UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C. 20549





FORM
10-Q





x QUARTERLY REPORT
PURSUANT TO SECTION 13 OR 15(d) OF


THE
SECURITIES EXCHANGE ACT OF 1934





For
the quarterly period ended June 30, 2010





OR





o TRANSITION 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 ̈





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  ̈      No  ̈





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   ̈
              Non-accelerated
      filer  x
              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  ̈   
No x





There
were 55,156,874 shares outstanding of registrant’s common stock, par value
$0.001 per share, as of August 11, 2010 (excluding the 25,000,000 shares of
common stock that the Registrant will issue to First Jet upon the closing of the
pending acquisition of 60% of New Crown Technology Limited, the 100% equity
holder of Shanghai ConnGame Network Ltd.).







CHINA
ARCHITECTURAL ENGINEERING, INC.


FORM
10-Q QUARTERLY REPORT





TABLE
OF CONTENTS





PagePART
      I - FINANCIAL INFORMATIONITEM
      1.
                                  FINANCIAL
      STATEMENTS
                                  1Consolidated
      Balance Sheet as of June 30, 2010 (unaudited) and December 31,
      2009
                                  2-3Unaudited
      Interim Consolidated Statements of Income for the three and six months
      ended June 30, 2010 and 2009
                                  4Unaudited
      Interim Consolidated Statements of Cash Flows for the six months ended
      June 30, 2010 and 2009
                                  5Unaudited
      Consolidated Statements of Stockholders’ Equity from January 1, 2010 to
      June 30, 2010
                                  6ITEM
      2.
                                  MANAGEMENT’S
      DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
      OPERATION
                                  24ITEM
      3.
                                  QUANTITATIVE
      AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
                                  34ITEM
      4.
                                  CONTROLS
      AND PROCEDURES
                                  34PART
      II - OTHER INFORMATIONITEM
      1.
                                  LEGAL
      PROCEEDINGS
                                  38ITEM
      1A.
                                  RISK
      FACTORS
                                  38ITEM
      2.
                                  UNREGISTERED
      SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
                                  39ITEM
      3.
                                  DEFAULTS
      UPON SENIOR SECURITIES
                                  39ITEM
      4.
                                  REMOVED
      AND RESERVED
                                  39ITEM
      5.
                                  OTHER
      INFORMATION
                                  39ITEM
      6.
                                  EXHIBITS
                                  39SIGNATURES
                                  40









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, 2009 on Form 10-K/A, as filed with the Securities and Exchange
Commission on June 2, 2010.


1


CHINA
ARCHITECTURAL ENGINEERING, INC.





CONSOLIDATED
BALANCE SHEETS


AS
OF JUNE 30, 2010 (UNAUDITED) AND DECEMBER 31, 2009


(STATED
IN US DOLLARS)





Notes
                          
                          
                          June
      30,
                            2010
                          
                          
                          December31,
                            2009(unaudited)ASSETSCurrent
      assetsCash
      and cash equivalents
                          
                          
                          
                          
                          $
                          631,444
                          
                          
                          $
                          740,125Restricted
      cash
                          
                          
                          
                          
                          
                          3,102,371
                          
                          
                          
                          3,033,819Contract
      receivables, net
                          
                          (3)
                          
                          
                          
                          86,205,606
                          
                          
                          
                          89,189,103Costs
      and earnings in excess of billings
                          
                          
                          
                          
                          
                          8,424,430
                          
                          
                          
                          8,100,580Job
      disbursements advances
                          
                          
                          
                          
                          
                          1,347,604
                          
                          
                          
                          2,696,794Other
      receivables
                          
                          (4)
                          
                          
                          
                          27,104,828
                          
                          
                          
                          30,768,067Inventories
                          
                          (5)
                          
                          
                          
                          170,076
                          
                          
                          
                          727,499Deferred
      income taxes, current
                          
                          
                          
                          
                          
                          112,603
                          
                          
                          
                          113,033Other
      current assets
                          
                          
                          
                          
                          
                          256,510
                          
                          
                          
                          297,838Total
      current assets
                          
                          
                          
                          
                          
                          127,355,472
                          
                          
                          
                          135,666,858Non-current
      assetsPlant
      and equipment, net
                          
                          (6)
                          
                          
                          
                          2,214,877
                          
                          
                          
                          2,539,457Intangible
      assets
                          
                          (7)
                          
                          
                          
                          60,998
                          
                          
                          
                          70,610Goodwill
                          
                          
                          
                          
                          
                          7,995,896
                          
                          
                          
                          7,995,896Other
      non-current asset
                          
                          
                          
                          
                          
                          377,910
                          
                          
                          
                          287,586TOTAL
      ASSETS
                          
                          
                          
                          
                          $
                          138,005,153
                          
                          
                          $
                          146,560,407LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilitiesShort-term
      bank loans
                          
                          (8)
                          
                          
                          $
                          6,969,821
                          
                          
                          $
                          9,529,880Accounts
      payable
                          
                          
                          
                          
                          
                          27,256,636
                          
                          
                          
                          26,614,484Billings
      over costs and estimated earnings
                          
                          
                          
                          
                          
                          4,613,674
                          
                          
                          
                          6,098,666Amount
      due to shareholder
                          
                          
                          
                          
                          
                          3,540,998
                          
                          
                          
                          10,080,345Other
      payables
                          
                          
                          
                          
                          
                          13,874,058
                          
                          
                          
                          9,360,314Business
      and other taxes payable
                          
                          
                          
                          
                          
                          4,670,310
                          
                          
                          
                          4,923,771Customers’
      deposits
                          
                          
                          
                          
                          
                          5,939,674
                          
                          
                          
                          6,392,676Other
      Accrual
                          
                          
                          
                          
                          
                          4,756,148
                          
                          
                          
                          4,324,011Total
      current liabilities
                          
                          
                          
                          
                          
                          71,621,319
                          
                          
                          
                          77,324,147




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


2





CHINA
ARCHITECTURAL ENGINEERING, INC.





