
      Bureau of Finance, Kaifeng City.No
      expiration date. Monthly interest only payment at2.55%
      per annum
                                    
                                    
                                    264,018
                                    
                                    
                                    
                                    246,780Special
      Payable to China National Development Committee.No
      expiration date and non-interest bearing.
                                    
                                    
                                    -
                                    
                                    
                                    
                                    246,780Zhengzhou
      Shangjie Credit UnionDue
      July, 2009.  Monthly interest only at 0.84375%per
      month, guaranteed by Zhengzhou HuazhongCapital
      Construction Co., Ltd.
                                    
                                    
                                    1,173,600
                                    
                                    
                                    
                                    -Total
      short term loans
                                    
                                    $
                                    7,839,960
                                    
                                    
                                    $
                                    6,479,291
   F-18
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  LONG
      TERM LOANS:Zhengzhou
      Shangjie Credit UnionDue
      July, 2009.  Monthly interest only at 0.84375%per
      month, guaranteed by Zhengzhou HuazhongCapital
      Construction Co., Ltd.
                            
                            $
                            -
                            
                            
                            $
                            1,096,800
  Total
interest expense for the years ended December 31, 2008 and 2007 amounted to
$446,075 and $595,504 respectively.
  As of
December 31, 2008, there are no restrictive covenants related to the loans
stated above.
  Note 8 -
Income taxes
  The
Company conducts all its operating business through its two subsidiaries in
China. The two subsidiaries are governed by the income tax laws of the PRC and
do not have any deferred tax assets or deferred tax liabilities under the income
tax laws of the PRC because there are no temporary differences between financial
statement carrying amounts and the tax bases of existing assets and liabilities.
The Company by itself does not have any business operating activities in the
United States and is therefore not subject to United States income
tax.
  The
Company’s subsidiaries are governed by the Income Tax Law of the People’s
Republic of China (PRC) concerning Foreign Investment Enterprises and Foreign
Enterprises and various local income tax laws (the Income Tax Laws).
 Beginning January 1, 2008, the new Enterprise Income Tax (“EIT”) law has
replaced the previous laws for Domestic Enterprises (“DEs”) and Foreign Invested
Enterprises (“FIEs”). The new standard EIT rate of 25% has replaced the 33% rate
previously applicable to both DEs and FIEs.
  Prior to
2008, under the Chinese Income Tax Laws, FIEs generally were subject to an
income tax at an effective rate of 33% (30% state income taxes plus 3% local
income taxes) on income as reported in their statutory financial statements
after appropriate tax adjustments unless the enterprise was located in specially
designated regions for which more favorable effective tax rates
apply.  Beginning January 1, 2008, China has unified the corporate
income tax rate on foreign invested enterprises and domestic enterprises. The
unified corporate income tax rate is 25%.
  The
Company’s subsidiary High Pressure Valve was exempt from income tax in 2007 due
to a Kaifeng city tax incentive for companies to privatize. However, starting in
2008, both High Pressure Valve and Zhengdie Valve are subject to an income tax
at an effective rate of 25%.
  The
following table reconciles the U.S. statutory rate to the Company’s effective
tax rate:
  Year
      Ended December 312008
                          
                          
                          2007U.S.
      Statutory rate
                          
                          
                          34
                          %
                          
                          
                          34
                          %Foreign
      income not recognized in USA
                          
                          
                          (34
                          )
                          
                          
                          (34
                          )China
      income taxes
                          
                          
                          25
                          
                          
                          
                          33China
      income tax exemption
                          
                          
                          -
                          
                          
                          
