UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C. 20549





FORM
10-Q




xQUARTERLY REPORT
PURSUANT TO SECTION 13 OR 15(d) OF


THE
SECURITIES EXCHANGE ACT OF 1934





For
the quarterly period ended March 31, 2009





OR





oTRANSITION REPORT
PURSUANT TO SECTION 13 OR 15(d) OF THE


SECURITIES
EXCHANGE ACT OF 1934





Commission
File Number


001-33709





CHINA
ARCHITECTURAL ENGINEERING, INC.


(Exact
name of small business issuer as specified in its charter)





Delaware
                (State
      or other jurisdiction of incorporation
                or
      organization)
              
              51-05021250
                (I.R.S.
      Employer Identification
                No.)105
      Baishi Road, Jiuzhou West Avenue,
                Zhuhai,
      People’s Republic of China
                (Address
      of principal executive offices)
              
              519070
                (Zip
      Code)





0086-756-8538908


(Registrant’s
telephone number, including area code)





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 whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such
files).    Yes o    No x





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   ̈
            Accelerated
      filer  x
            Non-accelerated
      filer   ̈
            Smaller
      reporting company   ̈(Do
      not check if a smallerreporting
      company)





Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes o   
No x




There
were 53,256,874 shares outstanding of registrant’s common stock, par value
$0.001 per share, as of May 8, 2009.







CHINA
ARCHITECTURAL ENGINEERING, INC.


FORM
10-Q QUARTERLY REPORT





TABLE
OF CONTENTS





PagePART
      I - FINANCIAL INFORMATIONITEM
      1.
                        FINANCIAL
      STATEMENTS
                        1Unaudited
      Consolidated Balance Sheet as of March 31, 2009 and December 31,
      2008
                        2Unaudited
      Interim Consolidated Statements of Income for the three months ended March
      31, 2009 and 2008
                        4Unaudited
      Interim Consolidated Statements of Cash Flows for the three months ended
      March 31, 2009 and 2008
                        5Unaudited
      Consolidated Statements of Stockholders’ Equity from January 1, 2009 to
      March 31, 2009
                        6Notes
      to the Unaudited Interim Consolidated Financial Statements
                        7ITEM
      2.
                        MANAGEMENT’S
      DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
      OPERATION
                        22ITEM
      3.
                        QUANTITATIVE
      AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
                        27ITEM
      4.
                        CONTROLS
      AND PROCEDURES
                        28PART
      II - OTHER INFORMATIONITEM
      1.
                        LEGAL
      PROCEEDINGS
                        30ITEM
      1A.
                        RISK
      FACTORS
                        30ITEM
      2.
                        UNREGISTERED
      SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
                        30ITEM
      3.
                        DEFAULTS
      UPON SENIOR SECURITIES
                        30ITEM
      4.
                        SUBMISSION
      OF MATTERS TO A VOTE OF SECURITY HOLDERS
                        30ITEM
      5.
                        OTHER
      INFORMATION
                        30ITEM
      6.
                        EXHIBITS
                        30SIGNATURES
                        
                        31








PART
I - FINANCIAL INFORMATION





ITEM
1.         FINANCIAL
STATEMENTS





The
accompanying unaudited financial statements have been prepared in accordance
with accounting principles generally accepted in the United States of America
for interim financial information and with the instructions to Form 10-Q.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
The accompanying unaudited financial statements reflect all adjustments that, in
the opinion of management, are considered necessary for a fair presentation of
the financial position, results of operations, and cash flows for the periods
presented. The results of operations for such periods are not necessarily
indicative of the results expected for the full fiscal year or for any future
period. The accompanying unaudited financial statements should be read in
conjunction with the audited financial statements of China Architectural
Engineering, Inc. as contained in its Annual Report for the fiscal year ended
December 31, 2008 on Form 10-K, as filed with the Securities and Exchange
Commission on March 31, 2009.


1


CHINA
ARCHITECTURAL ENGINEERING, INC.





CONSOLIDATED
BALANCE SHEETS


AS
OF MARCH 31, 2009 (UNAUDITED) AND DECEMBER 31, 2008


(STATED
IN US DOLLARS)





March 31,
                  2009
                
                
                December 31,
                  2008(unaudited)ASSETSCurrent
      assetsCash
      and cash equivalents
                
                $
                8,799,412
                
                
                $
                9,516,202Restricted
      cash
                
                
                6,131,162
                
                
                
                7,451,388Contract
      receivables, net
                
                
                70,022,117
                
                
                
                71,811,627Costs
      and earnings in excess of billings
                
                
                8,260,841
                
                
                
                15,988,920Job
      disbursements advances
                
                
                2,201,114
                
                
                
                2,252,241Other
      receivables
                
                
                12,067,079
                
                
                
                18,614,928Amount
      due from shareholders
                
                
                1,028,122
                
                
                
                -Inventories
                
                
                291,401
                
                
                
                308,842Deferred
      income taxes, current
                
                
                -
                
                
                
                3,264Other
      current assets
                
                
                927,221
                
                
                
                1,659,307Total
      current assets
                
                
                109,728,469
                
                
                
                127,606,719Non-current
      assetsPlant
      and equipment, net
                
                
                5,534,518
                
                
                
                5,852,110Intangible
      assets
                
                
                92,982
                
                
                
                50,720Goodwill
                
                
                7,995,896
                
                
                
                7,995,896Other
      non-current asset
                
                
                31,157
                
                
                
                32,137TOTAL
      ASSETS
                
                $
                123,383,022
                
                
                $
                141,537,582LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilitiesShort-term
      bank loans
                
                $
                2,578,435
                
                
                $
                -Notes
      payable
                
                
                3,072,466
                
                
                
                10,193,088Accounts
      payable
                
                
                21,303,520
                
                
                
                35,510,827Billings
      over costs and estimated earnings
                
                
                5,642,520
                
                
                
                5,358,527Amount
      due to shareholder
                
                
                -
                
                
                
                924,687Other
      payables
                
                
                4,945,111
                
                
                
                7,364,816Income
      tax payable
                
                
                2,297,592
                
                
                
                2,318,743Business
      and other taxes payable
                
                
                3,121,505
                
                
                
                3,304,522Other
      Accrual
                
                
                3,852,615
                
                
                
                1,794,879Total
      current liabilities
                
                
                46,813,764
                
                
                
                66,770,089





The
accompanying notes are an integral part of these financial
statements.


2





CHINA
ARCHITECTURAL ENGINEERING, INC.





CONSOLIDATED
BALANCE SHEETS (Continued)


AS
OF MARCH 31, 2009 (UNAUDITED) AND DECEMBER 31, 2008


(STATED
IN US DOLLARS)





March 31,
                    2009
                  
                  
                  December 31,
                    2008(unaudited)Non-current
      liabilitiesLong
      term bank loans
                  
                  $
                  254,851
                  
                  
                  $
                  328,285Convertible
      bond payable, net
                  
                  
                  25,581,257
                  
                  
                  
                  24,907,170TOTAL
      LIABILITIES
                  
                  $
                  72,649,872
                  
                  
                  $
                  92,005,544STOCKHOLDERS’
      EQUITYPreferred
      stock, $0.001 par value, 10,000,000 shares authorized, 0 shares issued and
      outstanding at March 31, 2009 and December 31, 2008; Common stock, $0.001
      par value, 100,000,000 shares authorized, 53,256,874 shares issued and
      outstanding at March 31, 2009 and December 31, 2008,
      respectively
                  
                  $
                  53,257
                  
                  
                  $
                  53,257Additional
      paid in capital
                  
                  
                  23,043,792
                  
                  
                  
                  23,043,792Statutory
      reserves
                  
                  
                  3,040,595
                  
                  
                  
                  3,040,595Accumulated
      other comprehensive income
                  
                  
                  5,700,933
                  
                  
                  
                  5,443,432Retained
      earnings
                  
                  
                  18,884,032
                  
                  
                  
                  17,940,421Total
      Company shareholders’ equity
                  
                  
                  50,722,609
                  
                  
                  
                  49,521,497Noncontrolling
      interests
                  
                  
                  10,541
                  
                  
                  
                  10,541Total
      shareholders’ equity
                  
                  
                  50,733,150
                  
                  
                  
                  49,532,038TOTAL
      LIABILITIES ANDSTOCKHOLDERS’
      EQUITY
                  
                  $
                  123,383,022
                  
                  
                  $
                  141,537,582





The
accompanying notes are an integral part of these financial
statements.


3





CHINA
ARCHITECTURAL ENGINEERING, INC.