CONSOLIDATED
BALANCE SHEETS (Continued)


AS
OF JUNE 30, 2010 (UNAUDITED) AND DECEMBER 31, 2009


(STATED
IN US DOLLARS)





June
      30,
      2010
                            
                            
                            December
      31,
                              2009(unaudited)Non-current
      liabilitiesLong
      term bank loans
                            
                            (8)
                            
                            
                            $
                            70,415
                            
                            
                            $
                            109,239Convertible
      bond payable, net
                            
                            (9)
                            
                            
                            
                            26,569,215
                            
                            
                            
                            24,564,161TOTAL
      LIABILITIES
                            
                            
                            
                            
                            $
                            98,260,949
                            
                            
                            $
                            101,997,547STOCKHOLDERS’
      EQUITYPreferred
      stock, $0.001 par value, 10,000,000 shares authorized, 0 shares issued and
      outstanding at June 30, 2010 and December 31, 2009; Common stock, $0.001
      par value, 100,000,000 shares authorized, 55,156,874 shares issued and
      outstanding at June 30, 2010 and 53,256,874 shares issued at and
      outstanding December 31, 2009
                            
                            
                            
                            
                            $
                            55,157
                            
                            
                            $
                            53,257Additional
      paid in capital
                            
                            
                            
                            
                            
                            28,465,904
                            
                            
                            
                            26,495,876Statutory
      reserves
                            
                            
                            
                            
                            
                            3,040,595
                            
                            
                            
                            3,040,595Accumulated
      other comprehensive income
                            
                            
                            
                            3,931,932
                            
                            
                            
                            3,868,437Retained
      earnings
                            
                            
                            
                            
                            
                            4,280,864
                            
                            
                            
                            11,131,084Total
      Company shareholders’ equity
                            
                            
                            
                            
                            
                            39,774,452
                            
                            
                            
                            44,589,249Noncontrolling
      interests
                            
                            
                            
                            
                            
                            (30,248
                            )
                            
                            
                            (26,389
                            )Total
      shareholders’ equity
                            
                            
                            
                            
                            
                            39,744,204
                            
                            
                            
                            44,562,860TOTAL
      LIABILITIES ANDSTOCKHOLDERS’
      EQUITY
                            
                            
                            
                            
                            $
                            138,005,153
                            
                            
                            $
                            146,560,407





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


3


CHINA
ARCHITECTURAL ENGINEERING, INC.





UNAUDITED
CONSOLIDATED STATEMENTS OF INCOME


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(STATED
IN US DOLLARS)





ThreeMonthsEnded
                                June30,
                              
                              
                              SixMonthsEnded
                                June30,2010
                              
                              
                              2009
                              
                              
                              2010
                              
                              
                              2009Contract
      revenues earned
                              
                              (10)
                              
                              
                              $
                              5,708,417
                              
                              
                              $
                              30,598,974
                              
                              
                              $
                              17,180,540
                              
                              
                              $
                              66,942,038Cost
      of contract revenues earned
                              
                              
                              
                              
                              
                              (6,137,792
                              )
                              
                              
                              (20,647,144
                              )
                              
                              
                              (15,281,985
                              )
                              
                              
                              (48,809,377
                              )Gross
      profit / (Loss)
                              
                              
                              
                              
                              $
                              (429,375
                              )
                              
                              $
                              9,951,830
                              
                              
                              $
                              1,898,555
                              
                              
                              $
                              18,132,661Selling,
      general and administrative expenses
                              
                              
                              
                              
                              
                              (1,845,895
                              )
                              
                              
                              (6,119,798
                              )
                              
                              
                              (6,068,575
                              )
                              
                              
                              (12,070,828
                              )Income
      / (Loss) from operations
                              
                              
                              
                              
                              $
                              (2,275,270
                              )
                              
                              $
                              3,832,032
                              
                              
                              $
                              (4,170,020
                              )
                              
                              $
                              6,061,833Interest
      income
                              
                              
                              
                              
                              
                              2,867
                              
                              
                              
                              46,259
                              
                              
                              
                              5,283
                              
                              
                              
                              49,965Interest
      expense
                              
                              
                              
                              
                              
                              (1,867,885
                              )
                              
                              
                              (1,463,851
                              )
                              
                              
                              (3,493,996
                              )
                              
                              
                              (2,775,584
                              )Other
      expense
                              
                              
                              
                              
                              
                              (8,081
                              )
                              
                              
                              -
                              
                              
                              
                              (8,930
                              )
                              
                              
                              -Other
      income
                              
                              
                              
                              
                              
                              816,414
                              
                              
                              
                              138,619
                              
                              
                              
                              823,928
                              
                              
                              
                              160,456Income
      / (Loss) before taxation on Continuing Operations
                              
                              
                              
                              
                              $
                              (3,331,955
                              )
                              
                              $
                              2,553,059
                              
                              
                              $
                              (6,843,735
                              )
                              
                              $
                              3,496,670(Income
      tax) / tax benefit
                              
                              (11)
                              
                              
                              
                              -
                              
                              
                              
                              -
                              
                              
                              
                              (9,575
                              )
                              
                              
                              -Net
      earnings/(Loss) including non-controlling interests
                              
                              
                              
                              
                              
                              (3,331,955
                              )
                              
                              
                              2,553,059
                              
                              
                              
                              (6,853,310
                              )
                              
                              
                              3,496,670(Income)
      / Loss attributable to non-controlling interests
                              
                              
                              
                              
                              
                              1,619
                              
                              
                              
                              (1,405
                              )
                              
                              
                              3,090
                              
                              
                              
                              (1,405
                              )Net
      earnings/(Loss) attributable to the Company
                              
                              
                              
                              
                              $
                              (3,330,336
                              )
                              
                              $
                              2,551,654
                              
                              
                              $
                              (6,850,220
                              )
                              
                              $
                              3,495,265Earnings/(Loss)
      per share:Basic
                              
                              
                              
                              
                              $
                              (0.06
                              )
                              
                              $
                              0.05
                              
                              
                              $
                              (0.12
                              )
                              
                              $
                              0.07Diluted
                              
                              
                              
                              
                              $
                              (0.06
                              )
                              
                              $
                              0.05
                              
                              
                              $
                              (0.12
                              )
                              
                              $
                              0.07Weighted
      average shares outstanding:Basic
                              
                              
                              
                              
                              
                              55,156,874
                              
                              
                              
                              53,256,874
                              
                              
                              
                              54,945,763
                              
                              
                              
                              53,256,874Diluted
                              
                              
                              
                              
                              
                              55,156,874
                              
                              
                              
                              53,256,874
                              
                              
                              
                              54,945,763
                              
                              
                              
                              53,256,874





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


4





CHINA ARCHITECTURAL ENGINEERING, INC.