                          (17
                          )Total
      provision for income taxes
                          
                          
                          25
                          %
                          
                          
                          16
                          %
  In
2008, the Company incurred a non-cash charge for stock compensation expense of
$14,998,974, which is not deductible for tax purposes.  After adjusting for
this item, the Company's effective rate for 2008 was 28.9%, which exceeds the
China income tax rate of 25% because of certain other non-deductible
expenses.  In 2007, the Company's effective rate was 15.8%, compared with
the combined state and local income tax rate of 33%, as a result of the Kaifeng
City tax incentive.  The estimated tax savings
for the year ended December 31, 2007 as a result of the Kaifeng city tax
incentive amounted to $1,460,768. The net effect on earnings per share
had the income tax been applied would be to decrease basic earnings per share
from $0.18 to $0.14 for the year ended December 31, 2007.
  F-19
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  VAT on
sales and VAT on purchases in China amounted to $5,171,585 and $5,005,003,
respectively, for the year ended December 31, 2008 and $6,160,529 and
$4,340,131, respectively, for the year ended December 31, 2007. Sales and
purchases are recorded net of VAT collected and paid as the Company acts as an
agent for the government. VAT taxes were not impacted by the Kaifeng city tax
incentive.
  Taxes
payable consisted of the following:
  December
      31,2008
                            
                            
                            December
      31,2007VAT
                            
                            $
                            167,500
                            
                            
                            $
                            875,845Income
      tax
                            
                            
                            924,291
                            
                            
                            
                            179,252Other
      taxes
                            
                            
                            135,547
                            
                            
                            
                            9,415Total
      taxes payable
                            
                            $
                            1,227,338
                            
                            
                            $
                            1,064,512
 
 Note 9 –
Statutory reserves
  The laws
and regulations of the People’s Republic of China require that before a foreign
invested enterprise can legally distribute profits, it must first satisfy all
tax liabilities, provide for losses in previous years, and make allocations, in
proportions determined at the discretion of the board of directors, to the
statutory reserve. The statutory reserves include the surplus reserve fund and
the common welfare fund.
  The
Company is required to transfer 10% of its net income, as determined in
accordance with PRC accounting rules and regulations, to a statutory surplus
reserve fund until such reserve balance reaches 50% of the Company’s registered
capital. The transfer to this reserve must be made before distribution of any
dividends to shareholders. For the years ended December 31, 2008 and 2007, the
Company transferred $1,209,058 and $716,668 to this reserve which represents 10%
of the current year’s net income determined in accordance with PRC accounting
rules and regulations. The surplus reserve fund is non-distributable other than
during liquidation and can be used to fund previous years’ losses, if any, and
may be utilized for business expansion or converted into share capital by
issuing new shares to existing shareholders in proportion to their shareholding
or by increasing the par value of the shares currently held by them, provided
that the remaining reserve balance after such issue is not less than 50% of the
registered capital.
  Note 10 -
Operating leases
  The
Company’s subsidiary, ZhengDie Valve entered into a lease agreement for
manufacturing plant and office space with ZhengZhou Cheng Long Corporation, an
unrelated party, from January 1, 2008 to December 31, 2008. The lease agreement
was subsequently extended to December 31, 2012.
  The
Company’s subsidiary, High Pressure Valve, previously leased factory facilities
from Kaifeng High Pressure Valve  Steel Casting Limited Liabilities
Company (the “Casting Company”) under a month-to-month
arrangement.  On August 26, 2008, the Company entered into a Real
Estate Transfer agreement with the Casting Company and its shareholder Mr. Bin
Fang (see Notes 11 and 12).  Mr. Bin Fang is not related to either Mr.
Siping Fang, our Chief Executive Officer and Chairman or Mr. Binjie Fang, our
Chief Operating Officer and a director. Under the Real Estate Transfer
Agreement, the Company purchased from the Casting Company the land use rights
and factory facilities that it currently leases.  The Company placed
5,500,000 shares of common stock in escrow, to be released to Mr. Bin Fang when
the Real Estate Transfer is completed, in consideration for his agreement to
have the Casting Company transfer the land use rights and facilities to the
Company.  Because the transfer of the land use rights and facilities
requires governmental approval in the PRC, which it was expected could take up
to ten months to obtain, the Company entered into a new lease agreement with the
Casting Company, effective August 26, 2008 until High-Pressure Valve acquires
title to the Real Estate from the Casting Company in accordance with the Real
Estate Transfer agreement.  For the year ended December 31, 2008,
lease rentals due to the Casting Company amounted to $337,500.  The
transfer of the title to the Real Estate was completed on March 6, 2009 and the
Company is in the process of arranging the release of the shares in escrow to
Mr, Bin Fang.
 