UNAUDITED
CONSOLIDATED STATEMENTS OF INCOME


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(STATED
IN US DOLLARS)





Three Months Ended March
31,2009
                    
                    
                    2008Contract
      revenues earned
                    
                    $
                    36,343,064
                    
                    
                    $
                    25,349,306Cost
      of contract revenues earned
                    
                    
                    (28,162,233
                    )
                    
                    
                    (16,903,754
                    )Gross
      profit
                    
                    $
                    8,180,831
                    
                    
                    $
                    8,445,552Selling,
      general and administrative expenses
                    
                    
                    (5,951,030
                    )
                    
                    
                    (3,000,425
                    )Income
      from operations
                    
                    $
                    2,229,801
                    
                    
                    $
                    5,445,127Interest
      income
                    
                    
                    3,706
                    
                    
                    
                    6,963Interest
      expense
                    
                    
                    (1,311,733
                    )
                    
                    
                    (334,137
                    )Other
      income
                    
                    
                    21,837
                    
                    
                    
                    111,162Income
      before taxation
                    
                    $
                    943,611
                    
                    
                    $
                    5,229,115Income
      tax
                    
                    
                    -
                    
                    
                    
                    (47,367
                    )Net
      earnings
                    
                    
                    943,611
                    
                    
                    
                    5,181,748Loss
      attributable to noncontrolling interests
                    
                    
                    -
                    
                    
                    
                    (8,030
                    )Net
      earnings attributable to the Company
                    
                    $
                    943,611
                    
                    
                    $
                    5,173,718Earnings
      per share:Basic
                    
                    $
                    0.02
                    
                    
                    $
                    0.10Diluted
                    
                    $
                    0.02
                    
                    
                    $
                    0.09Weighted
      average shares outstanding:Basic
                    
                    
                    53,256,874
                    
                    
                    
                    51,783,416Diluted
                    
                    
                    53,256,874
                    
                    
                    
                    55,489,023





The
accompanying notes are an integral part of these financial
statements.


4


CHINA
ARCHITECTURAL ENGINEERING, INC.





UNAUDITED
CONSOLIDATED STATEMENTS OF CASH FLOWS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(STATED
IN US DOLLARS)





Three Months Ended March
31,2009
                
                
                2008Cash
      flows from operating activitiesNet
      income
                
                $
                943,611
                
                
                $
                5,173,718Minority
      interest
                
                
                -
                
                
                
                8,030Depreciation
      expense
                
                
                252,852
                
                
                
                150,407Amortization
      expense on intangible assets
                
                
                22,000
                
                
                
                20,792Amortization
      expense on warrants
                
                
                -
                
                
                
                71,154Amortization
      expense on convertible bond
                
                
                674,087
                
                
                
                183,173Gain
      on disposal of fixed assets
                
                
                (11,450
                )
                
                
                -Deferred
      income taxes
                
                
                3,264
                
                
                
                -Decrease
      in inventories
                
                
                17,441
                
                
                
                186,655(Increase)/decrease
      in receivables
                
                
                16,849,631
                
                
                
                (12,071,529
                )Decrease
      in other assets
                
                
                980
                
                
                
                109,511Increase/(decrease)
      in payables
                
                
                (14,489,451
                )
                
                
                4,794,121Net
      cash from/(used in) operating activities
                
                $
                4,261,985
                
                
                $
                (1,373,968
                )Cash
      flows from investing activitiesPurchases
      of assets
                
                $
                (64,262
                )
                
                $
                (427,210
                )Proceeds
      from disposal of fixed assets
                
                
                76,190
                
                
                
                -Decrease
      / (increase) in restricted cash
                
                
                1,320,226
                
                
                
                (66,324
                )Net
      cash provided by/(used in) investing activities
                
                $
                1,332,154
                
                
                $
                (493,534
                )Cash
      flows from financing activitiesProceeds
      from/(Repayment of) short-term loans
                
                $
                (4,542,187
                )
                
                $
                158,198Proceeds
      from long-term loans
                
                
                -
                
                
                
                1,124,667Repayment
      of long-term loans
                
                
                (73,434
                )
                
                
                -Proceeds
      from/(Repayment of) shareholders
                
                
                (1,952,809
                )
                
                
                618,948Net
      cash provided by/(used in) financing activities
                
                $
                (6,568,430
                )
                
                $
                1,901,813Net
      increase/(decrease) in cash and cash equivalents
                
                $
                (974,291
                )
                
                $
                34,311Effect
      of foreign currency translation on cash and cash
    equivalents
                
                
                257,501
                
                
                
                1,875,857Cash
      and cash equivalents - beginning of period
                
                
                9,516,202
                
                
                
                4,040,168Cash
      and cash equivalents - end of period
                
                $
                8,799,412
                
                
                $
                5,950,336Other
      supplementary information:Cash
      paid during the period for:Interest
      paid
                
                $
                120,000
                
                
                $
                151,668Income
      tax paid
                
                $
                21,151
                
                
                $
                82,265





The
accompanying notes are an integral part of these financial
statements.


5


CHINA
ARCHITECTURAL ENGINEERING, INC.


UNAUDITED
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY


FOR
THE PERIOD FROM JANUARY 1, 2009 TO MARCH 31, 2009


(STATED IN US
DOLLARS)





Total
                    Number
      of
                    shares
                  
                  
                  Common
                    stock
                  
                  
                  Additional
                    paid
      in capital
                  
                  
                  Statutory
                    reserves
                  
                  
                  Accumulated
                    other
                    comprehensive
                    income
                  
                  
                  Retained
                    earnings
                  
                  
                  Noncontrolling
                    interests
                  
                  
                  TotalBalance,
      January 1, 2009
                  
                  
                  53,256,874
                  
                  
                  $
                  53,257
                  
                  
                  $
                  23,043,792
                  
                  
                  $
                  3,040,595
                  
                  
                  $
                  5,443,432
                  
                  
                  $
                  17,940,421
                  
                  
                  $
                  10,541
                  
                  
                  $
                  49,532,038Net
      income
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  943,611
                  
                  
                  
                  
                  
                  
                  
                  943,611Foreign
      currency translation adjustment
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  257,501
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  257,501Total
      comprehensive income
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  1,201,112Balance,
      March 31, 2009
                  
                  
                  53,256,874
                  
                  
                  $
                  53,257
                  
                  
                  $
                  23,043,792
                  
                  
                  $
                  3,040,595
                  
                  
                  $
                  5,700,933
                  
                  
                  $
                  18,884,032
                  
                  
                  $
                  10,541
                  
                  
                  $
                  50,733,150





The
accompanying notes are an integral part of these financial
statements.


6


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





1.
            ORGANIZATION
      AND PRINCIPAL ACTIVITIES





China
Architectural Engineering, Inc. (the “Company”) formerly SRKP 1, Inc., was
incorporated in the State of Delaware, United States on March 16, 2004. The
Company’s common stock was initially listed for trading on the American Stock
Exchange on September 28, 2007.  The Company transferred its listing
to The NASDAQ Stock Market LLC on June 10, 2008.




The
Company through its subsidiaries conducts its principal activity as building
envelope systems contractors, specializing in the design, engineering,
fabrication and installation of curtain wall systems, roofing systems, steel
construction systems and eco-energy saving building conservation systems,
throughout China, Australia, Southeast Asia, the Middle East, and the United
States.




The
Company's work is performed under cost-plus-fee contracts, fixed-price
contracts, and fixed-price contracts modified by incentive and penalty
provisions. These contracts are undertaken by the Company or its wholly owned
subsidiaries. The length of the Company's contracts varies but is typically
about one to two years.




2.
            SUMMARY
      OF SIGNIFICANT ACCOUNTING POLICIES





(a)
            Method
      of accounting





The
Company maintains its general ledger and journals with the accrual method
accounting for financial reporting purposes. The consolidated financial
statements and notes are representations of management.  Accounting
policies adopted by the Company conform to generally accepted accounting
principles in the United States of America and have been consistently applied in
the presentation of consolidated financial statements, which are compiled on the
accrual basis of accounting.





(b)
            Consolidation





The
consolidated financial statements include the accounts of the Company and its 14
subsidiaries. Significant inter-company transactions have been eliminated in
consolidation. The consolidated financial statements include 100% of the assets
and liabilities of these majority-owned subsidiaries, and the ownership
interests of minority investors are recorded as minority interests.





The
Company owned the subsidiaries through its reverse-merger on October 17, 2006
and through direct investments or acquisitions after October 17,
2006.  As of March 31, 2009, detailed identities of the consolidating
subsidiaries are as follows:


7


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





Name
      of Company
                      
                      Place
      of
                        Incorporation
                      
                      Attributable
      Equity
                        interest
      %Full
      Art International Limited
                      
                      Hong
      Kong
                      
                      
                      100Zhuhai
      King Glass Engineering Co., Ltd.
                      
                      PRC
                      
                      
                      100Zhuhai
      King General Glass Engineering Technology Co., Ltd.
                      
                      PRC
                      
                      
                      100King
      General Engineering (HK) Limited
                      
                      Hong
      Kong
                      
                      
                      100KGE
      Building System Limited
                      
                      Hong
      Kong
                      
                      
                      100KGE
      Australia Pty Limited
                      
                      Australia
                      
                      
                      55Zhuhai
      Xiangzhou District Career Training School
                      
                      PRC
                      
                      
                      72Techwell
      Engineering Limited
                      
                      Hong
      Kong
                      
                      
                      100Techwell
      International Limited
                      
                      Macau
                      
                      
                      100Techwell
      Building System (Shenzhen) Co., Ltd.
                      
                      PRC
                      
                      
                      100CAE
      Building Systems, Inc.
                      
                      USA
                      
                      
                      100China
      Architectural Engineering (Shenzhen) Co., Ltd.
                      
                      PRC
                      
                      
                      100Techwell
      International (SEA) Pte Ltd.
                      