UNAUDITED
CONSOLIDATED STATEMENTS OF CASH FLOWS


FOR
THE SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(STATED
IN US DOLLARS)





SixMonthsEndedJune30,2010
                    
                    
                    2009Cash
      flows from operating activitiesNet
      income/(loss)
                    
                    $
                    (6,850,220
                    )
                    
                    $
                    3,495,265Noncontrolling
      interest
                    
                    
                    (3,859
                    )
                    
                    
                    (25,131
                    )Depreciation
      expense
                    
                    
                    330,961
                    
                    
                    
                    464,417Bad
      debts expense
                    
                    
                    212,420
                    
                    
                    
                    -Amortization
      expense on intangible assets
                    
                    
                    9,612
                    
                    
                    
                    34,430Stock
      Compensation expenses
                    
                    
                    1,971,928
                    
                    
                    
                    -Amortization
      expense on convertible bond
                    
                    
                    2,005,054
                    
                    
                    
                    1,415,805Loss
      on disposal of fixed assets
                    
                    
                    882
                    
                    
                    
                    200,599Deferred
      income taxes
                    
                    
                    -
                    
                    
                    
                    (62,950
                    )(Increase)/decrease
      in inventories
                    
                    
                    557,423
                    
                    
                    
                    (7,354,276
                    )(Increase)/decrease
      in receivables
                    
                    
                    6,110,466
                    
                    
                    
                    (11,744,857
                    )Decrease
      in other assets
                    
                    
                    1,300,624
                    
                    
                    
                    1,194,339Increase
      in payables
                    
                    
                    3,396,578
                    
                    
                    
                    15,116,222Net
      cash provided by operating activities
                    
                    $
                    9,041,869
                    
                    
                    $
                    2,733,863Cash
      flows from investing activitiesPurchases
      of assets
                    
                    $
                    (2,250
                    )
                    
                    $
                    (122,412
                    )Purchase
      of intangible assets
                    
                    
                    -
                    
                    
                    
                    (509,492
                    )Proceeds
      from disposal of fixed assets
                    
                    
                    -
                    
                    
                    
                    342,095Decrease
      / (increase) in restricted cash
                    
                    
                    (68,552
                    )
                    
                    
                    1,317,298Net
      cash provided by/(used in) investing activities
                    
                    $
                    (70,802
                    )
                    
                    $
                    1,027,489Cash
      flows from financing activitiesRepayment
      of short-term loans
                    
                    $
                    (2,560,059
                    )
                    
                    $
                    (5,280,665
                    )Repayment
      of long-term loans
                    
                    
                    (38,824
                    )
                    
                    
                    (182,752
                    )Repayment
      of shareholder loans
                    
                    
                    (6,539,347
                    )
                    
                    
                    (924,687
                    )Net
      cash used in financing activities
                    
                    $
                    (9,138,230
                    )
                    
                    $
                    (6,388,104
                    )Net
      decrease in cash and cash equivalents
                    
                    $
                    (167,163
                    )
                    
                    $
                    (2,626,752
                    )Effect
      of foreign currency translation on cash and cash
    equivalents
                    
                    
                    58,482
                    
                    
                    
                    152,885Cash
      and cash equivalents - beginning of period
                    
                    
                    740,125
                    
                    
                    
                    9,516,202Cash
      and cash equivalents - end of period
                    
                    $
                    631,444
                    
                    
                    $
                    7,042,335Other
      supplementary information:Cash
      paid during the period for:Interest
      paid
                    
                    $
                    1,410,359
                    
                    
                    $
                    255,812Income
      tax paid
                    
                    $
                    9,575
                    
                    
                    $
                    21,151





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, 2010 TO JUNE 30, 2010


(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, 2010
                      
                      
                      53,256,874
                      
                      
                      $
                      53,257
                      
                      
                      $
                      26,495,876
                      
                      
                      $
                      3,040,595
                      
                      
                      $
                      3,868,437
                      
                      
                      $
                      11,131,084
                      
                      
                      $
                      (26,389
                      )
                      
                      $
                      44,562,860Net
      Loss including non-controlling interests
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (6,850,220
                      )
                      
                      
                      (3,090
                      )
                      
                      
                      (6,845,846
                      )Additional
      paid-in capital from grant of stock option to employee
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      14,928
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      7,464Value
      of stock grants to employees
                      
                      
                      1,900,000
                      
                      
                      
                      1,900
                      
                      
                      
                      1,955,100
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      1,957,000Foreign
      currency translation adjustment
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      63,495
                      
                      
                      
                      
                      
                      
                      
                      (769
                      )
                      
                      
                      62,726Total
      comprehensive income
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      
                      (4,818,656
                      )Balance,
      June 30, 2010
                      
                      
                      55,156,874
                      
                      
                      $
                      55,157
                      
                      
                      $
                      28,465,904
                      
                      
                      $
                      3,040,595
                      
                      
                      $
                      3,931,932
                      
                      
                      $
                      4,280,864
                      
                      
                      $
                      (30,248
                      )
                      
                      $
                      39,744,204





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- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(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 13
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 noncontrolling
interests.