 For the
years ended December 31, 2008 and 2007, total lease expense, including amounts
included in cost of sales, was $670,509 and $305,334, respectively.
 
 The
future minimum lease payments at December 31, 2008, are as follows:
  AmountYear ending December 31, 2009
                      
                      $
                      333,009Year
      ending December 31, 2010
                      
                      
                      333,009Year
      ending December 31, 2011
                      
                      
                      333,009Year
      ending December 31, 2012
                      
                      
                      333,009Thereafter
                      
                      
                      -
 
  F-20
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  Note 11 – Related party transactions
  The
Company had the following significant related party transactions during the
years ended December 31, 2008 and 2007:
  The
Company received advances from Mr. Siping Fang, our Chief Executive Officer, for
cash flow purposes. As of December 31, 2008 and 2007 the outstanding amount due
to Mr. Fang was $658,367 and $2,848,032, respectively. The advances are
unsecured, interest-free and have no fixed terms of repayment, but are expected
to be repaid in cash upon demand. In 2007, Siping Fang contributed $1,249,999 to
the Company’s subsidiary, Zhengdie Valve, to fulfill its PRC registered capital
requirement.  In 2008, during the reorganization of the ownership of
the Operating Subsidiaries (see Note 1 – Restructuring Plan), Siping Fang
contributed a further RMB 10 million ($1,317,095) to Zhengdie Valve to enable
them to meet their approved PRC registered capital
requirements.  Following our re-acquisition of the legal ownership of
the Operating Subsidiaries and the subsequent consummation of the Securities
Purchase Agreement related to the private placement of our common stock, this
contribution is to be returned to Mr. Fang.  At December 31, 2008, the
$1,317,095 (RMB 10 million) due to Mr. Fang, together with the $658,367 due to
Mr. Fang for working capital advances as described above, totaled $1,975,462 at
December 31, 2008.
 
 The Company
borrowed money from certain employees for cash flow purposes. The loans bear
interest at 10% per annum due on demand. Loans from employees amounted to
$131,263 and $671,188 as of December 31, 2008 and 2007, respectively. The
Company borrowed money from various family members of Mr. Siping Fang for
working capital purposes. The loans are unsecured, interest free and have no
fixed terms of repayment, but are expected to be repaid in cash upon request. As
of December 31, 2008, these loans amounted to $465,528.
  As
discussed in Note 10, on August 26, 2008, the Company’s wholly owned subsidiary
High Pressure Valve and Kaifeng High Pressure Valve Steel Casting Limited
Liabilities Company (the “Casting Company”) entered into an Agreement for
Transfer of Land Use Right and Housing for the transfer of certain real estate
to High Pressure Valve. As the transfer will take approximately ten months to
complete with relevant Chinese government agencies, on August 26, 2008, High
Pressure Valve and the Casting Company also entered into a Lease Agreement (the
“Lease Agreement”) pursuant to which the Casting Company agreed to lease to High
Pressure Valve the portion of the Real Estate used by it, at an annual rental of
$450,000 until the latter acquires title to the Real Estate.  In
addition, High Pressure Valve and the Casting Company entered into a Leaseback
Agreement (the “Leaseback Agreement”) pursuant to which High Pressure Valve
agreed to lease back the portion of the Real Estate used by the Casting Company
at an annual rental of $80,000 for a period of one year starting on the
date of the acquisition of title to the Real Estate by High Pressure
Valve.  That leaseback agreement may be extended by mutual agreement
of the parties.  The transfer of the title to the Real Estate was
completed on March 6, 2009, and with effect from that date, it will be accounted
for as fixed assets and depreciated over its estimated useful
lives.
  In
connection with the Real Estate Transfer Agreement, on August 26, 2008, the
Company entered into a Real Estate Share Escrow Agreement with the shareholder
of the Casting Company, Mr. Bin Fang, Brean Murray, Carret & Co., LLC and
Escrow, LLC (the “Real Estate Escrow Agreement”), pursuant to which the Company
placed in escrow for Mr. Fang or his designee, 5,500,000 shares of the Company’s
common stock (the “Real Estate Shares”) in exchange for Mr. Fang’s agreement to
cause the Casting Company to transfer the Real Estate under the Real Estate
Transfer Agreement. As a result of the transfer of the Real Estate on
March 6, 2009, the Company is in the process of arranging for the shares to be
released from escrow to Mr. Bin Fang.
  As a
result of the Company’s issuance of contingent shares to the Casting Company’s
shareholder, Mr. Bin Fang, the Casting Company became a related party. On August
26, 2008, High Pressure Valve and the Casting Company, which is our largest
supplier, entered into a Manufacturing and Supply Agreement pursuant to which
the Casting Company agreed to provide High Pressure Valve with molds, casts,
dies and other supplies and equipment for use in the manufacture of High
Pressure Valve’s products. The Casting Company also agreed to use its production
capacity to fulfill High Pressure Valve’s orders before it may take any orders
from third parties. The term of the agreement is five years.  The
agreement does not require High Pressure Valve to purchase any minimum volume or
value of products.  Prices will be determined at the time orders are
submitted to the Casting Company, based on prevailing market prices. As of
December 31, 2008, advances on inventory purchases to the Casting Company
amounted to $1,367,446.
 