                      Singapore
                      
                      
                      100CAE
      Building Systems (Singapore) Pte Ltd
                      
                      Singapore
                      
                      
                      100





(c)
            Use
      of estimates





The
preparation of the consolidated financial statements in conformity with
generally accepted accounting principles in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the consolidated financial statements and the
reported amounts of revenues and expenses during the reporting periods.
Management makes these estimates using the best information available at the
time the estimates are made; however, actual results could differ materially
from those estimates.





(d)
            Plant
      and equipment





Plant and
equipment are carried at cost less accumulated
depreciation.  Depreciation is provided over their estimated useful
lives, using the straight-line method. Estimated useful lives of the plant and
equipment are as follows:





Building
              20
      yearsMachinery
      and equipment
              5 -
      10 yearsFurniture
      and office equipment
              5
      yearsMotor
      vehicle
              5
      years





The cost
and related accumulated depreciation of assets sold or otherwise retired are
eliminated from the accounts and any gain or loss is included in the statement
of income. The cost of maintenance and repairs is charged to income as incurred,
whereas significant renewals and betterments are capitalized.





(e)
            Accounting
      for the impairment of long-lived
assets





The
long-lived assets held and used by the Company are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
assets may not be recoverable. It is reasonably possible that these assets could
become impaired as a result of technology or other industry
changes.  Determination of recoverability of assets to be held and
used is by comparing the carrying amount of an asset to future net undiscounted
cash flows to be generated by the assets.


8


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds the
fair value of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell.


During
      the reporting periods, there was no impairment loss.





(f)
            Goodwill
      and Intangible Assets





In
accordance with Statement of Financial Accounting Standard 142 (“FAS 142”),
“Goodwill and Other Intangible
Assets”, the Company does not amortize goodwill or intangible assets with
indefinite lives.





For
goodwill and indefinite-lived intangible assets, impairment tests are performed
annually and more frequently whenever events or changes in circumstances
indicate goodwill carrying values exceed estimated reporting unit fair values.
Upon indication that the carrying values of such assets may not be recoverable,
the Company recognizes an impairment loss as a charge against current
operations. During the reporting periods, there was no impairment
loss.





(g)
            Inventories





Inventories
are raw materials, which are stated at the lower of weighted average cost or
market value.





(h)
            Contracts
      receivable





Contracts
receivable from performing construction of industrial and commercial buildings
are based on contracted prices.  The Company provides an allowance for
doubtful accounts, which is based upon a review of outstanding receivables,
historical collection information, and existing economic
conditions.





(i)
            Cash
      and cash equivalents





The
Company considers all highly liquid investments purchased with original
maturities of three months or less to be cash equivalents.





(j)
            Restricted
      cash





Restricted
cash represents time deposit accounts to secure notes payable and bank
loans.


9




CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





(k)
              Earnings
      per share





The
Company computes earnings per share (“EPS’) in accordance with Statement of
Financial Accounting Standards No. 128, “Earnings per Share” (“SFAS
No. 128”), and SEC Staff Accounting Bulletin No. 98 (“SAB 98”). SFAS
No. 128 requires companies with complex capital structures to present basic
and diluted EPS. Basic EPS is measured as the income or loss available to common
shareholders divided by the weighted average common shares outstanding for the
period. Diluted EPS is similar to basic EPS but presents the dilutive effect on
a per share basis of potential common shares (e.g., convertible securities,
options, and warrants) as if they had been converted at the beginning of the
periods presented, or issuance date, if later. Potential common shares that have
an anti-dilutive effect (i.e., those that increase income per share or decrease
loss per share) are excluded from the calculation of diluted EPS.





The
calculation of diluted weighted average common shares outstanding for the
periods ended March 31, 2009 and 2008 is based on the estimate fair value of the
Company’s common stock during such periods applied to warrants and options using
the treasury stock method to determine if they are dilutive. The Convertible
Bond is included on an “as converted” basis when these shares are
dilutive.





Components
of basic and diluted earnings per share were as follows:





Three
      Months Ended March 31,2009
                  
                  
                  2008Net
      Income
                  
                  $
                  943,611
                  
                  
                  $
                  5,173,718Basic
      Weighted Average Shares Outstanding
                  
                  
                  53,256,874
                  
                  
                  
                  51,783,416Dilutive
      Shares:-     
      Addition to Common Stock from Conversion of Bonds
                  
                  
                  -
                  
                  
                  
                  2,857,143-     
      Addition to Common Stock from Exercise of Warrants
                  
                  
                  -
                  
                  
                  
                  848,464Diluted
      Weighted Average Outstanding Shares:
                  
                  
                  53,256,874
                  
                  
                  
                  55,489,023Earnings
      Per Share-     
      Basic
                  
                  $
                  0.02
                  
                  
                  $
                  0.10-     
      Diluted
                  
                  $
                  0.02
                  
                  
                  $
                  0.09





(l)
              Revenue
      and cost recognition





Revenues
from fixed-price and modified fixed-price construction contracts are recognized
on the percentage-of-completion method, measured by the percentage of costs
incurred to date to estimated total cost for each contract.





Contract
costs include all direct material and labor costs and those indirect costs
related to contract performance, such as indirect labor, supplies, tools,
repairs, and depreciation costs.


10


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





Selling,
general, and administrative costs are charged to expense as incurred. Provisions
for estimated losses on uncompleted contracts are made in the period in which
such losses are determined. Changes in job performance, job conditions, and
estimated profitability, including those arising from contract penalty
provisions, and final contract settlements may result in revisions to costs and
income and are recognized in the period in which the revisions are determined.
Profit incentives are included in revenues when their realization is reasonably
assured. An amount equal to contract costs attributable to claims is included in
revenues when realization is probable and the amount can be reliably
estimated.





Total
estimated gross profit on a contract, being the difference between total
estimated contract revenue and total estimated contract cost, is determined
before the amount earned on the contract for a period can be
determined.





The
measurement of the extent of progress toward completion is used to determine the
amount of gross profit earned to date and that the earned revenue to date is the
sum of the total cost incurred on the contract and the amount of gross profit
earned.





Earned
revenue, cost of earned revenue, and gross profit are determined as follows:
-





a.
            Earned
      Revenue is the amount of gross profit earned on a contract for a period
      plus the costs incurred on the contract during the
  period.





b.
            Cost
      of Earned Revenue is the cost incurred during the period, excluding the
      cost of materials not unique to a contract that have not been used for the
      contract.





c.
            Gross
      Profit earned on a contract is computed by multiplying the total estimated
      gross profit on the contract by the percentage of completion. The excess
      of that amount over the amount of gross profit reported in prior periods
      is the earned gross profit that should be recognized in the income
      statement for the current period.





Change
orders are common for the changes in specifications or
design.  Contract revenue and costs are adjusted to reflect change
orders approved by the customer and the contractor regarding both scope and
price.  Recognition of amounts of additional contract revenue relating
to claims is appropriate only if it is probable that the claim will result in
additional contract revenue and if the amount can be reliably
estimated.





(m)
            Income
      taxes





The
Company uses the accrual method of accounting to determine and report its
taxable reduction of income taxes for the year in which they are
available.  The Company has implemented Statement of Financial Accounting
Standards (SFAS) No. 109, Accounting for Income Taxes.The
Company also adopted FIN 48,
Accounting for Uncertainty in Tax Positions.





Income
tax liabilities computed according to the United States, People’s Republic of
China (PRC), Hong Kong SAR, Macau SAR and Australia tax laws are provided for
the tax effects of transactions reported in the financial statements and
consists of taxes currently due plus deferred taxes related primarily to
differences between the basis of fixed assets and intangible assets for
financial and tax reporting.  The deferred tax assets and liabilities
represent the future tax return consequences of those differences, which will be
either taxable or deductible when the assets and liabilities are recovered or
settled.  Deferred taxes also are recognized for operating losses that
are available to offset future income taxes.  A valuation allowance is
created to evaluate deferred tax assets if it is more likely than not that these
items will either expire before the Company is able to realize that tax benefit,
or that future realization is uncertain.


11





CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





In
respect of the Company’s subsidiaries domiciled and operated in different tax
jurisdictions, the taxation of these entities can be summarized as
follows:





·
            Zhuhai
      King Glass Engineering Co., Limited (“Zhuhai KGE”) and Zhuhai King General
      Glass Engineering Technology Co., Limited (“Zhuhai KGGET”) are located in
      Zhuhai and were subject to the PRC corporation income tax rate of 18% in
      2008 and 20% in 2009. In accordance to China’s Enterprise Income Tax Law
      (“EIT Law”) effective from January 1, 2008, the tax rate for these two
      subsidiaries will be gradually increased 25% in 2012. The Company
      anticipates that as a result of the EIT law, its income tax provision will
      increase, which could adversely affect Zhuhai KGE’s financial condition
      and results of operations.





·
            China
      Architectural Engineering (Shenzhen) Co., Ltd. is located in Shenzhen and
      is subject to a 20% income tax rate that will be gradually increased to
      the uniform rate of 25% by 2012 as according to the new EIT
      law.





·
            Full
      Art International Limited, King General Engineering (HK) Limited, and KGE
      Building System Limited are subject to a Hong Kong profits tax rate of
      16.5%.





·
            Techwell
      Engineering Limited is subject to a Hong Kong profits tax rate of 16.5%.
      Techwell International Limited is a Macau registered company and therefore
      is subject to Macau profits tax rate of 12%.  Techwell Building
      System (Shenzhen) Co. Limited is located in Shenzhen and is subject to PRC
      corporate income tax rate of 20% in
2009.