The
Company owned the subsidiaries through its reverse-merger on October 17, 2006
and through direct investments or acquisitions after October 17, 2006. One of
the subsidiaries, Techwell International (SEA) Pte. Ltd., ceased to be a
subsidiary as being struck off in January 2010, and such entity did not have any
transactions during 2010 before such date. As of June 30, 2010, detailed
identities of the consolidating subsidiaries are as follows:





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
                    
                    100CAE
      Building Systems (Singapore) Pte Ltd
                    
                    Singapore
                    
                    100


7




CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





(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.





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 ASC 350, “Goodwill and Other Intangible Assets.” the Company
does not amortize goodwill or intangible assets with indefinite
lives.





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.





The
Company performs an analysis on its goodwill balances to test for impairment on
an annual basis and whenever events occur that indicate an impairment could
exist. The amount of its goodwill is fully attributable to a subsidiary,
Techwell Engineering Limited. There are several instances that may cause the
Company to further test its goodwill for impairment between the annual testing
periods including:  (i) continued deterioration of market and economic
conditions that may adversely impact its ability to meet its projected results;
(ii) declines in the Company’s stock price caused by continued volatility in the
financial markets that may result in increases in its weighted-average cost of
capital or other inputs to its goodwill assessment; (iii) the occurrence of
events that may reduce the fair value of a reporting unit below its carrying
amount, such as the sale of a significant portion of one or more of the
Company’s reporting units. In the six month periods ended June 30, 2010, no
instance indicates that an impairment could exist.


8


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)


Material
assumptions include:  (1) The reporting unit continues to have the
profitable operations for a period of next 10 years; (2) the revenue has the
steady annual growth rate ranging from 5% to 8% as in line with the estimated
growth rate of PRC economy; (3) costs of funds kept stable for the period of
next 10 years resulting in a stable discount rate for the projection of
estimated fair value; and (4) no material change in the prevailing payment terms
of the construction industry that allowing the working capital requirement kept
at a low level at 15%.  Uncertainties include: (1)  The
ability of the reporting unit to continue as a  profitable operation
may be affected by changes in technologies and the market of the construction
industry; (2) the growth of the PRC economy may not be as steady as projected
that in turn affect the steady growth of the revenue of the reporting unit, (3)
it is also uncertain about the capital market that affect the costs of fund of
the company; and (4) the prevailing payment terms used in the construction
industry may be changed as a result of changes in the business environment for
the construction industry. Potential events include (1) the appreciation of the
value of RMB that would slow down the export and in turn the economic
development of China that in turn have negative effect of property development
industry in China; and (2) the controlling policies towards the property market
by the PRC government.





For other
intangible assets, impairment tests are performed annually and more frequently
whenever events or changes in circumstances indicate carrying values exceed
estimated reporting unit fair values.





(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.





(k)
              Earnings
      per share





The
Company computes earnings per share (“EPS’) in accordance with ASC 260,
“Earnings per Share”. ASC 260 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 three
and six months periods ended June 30, 2010 and 2009 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.





9


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)




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


Three Months Ended June 30,
                    
                    
                    Six Months Ended
                        June 30,2010
                    
                    
                    2009
                    
                    
                    2010
                    
                    
                    2009Net
      earnings/(Loss) attributable to the Company
                    
                    $
                    (3,330,336
                    )
                    
                    $
                    2,551,654
                    
                    
                    $
                    (6,850,220
                    )
                    
                    $
                    3,495,265Add:
      Interest expenses less income taxes
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Adjusted
      income
                    
                    
                    (3,330,336
                    )
                    
                    
                    2,551,654
                    
                    
                    
                    (6,850,220
                    )
                    
                    
                    3,495,265Basic
      Weighted Average Shares Outstanding
                    
                    
                    55,156,874
                    
                    
                    
                    53,256,874
                    
                    
                    
                    54,945,763
                    
                    
                    
                    53,256,874Dilutive
      Shares:-    Addition
      to Common Stock from
                      Conversion of Bonds
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    --    Addition
      to Common Stock from
                      Exercise of Warrants
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Diluted
      Weighted Average Outstanding Shares:
                    
                    
                    55,156,874
                    
                    
                    
                    53,256,874
                    
                    
                    
                    54,945,763
                    
                    
                    
                    53,256,874Earnings
      Per Share-    
      Basic
                    
                    $
                    (0.06
                    )
                    
                    $
                    0.05
                    
                    
                    $
                    (0.12
                    )
                    
                    $
                    0.07-    
      Diluted
                    
                    $
                    (0.06
                    )
                    
                    $
                    0.05
                    
                    
                    $
                    (0.12
                    )
                    
                    $
                    0.07





(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.





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.





Selling,
general, and administrative costs are charged to expense as
incurred.





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.


10




CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





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 implementedASC 740-270, Accounting for Income
Taxes.





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.





In
respect of the Company’s subsidiaries domiciled and operated in China and Hong
Kong, 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 to 25% by 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 the 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 the 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% that will be gradually increased to the
      uniform rate of 25% by 2012 as according to the new EIT
    law.





·
              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 earnings for the year ended
December 31, 2009, the Company shall be taxed at the 34% tax
rate.





Techwell
Engineering Limited has established a branch in Dubai, which has zero corporate
income tax rate except on oil companies and bank.


11


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





Subsidiaries
in Singapore are subject a effective corporate income tax rate of 8.5% on
taxable income amount in excess of Singapore dollar $100,000.





(n)
            Advertising





The
Company expensed all advertising costs as incurred. Advertising expenses
included in selling expenses were $nil and $59 for the three-month periods ended
and $nil and $11,032 for the six-month periods ended June 30, 2010 and 2009,
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 $nil and
$nil for the three-month periods ended and $5,748 and $2,926 for the six-month
periods ended June 30, 2010 and 2009, 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 June 30, 2010 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.