 Note 12 –
Shareholders' equity
  Private
Placement Financing
 
 On August
26, 2008, the Company entered into a securities purchase agreement (the
“Securities Purchase Agreement”) with certain accredited
investors.  Under the Securities Purchase Agreement, the Company
agreed to issue and sell to the Investors 16,778,523 shares of the Company’s
common stock, representing approximately 29.5% of the issued and outstanding
capital stock of the Company on a fully-diluted basis as of and immediately
after consummation of the transactions contemplated by the Securities Purchase
Agreement, for an aggregate purchase price of approximately $30 million, or
$1.788 per share.
   F-21
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  As a
condition precedent to the private placement transaction contemplated by the
Securities Purchase Agreement, the Company and the Investors also entered into a
registration rights agreement (the “Registration Rights Agreement”), pursuant to
which the Company was obligated to file a registration statement under the
Securities Act of 1933 on Form S-1 covering the resale of the Shares and any
other shares of common stock issued to the Investors under the Securities
Purchase Agreement within 90 days of the closing. The Company also agreed to
make the registration statement effective no later than the 135th day following
the closing date or the fifth trading day following the date on which the
Company is notified by the Securities and Exchange Commission that such
registration statement will not be reviewed or is no longer subject to further
review and comments, whichever date is earlier. The Company later obtained an
extension from the investors providing that the registration agreement should be
effective no later than March 31, 2009. The Company expects the registration
statement to be effective by March 31, 2009. If the registration statement is
not declared effective by March 31, 2009, the Investors are entitled to
liquidated damages equal to 1.0% of the aggregate contribution of each Investor
for each 30-day period of delay, up to a maximum of 10% of the aggregate amount
of the Purchase Price. The Company will account for any liquidated damages that
may become payable in accordance with FSP EITF 00-19-2. At December 31, 2008, no
liquidated damages have been accrued.
  In
conjunction with the private placement, the Company entered into separate
lock-up agreements (the “Lock-up Agreements”) with each director and officer of
the Company, which precluded such individuals from selling or otherwise
disposing of any shares held by them for a period commencing from and after the
date of the Lock-up Agreement and through and including the one year anniversary
of the effective date of a registration statement resulting in all Shares being
registered for resale by the Investors.
  In
conjunction with the private placement, the Company entered into a holdback
escrow agreement (the “Holdback Escrow Agreement”) with the Investors and
Escrow, LLC, as escrow agent pursuant to which the Company agreed that an
aggregate of $3,150,000 of the Purchase Price (the “Holdback Amount”) would be
deposited on the Closing Date with the Escrow Agent and be distributed upon the
satisfaction of certain covenants set forth in the Securities Purchase
Agreement.
  Pursuant
to the Holdback Escrow Agreement, $1,500,000 of the Holdback Amount will be
released to the Company upon the Company’s satisfaction of the covenant
regarding the Qualified Board;  $1,500,000 of the Holdback Amount
would be released to the Company upon the Company’s satisfaction of the covenant
regarding the appointment of a Qualified CFO; and $150,000 of the Holdback
Amount would be released to the Company upon the Company’s satisfaction of the
covenant regarding the hiring of an investor relations firm and from time to
time to cover the Company’s investor relations related expenses.
 