·      KGE
Australia Pty Limited is subject to a corporate income tax rate of
30%.





·
            The
      Company is subject to United States Tax according to Internal Revenue Code
      Sections 951 and 957.





·
            The
      Company, after a reverse-merger on October 17, 2006, revived to be an
      active business enterprise because of the operations with subsidiaries in
      the PRC and Hong Kong.  Based on the consolidated net income for
      the year ended December 31, 2008, the Company shall be taxed at the 35%
      tax rate.





·
            Techwell
      Engineering Limited has established a branch in Dubai, which has zero
      corporate income tax rate.


12


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





(n)
            Advertising





The
Company expensed all advertising costs as incurred. Advertising expenses
included in selling expenses were $10,973 and $25,477 for the three-month
periods ended March 31, 2009 and 2008, respectively.





(o)
            Research and
      development





All research and development costs are
expensed as incurred. Research and development costs included in general and
administrative expenses were $2,926 and $328,331 for the three-month periods
ended March 31, 2009 and 2008, respectively.





(p)
            Retirement
      benefits





Retirement
benefits in the form of contributions under defined contribution retirement
plans to the relevant authorities are charged to the statements of income as
incurred.





(q)
            Foreign
      currency translation





The
accompanying consolidated financial statements are presented in United States
Dollars (US$). The Company’s functional currency is the US$, while certain
domestic subsidiaries’ use the Renminbi (RMB) and Hong Kong and overseas
subsidiaries use local currencies as their functional
currency.   The consolidated financial statements are translated
into US$ from RMB, Hong Kong Dollars (HKD), United Arab Emirate Dirham (AED) and
other local currencies at March 31, 2009 exchange rates as to assets and
liabilities and average exchange rates as to revenues and expenses. Capital
accounts are translated at their historical exchange rates when the capital
transactions occurred.





March 31,
                    2009
                  
                  
                  December 31,
                    2008
                  
                  
                  March 31,
                    2008Period
      end RMB : US$ exchange rate
                  
                  
                  6.8349
                  
                  
                  
                  6.8225
                  
                  
                  
                  7.0222Average
      quarterly RMB : US$ exchange rate
                  
                  
                  6.8360
                  
                  
                  
                  6.9564
                  
                  
                  
                  7.1757





March 31,
                    2009
                  
                  
                  December 31,
                    2008
                  
                  
                  March 31,
                    2008Period
      end HKD : US$ exchange rate
                  
                  
                  7.7506
                  
                  
                  
                  7.7499
                  
                  
                  
                  7.7827Average
      quarterly HKD : US$ exchange rate
                  
                  
                  7.7542
                  
                  
                  
                  7.7859
                  
                  
                  
                  7.7954





March 31,
                    2009
                  
                  
                  December 31,
                    2008
                  
                  
                  March 31,
                    2008Period
      end AED : US$ exchange rate
                  
                  
                  3.6700
                  
                  
                  
                  3.6731
                  
                  
                  
                  3.6736Average
      quarterly AED : US$ exchange rate
                  
                  
                  3.6700
                  
                  
                  
                  3.6736
                  
                  
                  
                  3.6733





The RMB
is not freely convertible into foreign currency and all foreign exchange
transactions must take place through authorized institutions.  No
representation is made that the RMB amounts could have been, or could be,
converted into US$ at the rates used in translation.


13


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





(r)
            Statutory
      reserves





Statutory
reserves for foreign investment enterprises are referring to the amount
appropriated from the net income in accordance with laws or regulations, which
can be used to recover losses and increase capital, as approved, and are to be
used to expand production or operations.





(s)
            Comprehensive
      income





Comprehensive
income is defined to include all changes in equity except those resulting from
investments by owners and distributions to owners.  Among other
disclosures, all items that are required to be recognized under current
accounting standards as components of comprehensive income are required to be
reported in a financial statement that is presented with the same prominence as
other consolidated financial statements.  The Company’s current
components of other comprehensive income are the foreign currency translation
adjustment.





(t)
            Recent
      accounting pronouncements





In April
2009, the Financial Accounting Standards Board (“FASB”) issued FASB Staff
Position (“FSP”) No. FAS 141(R)-1, Accounting for Assets Acquired and
Liabilities Assumed in a Business Combination That Arise from
Contingencies, (“FSP No. FAS 141(R)-1”). FSP No. FAS 141(R)-1 amends FASB
Statement No. 141(R), Business Combinations, to address application issues
related to the measurement, accounting and disclosure of assets and liabilities
arising from contingencies in a business combination. The Company adopted FSP
FAS No. 141(R)-1 upon issuance. This FSP had no impact on the
Company’s financial position, results of operations or cash flows.




In April
2009, the FASB issued FSP No. FAS 107-1 and APB 28-1, Interim Disclosures about Fair Value
of Financial Instruments, (“FSP No. FAS 107-1 and APB 28-1”).
FSP No. FAS 107-1 and APB 28-1 amends FASB Statement No. 107,
Disclosures about Fair Value of Financial Instruments, to require disclosures
about fair value of financial instruments for interim reporting periods of
publicly traded companies as well as in annual financial statements and also
amends Accounting Principles Board Opinion No. 28, Interim Financial
Reporting, to require those disclosures in summarized financial information at
interim reporting periods. This FSP is effective for the Company beginning
April 1, 2009. This FSP will have no impact on the Company’s financial
position, results of operations or cash flows.


14


CHINA
ARCHITECTURAL ENGINEERING, INC.
 NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008
 (Stated
in US Dollars)




3.
              CONTRACT
      RECEIVABLES





March 31,2009
                        
                        
                        December 31,
                          2008Contract
      receivables
                        
                        $
                        75,237,818
                        
                        
                        $
                        77,027,328Less: Allowance for
      doubtful accounts
                        
                        
                        (5,215,701
                        )
                        
                        
                        (5,215,701
                        )Net
                        
                        $
                        70,022,117
                        
                        
                        $
                        71,811,627





Allowance for Doubtful
    Accounts
                        
                        March 31,2009
                        
                        
                        December 31,
                          2008Beginning
      balance
                        
                        $
                        5,215,701
                        
                        
                        $
                        215,701Add:
      Allowance created
                        
                        
                        -
                        
                        
                        
                        5,000,000Ending
      balance
                        
                        $
                        5,215,701
                        
                        
                        $
                        5,215,701





4.
            INVENTORIES





March 31,2009
                  
                  
                  December 31,
                    2008Raw
      materials at sites
                  
                  $
                  291,401
                  
                  
                  $
                  308,842


15




CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





5.
            PLANT
      AND EQUIPMENT





Plant and
equipment consist of the following as of:





March31,2009
                      
                      
                      December 31,2008At
      costMotor
      vehicle
                      
                      $
                      1,566,794
                      
                      
                      $
                      1,568,165Machinery
      and equipment
                      
                      
                      2,390,766
                      
                      
                      
                      3,221,028Furniture,
      software and office equipment
                      
                      
                      2,340,465
                      
                      
                      
                      2,443,382Building
                      
                      
                      311,032
                      
                      
                      
                      311,596Leasehold
      improvement
                      
                      
                      2,399,769
                      
                      
                      
                      2,198,367$
                      9,008,826
                      
                      
                      $
                      9,742,538Less:
      Accumulated depreciationMotor
      vehicle
                      
                      $
                      833,101
                      
                      
                      $
                      774,977Machinery
      and equipment
                      
                      
                      1,295,613
                      
                      
                      
                      1,975,014Furniture,
      software and office equipment
                      
                      
                      994,040
                      
                      
                      
                      908,591Building
                      
                      
                      27,993
                      
                      
                      
                      24,538Leasehold
      improvement
                      
                      
                      323,561
                      
                      
                      
                      207,308$
                      3,474,308
                      
                      
                      $
                      3,890,428$
                      5,534,518
                      
                      
                      $
                      5,852,110





Depreciation
expenses included in the selling and administrative expenses for periods ended
March 31, 2009 and 2008 were $252,852 and $150,407, respectively.





6.
            INTANGIBLE
      ASSETS





March
      31, 2009
                      
                      
                      December
      31,
                        2008At
      costIntangible
      Assets
                      
                      $
                      163,829
                      
                      
                      $
                      99,567Less:
      Accumulated amortization
                      
                      
                      70,847
                      
                      
                      
                      48,847$
                      92,982
                      
                      
                      $
                      50,720


16


CHINA
ARCHITECTURAL ENGINEERING, INC.
 NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008
 (Stated
in US Dollars)


7.
            LOANS





A.
            SHORT-TERM
      BANK LOANS





March
      31,
                    2009
                  
                  
                  December
                    31,
      2008Bank
      of East Asia (China) Ltd., Apartment Mortgage, amount due within one year,
      at 5.184% per annum, subject to variation every 6 months, last installment
      due January 4, 2012
                  
                  $
                  43,307
                  
                  
                  $
                  -Automobile
      capital lease obligation (hire purchase), amount due within one year, last
      installment due November 9, 2012
                  
                  
                  77,155
                  
                  
                  
                  -ABN
      Amro Bank N.V. Bank Overdraft in Current
      Account
                  
                  
                  2,457,973
                  
                  
                  
                  -$
                  2,578,435
                  
                  
                  $
                  -





B.
            LONG-TERM
      BANK LOANS




March
      31,
                    2009
                  
                  
                  December
                    31,
      2008Bank
      of East Asia (China) Ltd., Apartment Mortgage, amount due after one year,
      at 5.184% per annum, subject to variation every 6 months, last installment
      due January 4, 2012
                  
                  $
                  87,683
                  
                  
                  $
                  -Automobile
      capital lease obligation (hire purchase),amount due after one year, last
      installment due November 9, 2012
                  
                  
                  167,168
                  
                  
                  
                  186,474$
                  254,851
                  
                  
                  $
                  328,285





Zhuhai
King Glass Engineering Co., Limited borrowed from Bank of East Asia with a
condominium as collateral. This facility is subject to a current interest rate
of 5.184% and interest rate adjusts every 6 months.