June30,
                      2010
                    
                    
                    December31,
                      2009
                    
                    
                    June30,
                      2009Period
      end RMB : US$ exchange rate
                    
                    
                    6.8086
                    
                    
                    
                    6.8372
                    
                    
                    
                    6.8309Average
      quarterly RMB : US$ exchange rate
                    
                    
                    6.8335
                    
                    
                    
                    6.8331
                    
                    
                    
                    6.8296





June 30,
                        2010
                      
                      
                      December 31,
                        2009
                      
                      
                      June 30,
                        2009Period
      end HKD : US$ exchange rate
                      
                      
                      7.7847
                      
                      
                      
                      7.7551
                      
                      
                      
                      7.7501Average
      quarterly HKD : US$ exchange rate
                      
                      
                      7.7794
                      
                      
                      
                      7.7518
                      
                      
                      
                      7.7508




June30,
                      2010
                    
                    
                    December31,
                      2009
                    
                    
                    June30,
                      2009Period
      end AED : US$ exchange rate
                    
                    
                    3.6737
                    
                    
                    
                    3.6738
                    
                    
                    
                    3.6700Average
      quarterly AED : US$ exchange rate
                    
                    
                    3.6737
                    
                    
                    
                    3.6710
                    
                    
                    
                    3.6700





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.


12


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(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 June
2009, FASB issued FASB Statement No. 166,Accounting for Transfers for
Financial Assets (FASB ASC 860Transfers and Servicing )
and FASB Statement No. 167 (FASB ASC 810Consolidation ),
a revision to FASB Interpretation No. 46 (Revised December 2003),Consolidation of
Variable Interest Entities  (FASB ASC 810Consolidation ).





Statement
166 is a revision to FASB Statement No. 140,Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities  (FASB ASC
860Transfers and
Servicing ),  and will require more information about transfers of
financial assets, including securitization transactions, and where entities have
continuing exposure to the risks related to transferred financial assets. It
eliminates the concept of a “qualifying special-purpose entity,” changes the
requirements for derecognizing financial assets, and requires additional
disclosures. Statement No. 166 (FASB ASC 860Transfers and
Servicing ) must be applied as of the beginning of each reporting
entity’s first annual reporting period that begins after November 15, 2009, for
interim periods within that first annual reporting period and for interim and
annual reporting periods thereafter. Earlier application is prohibited. This
Statement must be applied to transfers occurring on or after the effective date.
 The Company is still evaluating the impact of the above
pronouncement.





Statement
167 is a revision to FASB Interpretation No. 46 (Revised December 2003),Consolidation ofVariable Interest
Entities (FASB ASC 810Consolidation), and changes how a
reporting entity determines when an entity that is insufficiently capitalized or
is not controlled through voting (or similar rights) should be consolidated. The
determination of whether a reporting entity is required to consolidate another
entity is based on, among other things, the other entity’s purpose and design
and the reporting entity’s ability to direct the activities of the other entity
that most significantly impact the other entity’s economic
performance. Statement No. 167 (FASB ASC 810Consolidation ) shall be
effective as of the beginning of each reporting entity’s first annual reporting
period that begins after November 15, 2009, for interim periods within that
first annual reporting period, and for interim and annual reporting periods
thereafter.  Earlier application is prohibited. The Company is still
evaluating the impact of the above pronouncement.





(u)
              Stock-based
      compensation





Stock
compensation accounting guidance (FASB ASC 718, “Compensation-Stock
Compensation”) requires that the compensation cost related to share-based
payment transactions be recognized in financial statements. That cost will be
measured based on the grant date fair value of the equity or liability
instruments issued. The stock compensation accounting guidance covers a wide
range of share-based compensation arrangements including stock options,
restricted share plans, performance-based awards, share appreciation rights and
employee share purchase plans.





Stock
compensation accounting guidance requires that compensation cost for all stock
awards be calculated and recognized over the employees’ service period,
generally defined as the vesting period. For awards with graded-vesting,
compensation cost is recognized on a straight-line basis over the requisite
service period for the entire award. A Black-Scholes model is used to estimate
the fair value of stock options while the market price of the Corporation’s
common stock at the date of grant is used for restricted stock
awards.


13


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





On
October 5, 2009, the Company granted options to purchase a total of 100,000
shares of its common stock to an executive officer. The stock options vest at
the rate of 10,000 shares per month, with the first vesting of 10,000 options
occurring on November 27, 2009 and with the last vesting of 10,000 options
ending upon the total vested being 100,000. The Company uses the Black-Scholes
option-pricing model to value stock option awards and expensed the stock-based
compensation based on the vesting periods. The fair value of these options was
calculated using the following assumptions: (1) risk-free interest rates of 4%,
(2) an expected life of 1 to 5 years, (3) expected volatility of 41%, (4)
expected forfeitures of 0%, and (5) a dividend yield of 0%. Based on the
foregoing, the value of the options is a total of $24,878.  For
the three and six-months ended June 30, 2010, $7,464 and $14,928 were
respectively expensed relating to the grant of these options.





On
January 18, 2010, the Board of Directors of the Company approved the issuance of
a total of 1.9 million shares of restricted stock (the “Restricted Stock
Grants”) to certain of its officers, directors, and key employees under the
China Architectural Engineering, Inc. 2009 Omnibus Incentive Plan (the “Plan”),
which was previously approved by our stockholders at the 2009 Annual
Meeting of Stockholders. As approved, the Restricted Stock Grants were subject
to and contingent upon the Company’s filing of a registration statement on Form
S-8 with the Securities and Exchange Commission, which occurred on January 21,
2010. As granted, the Restricted Stock Grants were set to vest such that 1⁄4 would
vest on March 31, 2010, 1⁄4 would vest on June 30, 2010, 1⁄4 would vest on September
30, 2010, and the remaining 1⁄4 would vest on December 31, 2010, except for the
Restricted Stock Grant for 200,000 shares of common stock that was made to a
senior officer, which vested 100% upon the date of grant. The vesting of the
grants was subject to the terms and conditions of the Plan and the Restricted
Stock Agreement entered into by and between the recipients and the Company. In
the first quarter of 2010, the Board of Directors of the Company accelerated
vesting of the restricted stock awards such that all of the Restricted Stock
Grants became fully vested immediately on March 9, 2010. The market price
of the Company’s share closed on that date at $1.03. The transaction was
recognized in accordance with the FASB ASC 718, Compensation-Stock Compensation,
and the value of the grants is a total of $1,957,000, in the form of stock
compensation expense in the first quarter of 2010.