 If the
Company failed to satisfy the covenants regarding the Qualified Board and
Qualified CFO (each such failure being referred to as a “Holdback Event”), then
the Investors were entitled to liquidated damages equal to 1.0% of the aggregate
contribution of each Investor on the date of each such Holdback Event (each, a
“Holdback Event Date”) and on each monthly anniversary of such Holdback Event
Date until the applicable Holdback Event was fulfilled. As of December 31 2008,
$3,000,000 has been released from escrow upon satisfaction of the Qualified
Board and Qualified CFO covenant. No liquidated damages were paid
related to these covenants. As of December 31, 2008, $128,130 is left in the
escrow account related to investor relations expenses to be incurred by the
Company.
  In
connection with the Securities Purchase Agreement, on August 26, 2008, the
Company also entered into a make good escrow agreement (the “Make Good Escrow
Agreement”) with Bin Li (the “Pledgor”), the Investors, Brean Murray, Carret
& Co., LLC and the Escrow Agent, pursuant to which the Pledgor agreed to
certain “make good” provisions in the event that the Company does not meet
certain income thresholds for fiscal years 2008, 2009 and/or
2010.  Pursuant to the Make Good Escrow Agreement, the
Pledgor placed in escrow 25,166,064 shares of the Company’s common stock
held by him, to be held for the benefit of the Investors. Of these shares,
24,300,000 are the subject of the Earn-In Agreement between Bin Li and Siping
Fang, described in Note 1, and Bin Li entered into the Make Good Escrow
Agreement on behalf of Siping Fang. For each of the calendar years 2008, 2009
and 2010, 8,388,688 shares will be released to the Investors or returned to the
shareholder, depending on the fulfillment of specified earnings targets, The
specified earnings target for calendar 2008 was net income of $10,500,000, for
calendar 2009 the target is net income of $23,000,000 and fully diluted earnings
per share of $0.369 and for calendar 2010 the target is net income of
$31,000,000 and fully diluted earnings per share of $0.497.  In the
event that shares are required to be released from escrow to the Investors, such
shares will be recorded as a contribution to capital and a simultaneous issuance
of common shares to the Investors. The return to Bin Li of any of the shares
placed in escrow by him on behalf of Siping Fang is considered to be a separate
compensatory arrangement because Siping Fang is an officer and director of the
Company. Accordingly, if any of the required earnings targets are met and shares
are returned to Bin Li, the Company will recognize compensation cost at that
time equal to the then fair value of the shares returned, up to a total of
24,300,000 shares. For the year ended December 31, 2008, the Company’s net
income (prior to any compensation charge related to release of the shares from
escrow) was $10,762,129 which met the earnings target for 2008 of net
income of $10,500,000. Accordingly, the Company recorded non-cash compensation
of $14,998,974 in the fourth quarter of 2008 related to the release from escrow
to Bin Li of 8,388,688 shares. The Company’s common stock is currently thinly
traded and therefore the Company does not believe that the prices at which such
trades of the Company’s common stock as have occurred are necessarily reflective
of the fair value of the shares released from escrow as of December 31, 2008.
Accordingly, the Company has used the cash price of $1.788 paid by the Investors
in the private placement to measure the compensation charge to be recorded as of
December 31, 2008 as a result of the release of 8,388,688 shares to Bin
Li.  If the earnings targets for 2009 and 2010 are met and the Company
is thus required to record additional non-cash compensation charges for the
release of shares from escrow to Bin Li, the Company will make a determination
of the appropriate fair value of those shares at that time. No compensation
charges will be recorded if the earnings targets are not met and the shares are
released from escrow to the Investors.
 