Full Art
International Limited borrowed a hire purchase (car) loan from DBS
Bank.


17




CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)




8.
            CONVERTIBLE
      BONDS AND BOND WARRANTS





(a)
            $10,000,000
      Variable Rate Convertible Bonds due in
2012





On April
12, 2007, the Company completed a financing transaction with ABN AMRO Bank N.V.
(the“Subscriber”) issuing (i) $10,000,000 Variable Rate Convertible Bonds due in
2012 (the “Bonds”) and (ii)800,000 warrants to purchase an aggregate of 800,000
shares of the Company’s common stock, subject to adjustments for stock splits or
reorganizations as set forth in the warrant, that expire in 2010 (the
“Warrants”).





On
September 29, 2008, the Subscriber converted $2,000,000 into 571,428 shares at
the conversion price of$3.50 per share. As of March 31, 2009, the face value of
the bonds outstanding was $8,000,000.





Effective
from April 12, 2009, the conversion price has been reset to $2.45, which is 70%
of $3.50 as theaverage closing price of the Company’s shares for the period of
20 consecutive trading days immediatelyprior to April 12, 2009 was
$0.94.





On
November 8, 2008, the Subscriber exercised all the 800,000 warrants into 800,000
shares at the exerciseprice of $0.01 per share.





(b)
            $20,000,000
      12% Convertible Bonds due in 2011





On April
15, 2008, the Company completed a financing transaction with ABN AMRO Bank N.V.,
LondonBranch (“ABN AMRO”), CITIC Allco Investments Limited (together with ABN
AMRO, the“Subscribers,” and each a “Subscriber”), and CITIC Capital Finance
Limited issuing (i) $20,000,000 12% Convertible Bonds due in 2011 (the “Bonds”)
and (ii) 300,000 warrants to purchase an aggregate of 300,000 shares of the
Company’s common stock, subject to certain adjustments as set forth in the
warrant instrument, that expire in 2013 (the “Bond Warrants”). The transaction
was completed in accordance with a subscription agreement entered into by the
Company, Subscribers, and CITIC Capital Finance Limited, dated April 2, 2008
(the “Subscription Agreement”).





The above
items (a) and (b) are to be amortized to interest expense over the term of the
bonds by the effective interest method as disclosed in the table
below.





The
Convertible Bonds Payable, net consists of the following:


March 31,
                    2009
                  
                  
                  December
                    31, 2008Convertible
      Bonds Payable
                  
                  $
                  28,000,000
                  
                  
                  $
                  28,000,000Less:
      Interest discount – Warrants
                  
                  
                  (3,159,903
                  )
                  
                  
                  (3,159,903
                  )Less:
      Interest discount – Beneficial conversion feature
                  
                  
                  (1,737,143
                  )
                  
                  
                  (1,737,143
                  )Less:
      Bond discount
                  
                  
                  (740,000
                  )
                  
                  
                  (740,000
                  )Accretion
      of interest discount
                  
                  
                  3,218,303
                  
                  
                  
                  2,544,216Net
                  
                  $
                  25,581,257
                  
                  
                  $
                  24,907,170


18




CHINA
ARCHITECTURAL ENGINEERING, INC.
 NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008
 (Stated
in US Dollars)


9.
            CONTRACT
      REVENUES EARNED





The
contract revenues earned for the three-month periods ended March 31, 2009 and
2008 consist of thefollowing:





March 31, 2009
                  
                  
                  March 31, 2008Billed
                  
                  $
                  28,279,372
                  
                  
                  $
                  6,794,149Unbilled
                  
                  
                  8,063,692
                  
                  
                  
                  18,555,157$
                  36,343,064
                  
                  
                  $
                  25,349,306





The
unbilled
contract  revenue  earned  represents  those  revenue  that  should  be  recognized
according to the percentage of completion method for accounting for construction
contract because the Company is entitled to receive payment from the customers
for the amount of work that has been  rendered to
and  completed  for  that  customer
according  to  the  terms  and  progress  being
made as stipulated under that contract between the Company and that customer. As
an industrial practice, there are certain procedures that need to be performed,
such as project account finalization, by both the customer and the Company
before the final billing is issued; however this does not affect the
Company’s  recognition of revenue and respective cost according to the
terms of the contract with the consistent application of the
percentage-of-completion method.


19


CHINA
ARCHITECTURAL ENGINEERING, INC.
 NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS
 FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008
 (Stated
in US Dollars)


10.
            INCOME
      TAXES





The
following table accounts for the differences between the actual tax provision
and the amounts obtained by applying the relevant applicable corporation income
tax rate to income before tax for the periods ended March 31, 2009 and
2008:





March 31,2009
                  
                  
                  2008Tax
      at the PRC, HK, Macau and Australia  income tax
      rates
                  
                  $
                  -
                  
                  
                  $
                  65,787Effect
      of PRC government grants
                  
                  
                  -
                  
                  
                  
                  (18,420
                  )Current
      income tax expense
                  
                  $
                  -
                  
                  
                  $
                  47,367





11.
            COMMITMENTS





(a)
            Operating
      lease commitments





The
Company leases certain administrative and production facilities from third
parties.  Accordingly, forthe three-month periods ended March 31, 2009
and 2008, the Company incurred rental expenses of$829,465 and $294,114
respectively.





The
Company has commitments with respect to non-cancelable operating leases for
these offices, asfollows:





For
      the 12 months ending March 31,2010
                  
                  
                  1,482,1332011
                  
                  
                  917,3682012
                  
                  
                  808,1972013
      or after
                  
                  
                  1,301,333$
                  4,509,031





(b)
            Pending
      Litigation




Pursuant
to a Stock Purchase Agreement dated November 7, 2007, the previous shareholders
of TechwellEngineering Limited (“Techwell”), Mr. Ng, Chi Sum and Miss Yam, Mei
Ling Maria agreed to sell 100%of the shares in Techwell to the Company for
approximately $11.7 million in cash and shares of common stock of the Company.
Subsequent to the said acquisition, Mr. Ng and Miss Yam were employed by
Techwell.




On
January 14, 2009, the board of directors of Techwell passed a board resolution,
to dismiss both Mr. Ngand Miss Yam with immediate effect and remove Mr. Ng from
the board of Techwell (the“Resolution”).   On January 16, 2009,
Mr. Ng and Miss Yam filed a lawsuit in the High Court of Hong Kong against the
Company and its subsidiary, Full Art International Limited.  The
lawsuit alleges that, inter alia, (i) the Company misrepresented to them the
financial status of the Company and operations during the course the acquisition
of Techwell was being negotiated; (ii) the Company failed to perform its
obligations under a settlement agreement alleged to be agreed by the
Company in January 2009; and (iii) the dismissal of Mr. Ng was unlawful and
invalid.


20





CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE-MONTH PERIODS ENDED MARCH 31, 2009 AND 2008


(Stated
in US Dollars)





On
January 23, 2009 an ex-parte injunction order was granted to Mr. Ng, restraining
the Company fromimplementing the Resolution, which was eventually dismissed with
immediate effect on February 25,2009 after a court session in the High Court of
Hong Kong. Mr. Ng was also ordered to bear the costs of the various court
proceedings in connection with the said injunction order. On March 27, 2009, Mr.
Ng and Miss Yam filed a summons in the High Court of Hong Kong seeking a court
order for leave to join the Company’s principal shareholder, KGE Group Limited,
as a defendant of the said lawsuit, which was granted on April 9,
2009.  As a result, KGE Group Limited became one of the defendants of
the lawsuit. On May 12, 2009, the Company filed a Defense and Counterclaim at
the High Court of Hong Kong in response to a Statement of Claim served by Mr. Ng
and Miss Yam on the Company on April 7, 2009.




The
Company intends to vigorously defend this pending lawsuit; however, no assurance
can be given thatthe lawsuit will be resolved in the Company’s
favor.  Even if the Company successfully defends the lawsuit,the
Company may incur substantial costs defending or settling the lawsuit, in
addition to a possible diversion of the time and attention of the Company’s
management from its business.  If the Company is unsuccessful in
defending the lawsuit, its may be required to pay a significant amount of
damages and/or it may potentially lose ownership of Techwell, which will have a
material adverse effect on the Company’s business, financial condition or
results of operations.





12.
            RELATED
      PARTIES TRANSACTIONS





The
current account balance with shareholders at March 31 2009 was receivables of
$1,028,122, while at December 31, 2008 it was payable of
$924,687.  The receivable balance was mainly rental payment on behalf
of the shareholders, which the shareholders will reimburse the Company in the
second quarter of 2009.