3.
            CONTRACT
      RECEIVABLES





June30,2010
                
                
                December31,
                  2009Contract
      receivables
                
                $
                89,282,786
                
                
                $
                95,831,489Less: Allowance for
      doubtful accounts
                
                
                (3,077,180
                )
                
                
                (6,642,386
                )Net
                
                $
                86,205,606
                
                
                $
                89,189,103





Allowance for Doubtful Accounts
                                      
                                      June30,2010
                                      
                                      
                                      December31,
                                        2009Beginning
      balance
                                      
                                      $
                                      6,642,386
                                      
                                      
                                      $
                                      5,215,701Add:
      Allowance created
                                      
                                      
                                      212,420
                                      
                                      
                                      
                                      1,426,685Less:
      Written off of receivables
                                      
                                      
                                      (3,777,626
                                      )
                                      
                                      
                                      -Ending
      balance
                                      
                                      $
                                      3,077,180
                                      
                                      
                                      $
                                      6,642,386


14




CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





4.
              OTHER
      RECEIVABLES





Other
receivables consisted of the following:





June30,
                2010
              
              
              December31,
                2009Due
      from sellers of Techwell, the subsidiary (1)
              
              $
              11,008,219
              
              
              $
              11,333,253Due
      from Kangbao Electrical Company Limited (Kangbao) , a related
      party  (2)
              
              
              2,481,585
              
              
              
              6,054,905Drawdown
      of advance payment and performance bonds by client of the projects in
      Dubai (3)
              
              
              9,378,601
              
              
              
              9,414,397Other
      related parties receivables
              
              
              -
              
              
              
              253,638Deposits
      for site operations of projects in PRC
              
              
              2,990,723
              
              
              
              2,903,171Other
              
              
              1,245,700
              
              
              
              808,703Total
              
              $
              27,104,828
              
              
              $
              30,768,067





(1)
              On
      November 6, 2007, the Company, through Full Art International, Ltd. (“Full
      Art”), acquired all of the issued and outstanding shares in the capital of
      Techwell Engineering Limited, a limited liability company incorporated in
      Hong Kong (“Techwell”) pursuant to a Stock Purchase Agreement (the
      “Agreement”) dated November 6, 2007, entered into by and among Ng Chi Sum
      and Yam Mei Ling (each a “Shareholder” and collectively, the
      “Shareholders”), the Company and Full Art.  Pursuant to the
      terms and conditions of the Agreement, the Shareholders agreed that each
      of them would pay any and all accounts receivables of Techwell if not paid
      by the customers within 24 months of the acquisition date.  The
      24 month period has expired and a total of $9,909,130 is due and payable
      from the Shareholders. The amount is included in the other receivable due
      from sellers of Techwell.





(2)
              The
      amount mainly represents the purchases advances to Kangbao Electrical
      Company Limited (Kangbao) for the supplies of materials for the projects
      of the Company.





(3)
              The
      Company believes that the client of the Dubai projects did not have proper
      grounds for the drawdown of the advance payment and performance bonds
      which the company issued for the projects. The Company also believes that
      the client should not be entitled to the drawdown and is now proceeding to
      claim back the amount.





5.
            INVENTORIES





June30,2010
                        
                        
                        December31,
                          2009Raw
      materials at sites
                        
                        
                        170,076
                        
                        
                        
                        727,499Finished
      goods
                        
                        
                        -
                        
                        
                        
                        -$
                        170,076
                        
                        
                        $
                        727,499




15


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





6.
            PLANT
      AND EQUIPMENT





Plant and
equipment consist of the following as of:





June30,2010
                                    
                                    
                                    December31,2009At
      costMotor vehicle
                                    
                                    $
                                    1,243,500
                                    
                                    
                                    $
                                    1,242,928Machinery and equipment
                                    
                                    
                                    2,392,201
                                    
                                    
                                    
                                    2,381,755Furniture, software and officeequipment
                                    
                                    
                                    1,797,072
                                    
                                    
                                    
                                    1,795,595Building
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Leasehold improvement
                                    
                                    
                                    266,738
                                    
                                    
                                    
                                    267,038$
                                    5,699,511
                                    
                                    
                                    $
                                    5,687,316Less:
      Accumulated depreciationMotor vehicle
                                    
                                    $
                                    909,800
                                    
                                    
                                    $
                                    825,536Machinery and equipment
                                    
                                    
                                    1,515,451
                                    
                                    
                                    
                                    1,420,536Furniture, software and officeequipment
                                    
                                    
                                    937,576
                                    
                                    
                                    
                                    804,516Building
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Leasehold improvement
                                    
                                    
                                    121,807
                                    
                                    
                                    
                                    97,271$
                                    3,484,634
                                    
                                    
                                    $
                                    3,147,859$
                                    2,214,877
                                    
                                    
                                    $
                                    2,539,457





Depreciation
expenses included in the selling and administrative expenses for six months
periods ended June 30, 2010 and 2009 were $330,961 and $464,417,
respectively.