  F-22
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  Warrants
 
 At the closing of the private
placement, as part of the compensation to the placement agent, the Company
issued warrants to the placement agent to acquire 1,174,497 shares of common
stock. The warrants have a strike price equal to $2.1456 and a term of 3 years.
The shares underlying the warrants will have registration rights. The warrants
contain a standard antidilution provision for stock dividends, stock
splits, stock combination, recapitalization and a change of control
transaction.  Because the warrants are denominated in U.S. dollars and the
Company’s functional currency is the Renminbi, they do not meet the requirements
of EITF 07-5 to be indexed only to the Company’s stock.  Accordingly,
they are accounted for at fair value as derivative liabilities and marked to
market each period
 
 The
initial value of the warrants was determined using the Cox-Ross-Rubinstein
binomial model using the following assumptions:  volatility of 75%;
risk free interest rate of 2.64%; dividend yield of 0% and expected term of 3
years. The volatility of the Company’s common stock was estimated by management,
the risk free interest rate was based on Treasury Constant Maturity Rates
published by the U.S. Federal Reserve for periods applicable to the life of the
warrants, the dividend yield was based on the Company’s current and expected
dividend policy and the expected term is equal to the contractual life of the
warrants.  The value of the warrants was based on the Company’s common
stock price of $1.788 on the date the warrants were issued.
  The
warrants were valued at $959,196 when they were issued on August 26, 2008; at
December 31, 2008, the estimated fair value of the warrants was $877,223,
resulting in a gain of $81,973, which was recorded in the Company’s income
statement.
 
 The
Company issued warrants to purchase 100,000 shares at $3.00 per share, to CCG
investors Relation Partners LLC on December 12, 2007 for one year of services to
be provided. The initial value of the warrants was determined using the
Cox-Ross-Rubinstein binomial model using the following assumptions: volatility
75%; risk free interest rate 3.12%; dividend yield of 0% and expected term of 3
years. The warrants were initially valued at $65,574, all of which was expensed
in 2008. At December 31, 2008, these warrants were valued at $47,068 and we
recorded a gain for the year ended December 31, 2008 related to these warrants
of $18,506.
 
 Warrants
issued and outstanding, all of which are exercisable at December 31,
2008:
 Weighted
                          
                          
                          AverageWarrants
                          
                          
                          Average
                            Exercise
                          
                          
                          Remaining
                            ContractualOutstanding
                          
                          
                          Price
                          
                          
                          LifeBalance,
      December 31, 2006
                          
                          
                          -
                          
                          
                          
                          -
                          
                          
                          
                          -Granted
                          
                          
                          100,000
                          
                          
                          $
                          3.00
                          
                          
                          
                          3.00Forfeited
                          
                          
                          -
                          
                          
                          
                          -
                          
                          
                          
                          -Exercised
                          
                          
                          -
                          
                          
                          
                          -
                          
                          
                          
                          -Balance,
      December 31, 2007
                          
                          
                          100,000
                          
                          
                          
                          3.00
                          
                          
                          
                          2.95Granted
                          
                          
                          1,174,497
                          
                          
                          
                          2.15
                          
                          
                          
                          3.00Forfeited
                          
                          
                          -Exercised
                          
                          
                          -
                          
                          
                          
                          -
                          
                          
                          
                          -Balance,
      December 31, 2008
                          
                          
                          1,274,497
                          
                          
                          $
                          2.21
                          
                          
                          
                          2.60
 
 Stock
Options
 
 On
November 4, 2008, the Company issued stock options to purchase 100,000 shares of
the Company’s common stock at the price of $3.50 per share upon the appointment
of Veronica Jing Chen as the Company’s CFO. Under the option agreement the
options vested beginning one year after her employment date. However,
effective February 1, 2009, Ms. Chen resigned as the CFO of the Company and
all of her options are considered forfeited by the Company as of December 31,
2008.
 