During
the three months period ended March 31, 2009, the Company purchased construction
materials amounting to $8.2 million from Guangdong Canbo Electrical Co., Ltd.
(Canbo), a subsidiary of the Company’s major shareholder, KGE Group Limited.
Canbo is a preferred supplier of the Company as it is able to procure materials
at favorable price levels due to its purchased quantities. More important,
application of certain of the Company’s patented technology is preferably routed
through Canbo to prevent undesired distribution of this technology. The Company
at times provides advance payment to Canbo in order to obtain a more favorable
pricing. As of March 31, 2009, the Company’s advance to Canbo was $0.6
million.




The
transactions with related parties during the periods were carried out in the
ordinary course of business and on normal commercial terms.


21


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





Forward-Looking
Statements





The
following discussion should be read in conjunction with our consolidated
financial statements and related notes included elsewhere in this quarterly
report and the audited consolidated financial statements and related notes and
“Management’s Discussion and Analysis of Financial Condition and Results of
Operations” contained in our annual report on Form 10-K for the year ended
December 31, 2008.





This
quarterly report contains forward-looking statements that involve substantial
risks and uncertainties.  The words “anticipated,” “believe,” “expect,
“plan,” “intend,” “seek,” “estimate,” “project,” “could,” “may,” and similar
expressions are intended to identify forward-looking statements. These
statements include, among others, information regarding future operations,
future capital expenditures, and future net cash flow. Such statements reflect
our management’s current views with respect to future events and financial
performance and involve risks and uncertainties, including, without limitation,
our dependence on government contracts and government sponsored contracts,
general economic and business conditions, adverse capital and credit market
conditions, our dependence on the steel and aluminum markets, increasing
provisions for bad debt related to our accounts receivable, fluctuation and
unpredictability of costs related to our products and services, changes in
foreign, political, social, and economic conditions, regulatory initiatives and
compliance with governmental regulations, the ability to achieve further market
penetration and additional customers, and various other matters, many of which
are beyond our control. Actual results may vary materially and adversely from
those anticipated, believed, estimated or otherwise indicated should one or more
of these risks or uncertainties occur or if any of the risks or uncertainties
described elsewhere in this report or in the “Risk Factors” section of our 2008
annual report occur.  Consequently, all of the forward-looking
statements made in this report are qualified by these cautionary statements and
there can be no assurance of the actual results or developments.





Overview





We
specialize in high-end curtain wall systems (including glass, stone and metal
curtain walls), roofing systems, steel construction systems, eco-friendly energy
saving buildings and conservation systems and related products, for public works
and commercial real estate projects. We provide timely, high quality, reliable,
fully integrated and cost-effective service solutions to our clients using
specialized technical expertise in the design, engineering, fabrication,
installation and construction of structural exterior cladding systems. We have
completed over one hundred projects throughout China, Hong Kong, Macau,
Australia and Southeast Asia, including the National Grand Theater in Beijing,
the Meridian Gate Exhibition Hall of the Palace Museum in Beijing’s Forbidden
City (winner of the 2005 UNESCO Jury Commendation for Innovation of Asia Pacific
Heritage Award), the Beijing Botanical Garden Conservatory (winner of the Zhan
Tian You award in 2003), the Shenzhen Airport Terminal Building, the Shanghai
South Railway Station and the Vietnam National Conference Center.  We
compete on the strength of our reputation, relationships with government and
commercial clients, and our ability to give expression to the vision of leading
architects.  By focusing on innovation while outsourcing commoditized
manufacturing work, we are able to add artistic and technological value to
projects at cost-effective price points.  In 2008, we became a member
of U.S. Green Building Council (USGBC) and we further focused on expanding our
international operations.


22


Results
of Operations





The
following table sets forth statements of operations for the three months ended
March 31, 2009 and 2008 in U.S. dollars (unaudited):





Three
      Months Ended
                    March
      31,2009
                
                
                2008(in
      thousands, except for share and per share amounts)Contract
      revenues earned
                
                $
                36,343
                
                
                $
                25,349Cost
      of contract revenues earned
                
                
                (28,162
                )
                
                
                (16,9034
                )Gross
      profit
                
                $
                8,181
                
                
                $
                8,445Selling,
      general and administrative expenses
                
                
                (5,951
                )
                
                
                (3,000
                )Income
      from operations
                
                $
                2,230
                
                
                $
                5,445Interest
      income
                
                
                4
                
                
                
                7Interest
      expenses
                
                
                (1,312
                )
                
                
                (334
                )Other
      income
                
                
                22
                
                
                
                111Income
      before taxation
                
                $
                944
                
                
                $
                5,229Income
      tax
                
                
                -
                
                
                
                (47
                )Net
      earnings
                
                
                944
                
                
                
                5,182Loss
      attributable to noncontrolling interests
                
                
                -
                
                
                
                (8
                )Net
      earnings attributable to the Company
                
                $
                944
                
                
                $
                5,174Earnings
      per share:Basic
                
                $
                0.02
                
                
                $
                0.10Diluted
                
                $
                0.02
                
                
                $
                0.09Weighted
      average shares outstanding:Basic
                
                
                53,256,874
                
                
                
                51,783,416Diluted
                
                
                53,256,874
                
                
                
                55,489,023


23


Three
Months Ended March 31, 2009 and 2008





Contract
revenues earned for the three months ended March 31, 2009 were $36.3 million, an
increase of $11.0 million, or 43%, from the contract revenues earned of $25.3
million for the comparable period in 2008. The primary reason for the increase
in contract revenues earned was due to the considerable progress of the
international projects commenced in 2008, such as the Metro Red Line Project in
Dubai.





Cost of
contract revenues earned for the three months ended March 31, 2009 was $28.2
million, an increase of $11.3 million, or 67%, from $16.9 million for the
comparable period in 2008. Cost of contract revenues earned consists of the raw
materials, labor and other operating costs related to manufacturing. The
increase in costs of contract revenues earned was primarily due to increase in
revenue in 2009, in addition to higher raw material, labor and administrative
costs.





Gross
profit for the three months ended March 31, 2009 was $8.2 million, a decrease of
$0.2 million, or 2%, from $8.4 million for the comparable period of 2008. Our
gross margin for the three months ended March 31, 2009 was 22.5% as compared
with 33.2% for the three months ended March 31, 2008. The decrease in gross
margin was primarily a result of higher raw material, labor and administrative
costs in Dubai, as well as our domestic market of China.





Selling,
general and administrative expenses were $6.0 million for the three months ended
March 31, 2009, an increase of approximately $3.0 million, or 100%, from $3.0
million for the comparable period in 2008. The increase was due to our
operational expansion, including the growth in staff, office rental and other
costs associated with the expansion of our overseas operations since
2008.  Among the selling, general and administrative expenses, payroll
and social securities was the single largest expenditure of the group, which
accounted for approximately 50% of the expenses. Other major expenses included
office administrative expenses 8% and rental expenses 15%.





Interest
expenses and finance expenses were $1.3 million for the three months ended March
31, 2009, an increase of $1.0 million, from $0.3 million for the comparable
period in 2008.  The increase was mainly due to our issuance of $20
million convertible bonds in April 2008.





Income
tax expense was nil for the three months ended March 31, 2009 at an effective
tax rate of 0%, compared with approximately $47,000 in taxes for the same period
of 2008 at an effective tax rate of 0.9%. The primary reason for the decrease
was due to zero corporate income tax rate associated with revenues from the
Dubai project, our largest ongoing project during 2009.





Net
earnings for the three months ended March 31, 2009 was $0.9 million, a decrease
of $4.3 million, or 83%, from $5.2 million for the comparable period in
2008.





Liquidity
and Capital Resources





At March
31, 2009, we had cash and cash equivalents of $8.8 million.





Prior to
October 17, 2006, we financed our business operations through short-term bank
loans, cash provided by operations, and credit provided by suppliers. On October
17, 2006, concurrently with the close of our Share Exchange, we received gross
proceeds of $3.7 million in a private placement
transaction.   After commissions and expenses, we received net
proceeds of approximately $3.1 million.  In October 2007, we completed
an initial public offering consisting of 847,550 shares of our common stock. Our
sale of common stock, which was sold indirectly by us to the public at a price
of $3.50 per share, resulted in net proceeds of approximately $2.0
million.





We have
also financed our operations through the issuance of convertible
bonds.  On April 12, 2007, we completed a financing transaction
pursuant to which we issued the 2007 Bonds in the principal amount of $10
million. In September 2008, $2 million worth of bonds were converted into shares
of common stock pursuant to which we issued 571,428 shares of common
stock.  Effective from April 12, 2009, the conversion price was reset
from $3.50 to $2.45 per share per the terms of the bonds based on the average
trading price of our common stock.


24


On April
15, 2008, we completed a financing transaction pursuant to which we issued the
2008 Bonds in the principal amount of $20.0 million. The 2008 Bonds bear cash
interest at the rate of 12% per annum. Interest is payable semi-annually in
arrears on April 15 and October 15 of each year commencing October 15,
2008.  For the interest payment that was due on April 15, 2009, the
bondholders agreed, subject to certain conditions being met, that we may defer
an interest payment of $1.2 million of the 2008 bonds by two
months.   The conditions of the deferment include that we do not
make any repayment of any credit facility without our prior written consent from
the bondholders.  We deferred the payment of the interest payment to
increase our cash reserves to better fund our operations.  If the
bondholders elect to require payment on June 15, 2009, we believe that we will
have sufficient funds to make such payment, which would decrease our available
cash to fund our operating activities and could have a negative effect on our
results of operations.