7.
            INTANGIBLE
      ASSETS





June30,2010
                                      
                                      
                                      December31,2009At
      costIntangible
      Assets
                                      
                                      $
                                      98,673
                                      
                                      
                                      $
                                      98,673Less:
      Accumulated amortization
                                      
                                      
                                      37,675
                                      
                                      
                                      
                                      28,063$
                                      60,998
                                      
                                      
                                      $
                                      70,610




16


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





8.
            LOANS





A.
            SHORT-TERM
      BANK LOANS





June 30, 2010
                
                
                December 31, 2009The
      Royal Bank of Scotland N.V., (formerly ABN Amro N.V.) Overdraft in Current
      Account at interest rate at 6.5% per annum
                
                $
                2,363,787
                
                
                $
                4,906,266The
      Royal Bank of Scotland N.V., (formerly ABN Amro N.V.) Temporary Loan for
      the drawing of performance and advance payment bonds at interest rate at
      Bank's Cost of Fund + 6%
                
                
                4,529,217
                
                
                
                4,546,504Automobile
      capital lease obligation (hire purchase),amount due within one year, last
      installment due November 9, 2012
                
                
                76,817
                
                
                
                77,110$
                6,969,821
                
                
                $
                9,529,880





B.
            LONG-TERM
      BANK LOANS




June 30,
                        2010
                      
                      
                      December 31,
                        2009Automobile
      capital lease obligation (hire purchase),amount due after one year, last
      installment due November 9, 2012
                      
                      
                      70,415
                      
                      
                      
                      109,239$
                      70,415
                      
                      
                      $
                      109,239




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





9.
            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 The Royal Bank of Scotland N.V.,
(formerly 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.


17




CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





Effective from April 12, 2009, the
conversion price has been reset to $2.45, which is 70% of $3.50 as the average
closing price of the Company’s shares for the period of 20 consecutive trading
days immediately prior to April 12, 2009 was $0.94.  The reset of the
conversion price resulted in additional $3.4 million of bonds discount and is
being amortized over the remaining outstanding periods of the
bonds.





On November 8, 2008, the Subscriber
exercised all the 800,000 warrants into 800,000 shares at the exercise price 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 the Subscriber, CITIC Allco Investments
Limited (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:


June 30,
                        2010
                      
                      
                      December
                        31, 2009Convertible
      Bonds Payable
                      
                      $
                      28,000,000
                      
                      
                      $
                      28,000,000Less:
      Interest discount – Warrants
                      
                      
                      (3,305,938
                      )
                      
                      
                      (3,305,938
                      )Less:
      Interest discount – Beneficial conversion feature
                      
                      
                      (1,882,404
                      )
                      
                      
                      (1,882,404
                      )Less:
      Bond discount
                      
                      
                      (760,069
                      )
                      
                      
                      (760,069
                      )Accretion
      of interest discount
                      
                      
                      4,517,626
                      
                      
                      
                      2,512,572Net
                      
                      $
                      26,569,215
                      
                      
                      $
                      24,564,161





10.
            CONTRACT
      REVENUES EARNED





The
contract revenues earned for the six-month periods ended June 30, 2010 and 2009
consist of the following:





Three Months Ended
                        June 30,
                    
                    
                    Six Months Ended
                        June 30,2010
                    
                    
                    2009
                    
                    
                    2010
                    
                    
                    2009Billed
                    
                    $
                    5,587,098
                    
                    
                    $
                    15,123,255
                    
                    
                    $
                    16,412,962
                    
                    
                    $
                    43,402,627Unbilled
                    
                    
                    121,319
                    
                    
                    
                    15,475,719
                    
                    
                    
                    767,578
                    
                    
                    
                    23,539,411$
                    5,708,417
                    
                    
                    $
                    30,598,974
                    
                    
                    $
                    17,180,540
                    
                    
                    $
                    66,942,038




18


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





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.





11.
            INCOME
      TAXES





On
October 17, 2006, income from the Company’s foreign subsidiaries became subject
to U.S. income tax liability; however, this tax is deferred until foreign source
income is repatriated to the Company, which has not yet
occurred.


The
Company has also retained an U.S. tax-preparer firm to aide in preparation of
its U.S. income tax returns in order to maintain a high level of compliance with
U.S. tax laws.





Effective
January 1, 2008, the PRC income tax rules were changed.  The PRC
government implemented a new 25% tax rate for all enterprises whether domestic
or foreign enterprise, and abolished the tax holiday.





Income
before taxes and the provision for taxes for the periods ended June 30, 2010 and
2009 consists of the following:





June 30,2010
                
                
                2009Continuing
      income/(Loss) before taxes:U.S.
                
                $
                (6,394,768
                )
                
                $
                (4,161,977
                )Singapore
                
                
                (7,977
                )
                
                
                611,372China
                
                
                (3,618,930
                )
                
                
                (1,990,678
                )Australia
                
                
                (6,548
                )
                
                
                (8,063
                )Hong
      Kong
                
                
                3,123,889
                
                
                
                (1,295,647
                )Dubai
                
                
                62,877
                
                
                
                10,382,000Macau
                
                
                (2,278
                )
                
                
                (40,337
                )Total
      continuing income before taxes
                
                
                (6,843,735
                )
                
                
                3,496,670Provision
      for taxes expense/(benefit):Current:U.S.
      Federal
                
                
                -
                
                
                
                -U.S.
      State
                
                
                9,575
                
                
                
                -9,575
                
                
                
                -Deferred:U.S.
      Federal
                
                
                9,575
                
                
                
                -Hong
      Kong
                
                
                -
                
                
                
                -Currency
      Effect
                
                
                -
                
                
                
                -Total
      provision for taxes
                
                
                9,575
                
                
                
                -Effective
      tax rate
                
                
                -0.14
                %
                
                
                0.00
                %





Deferred
income taxes reflect the net tax effects of temporary differences between the
carrying amount of assets and liabilities for financial reporting purposes and
the amounts for income tax purposes. Significant components of our deferred tax
assets and liabilities at June 30, 2010 and December 31, 2009 are as
follows:


19


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





June 30, 2010
                                      
                                      
                                      December 31, 2009Deferred
      tax assetsNet
      operating loss
                                      
                                      $
                                      112,603
                                      
                                      
                                      $
                                      113,033112,603
                                      
                                      
                                      
                                      113,033Valuation
      allowance
                                      
                                      -_
                                      
                                      
                                      
                                      -Total
      deferred tax assets
                                      
                                      
                                      112,603
                                      
                                      
                                      