  F-23
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  Real
Estate Transfer
 
 As
discussed in Notes 10 and 11, on August 26, 2008, the Company’s wholly owned
subsidiary High Pressure Valve and Kaifeng High Pressure Valve
Steel Casting Limited Liabilities Company (the “Casting Company”) entered
into an Agreement for Transfer of Land Use Right and Housing for the transfer of
certain real estate to High Pressure Valve.  As consideration for the
transfer of the real estate, the Company entered into a Real Estate Share Escrow
Agreement with the shareholder of the Casting Company, Mr. Bin Fang, pursuant to
which the Company issued 5,500,000 shares of the Company’s common stock (the
“Real Estate Shares”) in exchange for Mr. Fang’s agreement to cause the Casting
Company to transfer the Real Estate under the Real Estate Transfer Agreement. As
the transfer was expected to take approximately ten months to complete
with relevant Chinese government agencies, the shares were placed in escrow. On
March 6, 2009, the transfer of the Real Estate was completed and the Company is
in the process of arranging for the shares to be released from escrow to Mr. Bin
Fang.   The Real Estate Transfer Agreement was negotiated
contemporaneously with the Securities Purchase Agreement described above and was
a condition precedent to the consummation of the transactions contemplated by
the Securities Purchase Agreement. Accordingly, the 5,500,000 shares of common
stock issued under the Real Estate Transfer Agreement were valued at $9,834,000
or $1.788 per share, the same price paid on August 26, 2008 by the accredited
investors under the Securities Purchase Agreement described
above.  The market price of the Company’s common stock on August 26,
2008 was $5.00 per share.  However, the Company’s common stock is
currently thinly traded and the Company believes that the cash price paid on
that date by the accredited investors for their shares is a better indicator of
the fair value of the shares issued under the Real Estate Transfer
Agreement.
 
 Note 13 -
Geographic and product lines:
  The
Company sells valves, which are used by customers in various
industries. The production process, class of customer, selling practice and
distribution process are the same for all valves. The Company’s chief
operating decision-makers (i.e. chief executive officer and his direct reports)
review financial information presented on a consolidated basis, accompanied by
disaggregated information about revenues by product lines for purposes of
allocating resources and evaluating financial performance. There are no segment
managers who are held accountable for operations, operating results and plans
for levels or components below the consolidated unit level.  Based on
qualitative and quantitative criteria established by SFAS 131, “Disclosures
about Segments of an Enterprise and Related Information”, the Company considers
itself to be operating within one reportable segment.
  The
Company does not have long-lived assets located in foreign countries. In
accordance with the enterprise-wide disclosure requirements of SFAS 131, the
Company's net revenue from external customers by main product lines (based upon
primary markets defined by the Chinese Valve Industry Association) and by
geographic areas is as follows:
  Twelve
      months
                        Ended
      December 31,2008
                      
                      
                      2007(in
      thousands)Power
      supply
                      
                      $
                      16,263
                      
                      
                      $
                      11,462Petrochemical
                      
                      
                      14,808
                      
                      
                      
                      9,728Oil
                      
                      
                      -
                      
                      
                      
                      -Water
      supply
                      
                      
                      19,506
                      
                      
                      
                      8,190Metallurgy
                      
                      
                      6,460
                      
                      
                      
                      3,858Other
      areas
                      
                      
                      8,911
                      
                      
                      
                      3,798Total
      sales revenue
                      
                      $
                      65,948
                      
                      
                      $
                      37,036
 
 Net
revenues from external customers by geographic areas:
  Twelve
      months
                        Ended
      December 31,2008
                      
                      
                      2007(in
      thousands)China
                      
                      $
                      62,076
                      
                      
                      
                      35,557International
                      
                      
                      3,872
                      
                      
                      
                      1,479Total
      sales revenue
                      
                      $
                      65,948
                      
                      
                      
                      37,036
 
 Note 14 – Legal proceedings
  Before
the reverse acquisition on December 18, 2007, Intercontinental Resources Inc.
(the legal acquirer in our reverse acquisition) was sued by Merrill Lynch
Canada, Inc., in British Columbia, Canada, in July 2000. A judgment was entered
on May 12, 2003 in the Supreme Court of the State of New York, County of New
York, in favor of the plaintiff and against the Company, for the sum of $40,786.
In connection with the reverse acquisition, Intercontinental agreed to place
$20,000 of the purchase price into escrow pending resolution of this suit. 
The plaintiff accepted this amount in full satisfaction of the judgment and the
$20,000 was paid from the escrow in June, 2008.
   F-24
 Table of Content
  CHINA
VALVES TECHNOLOGY, INC AND SUBSIDIARIES
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
 December
31, 2008
  Note 15 –
Commitments and contingencies
 
 The
Company has a capital commitment of approximately $3.9 million for
the construction of the new facility and acquisition of machinery in
connection with the new plant as of December 31, 2008.
 