If we are
required to repurchase all or a portion of the outstanding amount of $28.0
million in bonds and we do not have sufficient cash to make the repurchase, we
will be required to obtain third party financing to do so, and there can be no
assurances that we will be able to secure financing in a timely manner and on
favorable terms, which could have a material adverse effect on our financial
performance, results of operations and stock price.





Our
subsidiary, Zhuhai King Glass Engineering Co., Limited, borrowed from Bank of
East Asia with a condominium as collateral. This facility, which is due October
25, 2011, is subject to a current interest rate of 5.832% and interest rate
adjusts every 6 months. The amount outstanding as of March 31, 2009 was
$130,990.





Full Art
International Limited incurred an automobile capital lease obligation due
November 09, 2012 that had an outstanding amount of $244,324 as of March 31,
2009.





On
February 19, 2008, we and Techwell Engineering Limited were granted a bond
facility by the Hong Kong Branch of ABN AMRO Bank N.V. The facility amount was
$10,000,000, at a tenor of up to one year with 2% flat interest rate on the
issued amount of bonds such as bank guarantees, performance bonds, advanced
payment bonds and standby letters of credit. ABN AMRO required guarantees as
follows: (i) an irrevocable and unconditional guarantee executed by Zhuhai King
Glass Engineering Co. Limited and (ii) share charge over the shares of us for a
minimum value of $5,000,000 or equivalent, executed by KGE Group Limited. On May
2, 2008, the facility was increased to $12,000,000 with additional cash
collateral of $2,000,000. This facility is fully utilized.





On March
28, 2008, we, Full Art and Techwell Engineering Limited were granted a bonding
facility by the Hong Kong Branch of HSBC. The facility amount was $10,000,000,
at a tenor of up to one year with 1% flat interest rate on the issued amount of
bonds such as bank guarantees, performance bonds, advanced payment bonds and
standby letters of credit. HSBC required guarantees as follows: (i) an unlimited
guarantee among China Architectural Engineering, Inc., Full Art International
Limited and Techwell Engineering Limited; and (ii) an “all monies” securities
deposits with 15% margin.  On August 18, 2008, the facility was
increased to $20,000,000 with additional cash collateral of
$1,500,000.  As of March 31, 2009, we have utilized $11 million
of the facility.





On July
19, 2008, Zhuhai King Glass Engineering Co., Ltd. (“Zhuhai KGE”), our
wholly-owned subsidiary was granted a Bank Accepted Draft facility by the
Shenzhen Branch of ABN AMRO Bank N.V. The facility amount is RMB70,000,000
(US$10,218,978).  On March 31, 2009, the facility was amended to allow
Open Account Financing – Accounts Receivable against invoices from acceptable
buyers up to RMB21,000,000 and Overdraft in Current Account up to
RMB16,800,000.  ABN AMRO requires irrevocable and unconditional
guarantee from us and cash collateral of 20% of bank’s acceptance bill issued
and Open Account Financing.  As of March 31, 2009, Zhuhai KGE utilized
RMB21 million (US$3.1 million) of Bank Accepted Draft and RMB16.8 million
(US$2.5 million) of Overdraft in Current Account.





We also
lease certain administrative and production facilities from third parties.
Accordingly, for the three months ended March 31, 2009 and 2008, we incurred
rental expenses of $829,465 and $294,114, respectively.





Working
capital management, including prompt and diligent billing and collection, is an
important factor in our results of operations and liquidity. When we are awarded
construction project, we work according to the percentage-of-completion method
which matches the revenue streams with the relevant cost of construction based
on the percentage-of-completion of project as determined based on certain
criteria, such as, among other things, actual cost of raw material used compared
to the total budgeted cost of raw material and work certified by customers.
There is no guarantee that the cash inflow from these contracts is being
accounted for in parallel with the cash outflow being incurred in the
performance of such contract. In addition, a construction project is usually
deemed to be completed once we prepare a final project account, the account is
agreed upon by our customers, and all amounts related to the contract must be
settled according to the account within three months to a year from the
customer’s agreement on the final project account. As there may be different
time intervals to reach a consensus on the amount as being accounted for in the
projects before the project finalization account is being mutually agreed by
each other. We experience an average accounts settlement period ranging from
three months to as high as one year from the time we provide services to the
time we receive payment from our customers. In contrast, we typically need to
place certain deposit with our suppliers on a portion of the purchase price in
advance and for some suppliers we must maintain a deposit for future orders. We
attempt to maintain a credit policy of receiving certain amounts of deposit from
customers before we begin a new project.


25





We
experienced revenue of $36.2 million for the three months ended March 31, 2009
compared to revenue of $25.3 million for the same period in 2008. Construction
contract related receivables, including contract receivables and costs and
earnings in excess of billings as of March 31, 2009 were $78.3 million, a
decrease of $9.4 million over construction related receivables of $87.7 million
as of December 31, 2008. The decrease in such receivables reflected our
increased efforts on cash collection from main contractors or owners during the
first quarter of 2009.





We
provide for bad debts principally based upon the aging of accounts receivable,
in addition to collectability of specific customer accounts, our history of bad
debts, and the general condition of the industry. We are currently involved in
six lawsuits in which we are suing other parties for overdue payments. The total
amount involved is approximately $3.2 million.  We did not record
additional provision for doubtful accounts in the three months ended March 31,
2009.  As of March 31, 2009, our provision for doubtful accounts was
$5.2 million, which was 6.6% of our construction contract related receivables of
$78.3 million. We believed our current reserve for doubtful accounts is
commensurate to cover the associated credit risk in the portfolio of our
construction contract related receivables.  Due to the difficulty in
assessing future trends, we could be required to further increase our provisions
for doubtful accounts.  As our accounts receivable age and become
uncollectible our cash flow and results of operations are negatively
impacted.





At March
31, 2009, we had no material commitments for capital expenditures other than for
those expenditures incurred in the ordinary course of business.  We
intend to expend a significant amount of capital to purchase materials and serve
as deposits for performance bonds for new projects that we have obtained.
Additional capital for this objective may be required that is in excess of our
liquidity, requiring us to raise additional capital through an equity offering
or secured or unsecured debt financing. The availability of additional capital
resources will depend on prevailing market conditions, interest rates, and our
existing financial position and results of operations.





Net cash
from operating activities for the three months ended March 31, 2009 was
approximately $4.3 million, as compared to net cash outflow of $1.4 million in
the same period in 2008. The change is primarily due to our improvement in cash
collection.





Net cash
provided by investing activities was approximately $1.3 million for the three
months ended March 31, 2009 compared to approximately $0.5 million used in
investing activities for the three months ended March 31, 2008. The change was
mainly a result of decrease in our restricted cash.





Net cash
used in financing activities was $6.6 million for the three months ended March
31, 2009 compared to $1.9 million provided by the three months ended March 31,
2008. The decrease was primarily due to repayment of notes payable and
short-term loans during 2009.


26


Contractual
Obligations





The
following table describes our contractual commitments and obligations as of
March 31, 2009:





Payments due by periodTotal
                
                
                Less than
                  1 year
                
                
                1-3 years
                
                
                3-5 years
                
                
                More
                  than 5
                  yearsOperating
      Lease Obligations
                
                $
                4,509,031
                
                
                $
                1,482,133
                
                
                $
                1,725,565
                
                
                $
                1,301,333
                
                
                $
                -Contingent
      Liabilities (1)
                
                $
                22,243,907
                
                
                $
                18,743,907
                
                
                $
                3,500,000
                
                
                $
                -
                
                
                $
                -Long-term
      debt (2)
                
                $
                35,391,600
                
                
                $
                -
                
                
                $
                23,322,000
                
                
                $
                12,069,600
                
                
                $
                -


__________


(1)
            Includes
      the $3,500,000 standby guarantee expiring May 2, 2010, $2,121,322
      performance bond expiring on September 30, 2009 and $5,578,164 advanced
      payment bond expiring September 30, 2009, issued by ABN AMRO Bank
      N.V.  Also includes $1,831,411 performance bond expiring
      December 31, 2009, $5,494,234 advanced payment bond expiring August 6,
      2009 and $3,718,776 advanced payment bond expiring September 30, 2009,
      issued by HSBC.





(2)
              Includes
      the $8 million convertible bond which is required to be redeemed at
      150.87% at maturity at April 4,   2012, which may be
      converted into our common stock after September 28, 2008, accordingly we
      may re-classify upon conversion. Also includes the $20 million convertible
      bond which is required to be redeemed at 116.61% at maturity at April 15,
      2011, which may be converted into our common stocks after October 15,
      2008, accordingly we may re-classify upon
  conversion.





Off-Balance
Sheet Arrangements





None.





Critical
Accounting Policies and Estimates





The
preparation of consolidated financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities, disclosure of contingent assets and liabilities at the
date of the consolidated financial statements and the reported amounts of
revenues, expenses and allocated charges during the reporting period. Actual
results could differ from those estimates.