 As described in Note 1, following our acquisition of China Valve
Samoa (and indirectly, the Operating Subsidiaries) and in anticipation of our
August 2008 private placement transaction, we developed a group reorganization
plan to ensure that the manner in which we acquired our Operating Subsidiaries
complied with PRC merger and acquisition (“M&A”) related
regulations.  The group reorganization plan involved modifying our
acquisition of our Operating Subsidiaries previously acquired as a result of our
acquisition of China Valve Samoa and the concurrent re-acquisition of the
Operating Subsidiaries through newly established entities incorporated by Bin Li
(a Canadian citizen then unaffiliated with the Company, but who is the cousin of
our Chairman Siping Fang) which entities were then transferred to the
Company.
  These
M&A regulations were promulgated on August 8, 2006 by six Chinese regulatory
agencies (including the PRC Ministry of Commerce (“MOFCOM”) and the China
Securities Regulatory Commission (“CSRC”).  The jointly issued M&A
regulations, known as Circular 10, were captioned “Regulations on Mergers and
Acquisitions of Domestic Enterprises by Foreign Investors” and they became
effective on September 8, 2006.  Under Circular 10, an offshore
special purpose vehicle (“SPV”) formed for purposes of overseas listing of
equity interests in China-based companies and controlled directly or indirectly
by Chinese companies or individuals must obtain the approval of the CSRC prior
to the listing of such SPV’s securities on an overseas stock
exchange.  Circular 10 also requires approval from MOFCOM for
“round-trip” investment transactions in which a China-based company or a PRC
resident, or Acquirer, using an offshore entity controlled by the Acquirer,
acquires any PRC local company that is an affiliate of the
Acquirer.  The group reorganization plan described in Note 1 was
designed in consultation with our PRC legal advisors to ensure that the
acquisition of the Operating Subsidiaries was completed in a manner that did not
need us to obtain CSRC or MOFCOM approvals.
 
 The
Company did not obtain CSRC approval as the M&A rule does not
apply to the Company’s corporate structure.  The M&A rule is
applicable where an offshore company controlled by PRC companies or PRC
citizens acquires a related PRC domestic company to prepare for future overseas
listing.  However, the Company’s offshore company is not controlled by any
PRC company or individual, as Siping Fang, the Company’s Chairman and Chief
Executive Officer, who is a PRC citizen, sold all the shares of the Company’s
common stock beneficially owned by him to Mr. Bin Li, a Canadian citizen,
in April 2008, as described in Note 1. The transaction resulted in a change of
control of the Company to Bin Li.  Similarly, the M&A rule does not
apply when the three PRC shareholders of the Company’s Operating
Subsidiaries sold their interests in the Operating Subsidiaries in June
2008 to Henan Tonghai Fluid, which was controlled by
Bin Li.   When Bin Li transferred the shares of China
Fluid Equipment, the Hong Kong holding company of Henan Tonghai Fluid, to the
Company in June 2008, none of the companies involved in the transfer was
controlled by a PRC citizen or a PRC company.  Therefore,
the M&A rule also does not apply to the transfer of China Fluid
Equipment to the Company. We are aware of several China-based US public
companies that have undertaken similar reorganization plans in recent years. The
CSRC and other PRC regulatory agencies have not imposed fines and penalties on
these companies. Similarly, we believe it is only a remote possibility
that the CSRC or other PRC regulatory agencies might impose fines and
penalties on the Company and therefore we have not accrued any amount
related to this contingency.
 
 Note 16 –
Subsequent event
 
 As
discussed in Note 12, on March 6, 2009, the land use right for the Real Estate
was transferred from the Casting Company to High Pressure Valve. The Company is
in the process of having the 5,500,000 shares released to Mr. Bin
Fang.
 
 F-25