We
describe our significant accounting policies in Note 2, Summary of Significant
Accounting Policies, of the Notes to Consolidated Financial Statements included
in our Annual Report on Form 10-K as of and for the year ended December 31,
2008. We discuss our critical accounting policies and estimates in Management’s
Discussion and Analysis of Financial Condition and Results of Operations in our
Annual Report on Form 10-K as of and for the year ended December 31,
2008.  Other than as indicated in this quarterly report, there have
been no material revisions to the critical accounting policies as filed in our
Annual Report for the fiscal year ended December 31, 2008 on Form 10-K as filed
with the SEC on March 31, 2009.





Recent
Accounting Pronouncements





See Note
2(t) of the
accompanying unaudited interim consolidated financial statements included in
this Form 10-Q for a discussion of recent accounting
pronouncements.





ITEM
3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK





There
have been no material changes in market risk from the information provided in
Part II, Item 7A “Quantitative and Qualitative Disclosures About Market Risk” in
our Annual Report for the fiscal year ended December 31, 2008 on Form 10-K as
filed with the SEC on March 31, 2009.


27


ITEM
4.  CONTROLS AND PROCEDURES





Evaluation
of Disclosure Controls and Procedures





Disclosure
controls and procedures are controls and other procedures that are designed to
ensure that information required to be disclosed by us in the reports that we
file or submit under the Securities Exchange Act of 1934 (the “Exchange Act”) is
recorded, processed, summarized and reported, within the time periods specified
in the Securities and Exchange Commission's rules and forms. Disclosure controls
and procedures include, without limitation, controls and procedures designed to
ensure that information required to be disclosed by us in the reports that we
file under the Exchange Act is accumulated and communicated to our management,
including our principal executive and financial officers, as appropriate to
allow timely decisions regarding required disclosure.





As of the
end of the period covered by this Quarterly Report, we conducted an evaluation,
under the supervision and with the participation of our Chief Executive Officer
and Chief Financial Officer, of our disclosure controls and procedures (as
defined in Rule 13a-15(e) of the Exchange Act). Based upon this evaluation, our
Chief Executive Officer and Chief Financial Officer concluded that the Company’s
disclosure controls and procedures identified certain material weaknesses, as
described below, that caused our controls and procedures to be
ineffective.  Notwithstanding the existence of the material weaknesses
described below, management has concluded that the interim consolidated
financial statements in this Form 10-Q fairly present, in all material respects,
our financial position, results of operations and cash flows for the periods and
dates presented.





These
material weaknesses primarily related to one of our material operating
subsidiaries, Techwell Engineering Limited. (“Techwell”).  On November
6, 2007, we acquired Techwell and its wholly owned subsidiaries, Techwell
Building Systems (Shenzhen) Ltd. in China and Techwell International Ltd. in
Macau.  At the time, Techwell was a privately-held company and its
financial systems were not designed to facilitate the external financial
reporting required of a publicly held company under the Sarbanes-Oxley Act of
2002.  In addition, Techwell’s accounting records were historically
maintained using accounting principles generally accepted in the People's
Republic of China, its personnel was not fully familiar with accounting
principles generally accepted in the United States of America.





A
material weakness is a deficiency, or a combination of deficiencies, in internal
control over financial reporting such that there is a reasonable possibility
that a material misstatement of the annual or interim financial statements will
not be prevented or detected in a timely basis.  We identified the
following material weaknesses:





1.
            Techwell lacked the technical
      expertise and processes to ensure compliance with our policies and did not
      maintain adequate controls with respect to (a) timely updating engineering
      budget and analysis, (b) coordination and communication between Corporate
      Accounting and Engineering Staffs, and (c) timely review and analysis of
      corporate journals recorded in the consolidation
      process.





2.
            Techwell did not maintain a
      sufficient complement of personnel with an appropriate knowledge and skill
      to comply with our specific engineering financial accounting and reporting
      requirements and low materiality thresholds.  This was evidenced
      by a number of documents missing or not matching with the records and
      contributed to the adjustment of financial results.  As
      evidenced by the significant number and magnitude of out-of-period
      adjustments identified from Techwell during the period-end closing
      process, management has concluded that the controls over the period-end
      financial reporting process were not operating effectively. Specifically,
      controls were not effective to ensure that significant accounting
      estimates and other adjustments were appropriately reviewed, analyzed, and
      monitored on a timely basis.





3.
            Techwell did not comply with our
      authorization policy. This was evidenced by a number of expenses incurred
      without appropriate authorization. This material weakness resulted in an
      unauthorized and significant increase of expenses, which significantly
      impacted our operating
results.





Remediation
of Material Weaknesses





We are in
the process of developing and implementing remediation plans to address our
material weaknesses.  One key change for us going forward will be the
design and implementation of internal controls over the accounting and oversight
of all subsidiaries, including enhanced accounting systems, processes, policies
and procedures.  We have taken the following actions to address the
material weaknesses and improve our internal controls over financial
reporting:


28





1.
            On January 14, 2009, the board of
      directors of Techwell passed a board resolution to replace management of
      Techwell.  We have appointed a new general manager to Techwell,
      as well as three experienced project managers to the Dubai Metro
      project.





2.
            Management has initiated a
      Sarbanes-Oxley Act of 2002 Section 404 Compliance Assistance Project,
      which is intended to meet all requirements required by SEC in our company
      and all of our subsidiaries.  We have engaged an experienced
      consulting firm, Protiviti, to assist in our Sarbanes-Oxley Act of 2002
      Section 404 Compliance.





3.
            We have established a dedicated
      and qualified internal control and audit team to implement the policies
      and procedures to the standard of a US public
    company.




4.
            We reorganized and restructured
      Techwell’s Corporate Accounting by (a) modifying the reporting structure
      and establishing clear roles, responsibilities, and accountability, (b)
      hiring skilled technical accounting personnel to address our accounting
      and financial reporting requirements, and (c) assessing the technical
      accounting capabilities in the operating units to ensure the right
      complement of knowledge, skills, and
  training.





5.
            We reorganized and restructured
      the budgeting process by (a) centralizing the procurement function to our
      company to ensure budgets and analyses of Techwell are timely prepared and
      properly reviewed; (b) implementing new policies and procedures to ensure
      that appropriate communication and collaboration protocols among our
      Engineering, Procurement and Corporate Accounting departments; and (c)
      hiring the necessary technical procurement personnel to support complex
      procurement activities.    We have hired two
      experienced technical procurement managers and expect to increase the
      headcount in the purchase department in the future if
      necessary.





6.
            We strengthened the period-end
      closing procedures of our operating subsidiaries by (a) requiring all
      significant estimate transactions to be reviewed by Corporate Accounting,
      (b) ensuring that account reconciliations and analyses for significant
      financial statement accounts are reviewed for completeness and accuracy by
      qualified accounting personnel, (c) implementing a process that ensures
      the timely review and approval of complex accounting estimates by
      qualified accounting personnel and subject matter experts, where
      appropriate, and (d) developing better monitoring controls at Corporate
      Accounting and the operating
units.





We
believe that we are taking the steps necessary for remediation of the material
weaknesses identified above, and we will continue to monitor the effectiveness
of these steps and to make any changes that our management deems
appropriate.





Changes
in internal control over financial reporting




Based on
the evaluation of our management as required by paragraph (d) of Rule 13a-15 of
the Exchange Act, we believe that there were no changes in our internal control
over financial reporting that occurred during the first quarter of 2009 that
have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting, other than as described above under
“Remediation of Material Weaknesses.”


29




PART
II-OTHER INFORMATION





ITEM
1.          LEGAL PROCEEDINGS





See Note
11(b) of the
accompanying unaudited interim consolidated financial statements included in
this Form 10-Q for a discussion of our current legal proceedings.





ITEM
1A.       RISK FACTORS





Any
investment in our common stock involves a high degree of risk. Investors should
carefully consider the risks described below and all of the information
contained in our public filings before deciding whether to purchase our common
stock. Except as set forth below, there have been no material revisions to the
“Risk Factors” as filed in our Annual Report on Form 10-K as of and for the
year ended December 31, 2008.





ITEM
2. UNREGISTERED SALES OF EQUITY
SECURITIES AND USE OF PROCEEDS





Not
applicable.





ITEM
3.          DEFAULTS UPON SENIOR
SECURITIES





Not
applicable.





ITEM
4.          SUBMISSION OF MATTERS TO A VOTE OF
SECURITY HOLDERS





Not
applicable.





ITEM
5. OTHER INFORMATION





Not
applicable.





ITEM
6.EXHIBITS





31.1
            Certification
      of Chief Executive Officer pursuant to Section 302(a) of the
      Sarbanes-Oxley Act of 200231.2
            Certification
      of Chief Financial Officer pursuant to Section 302(a) of the
      Sarbanes-Oxley Act of 2002.32.1
            Certification
      of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley
      Act of 2002.*





* This
exhibit shall not be deemed “filed” for purposes of Section 18 of the Securities
Exchange Act of 1934 or otherwise subject to the liabilities of that section,
nor shall it be deemed incorporated by reference in any filing under the
Securities Act of 1933 or the Securities Exchange Act of 1934, whether made
before or after the date hereof and irrespective of any general incorporation
language in any filings.


30





SIGNATURES





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





CHINA
      ARCHITECTURAL ENGINEERING, INC.
                (Registrant)May
      14, 2009
              By:
              /s/ Luo Ken YiLuo
      Ken YiChief
      Executive Officer and Chairman of the
Board


31