                                      113,033Deferred
      tax liabilitiesTotal
      deferred tax liabilities
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -Net
      deferred tax assets
                                      
                                      
                                      112,603
                                      
                                      
                                      
                                      113,033Reported
      as:Current
      deferred tax assets
                                      
                                      
                                      112,603
                                      
                                      
                                      
                                      113,033Non-current
      deferred tax assets
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -Non-current
      deferred tax liabilities
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -Net
      deferred taxes
                                      
                                      $
                                      112,603
                                      
                                      
                                      $
                                      113,033





Current
deferred tax assets represents net operating loss of a subsidiary Techwell
Engineering Limited in Hong Kong. The losses can be carried forward to set-off
future assessable profits in Hong Kong without expiry date. The differences
between the U.S. federal statutory income tax rates and the Company’s effective
tax rate for the periods ended June 30, 2010 and 2009 is shown in the following
table:





2010
                  
                  
                  2009U.S.
      federal statutory income tax rate
                  
                  
                  35.00
                  %
                  
                  
                  35.00
                  %Lower
      rates in PRC, net
                  
                  
                  -10.00
                  %
                  
                  
                  -10.00
                  %Accruals
      in foreign jurisdictions
                  
                  
                  -0.14
                  %
                  
                  
                  -0.00
                  %Tax
      Holiday
                  
                  
                  -25.00
                  %
                  
                  
                  -25.00
                  %-0.14
                  %
                  
                  
                  0.00
                  %





The
following table accounts for the differences between the actual tax provision
and the amounts obtained by applying the relevant applicable corporation income
tax (see tax rates discussed above) before tax for the periods ended June 30,
2010 and 2009:-





2010
                  
                  
                  2009Income/(loss)
      before tax
                  
                  
                  (6,843,735
                  )
                  
                  
                  3,496,670Taxes
      at the applicable income tax rates
                  
                  
                  9,558
                  
                  
                  
                  -Miscellaneous
      non taxable income and non-deductible expenses
                  
                  
                  17
                  
                  
                  
                  -Current
      income tax expense
                  
                  $
                  9,575
                  
                  
                  $
                  -


20


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





Effective
January 1, 2008, the PRC government implemented a new 25% tax rate across the
board for all enterprises regardless of whether domestic or foreign enterprise
without any tax preferences which is defined as “two-year exemption followed by
three-year half exemption” enjoyed by tax payers. As a result of the tax law, a
standard 15% tax preference terminated as of December 31, 2007. The PRC
government has established a set of transition rules to allow enterprises using
tax preferences before January 1, 2008 to continue using the tax preferences on
a transitional basis until being the new tax rates are fully implemented over a
five year period.





12.
            COMMITMENTS
      AND CONTINGENCIES





(a)
              Operating
      lease commitments





The
Company leases certain administrative and production facilities from third
parties. Rental expenses were $114,629 and $772,497 for the three-month periods
ended and $381,665 and $1,601,962 for the six-month periods ended June 30, 2010
and 2009, respectively.


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





For
      the 12 months ending June 30,2011
                  
                  
                  423,2642012
                  
                  
                  -2013
                  
                  
                  -2014
      or after
                  
                  
                  -$
                  423,264





(b)
              Pending
      Litigation





Techwell
litigation





Pursuant
to a Stock Purchase Agreement dated November 7, 2007, the previous shareholders
of Techwell Engineering 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. Ng and 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.  The lawsuit filed by Mr. Ng and Miss Yam requests the court
for specific performance of the settlement agreement that was allegedly entered
into, which would require the return of the Techwell company to Mr. Ng and Miss
Yam, and in the absence of such grant of relief, Mr. Ng and Miss Yam request
unspecified damages lieu of return of the Techwell company.





On
January 23, 2009 an ex-parte injunction order was granted to Mr. Ng, restraining
the Company from implementing 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.


21


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)





The
Company intends to vigorously defend this pending lawsuit; however, no assurance
can be given that the 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. In the last quarter of 2009, Mr.
Ng made a settlement proposal to the Company for consideration and the Company
is negotiating the settlement agreement with Mr. Ng as of June 30,
2010.





Dubai
Metro Rail Project Dispute





On
September 9, 2009, the Red Line, or first phase, of the Dubai Metro was
officially opened. The Company, through its subsidiary, had been working towards
completion of its external envelopes for stations along the Red Line of the
Dubai Metro System.  According to the Company’s original construction
blueprint, the majority of its construction work was completed at the end of
June 2009, and final construction milestones were scheduled for completion in
the third quarter of 2009.  With less than 5% of its contract
remaining to be completed, Techwell was removed by the master contractor of the
project, which also called for and received payment of $2.1 million in
performance bonds and $7.3 million in advance payment bonds that were issued on
Techwell's behalf for the project. The calling of the advance payment bonds was
based on the master contractor's belief that it had paid in excess of the
construction work performed.  The Company and certain of its
subsidiaries are guarantor of the bonds that were paid by the banks, and the
Company is liable under the guarantee agreements for such amounts paid by the
banks.  The Company does not believe that the master contractor had a
proper basis for calling the bonds and intend to vigorously defend all of its
legal rights and remedies related to the dispute.  The Company has
engaged a construction claims consultant to facilitate resolution of the
dispute.  The Company and its construction claims consultant, based on
a review of the facts, documents, and materials available, believes that it has
a reasonable opportunity to collect the amounts due to Techwell from the master
contractor, less appropriate credits as its final amount due for work performed
through September 2009.  The Company, with the assistance of its
claims consultant, will continue to evaluate the dispute and probability of
success on this dispute going forward and make the appropriate adjustments;
however, no assurance can be given that the dispute will be resolved in the
Company’s and Techwell’s favor. The Company’s counsel in Dubai is preparing the
legal documents for the claims as of June 30, 2010.





13.
            RELATED
      PARTY TRANSACTIONS





The
account balance with shareholders at June 30, 2010 was payables of $ 3,540,998,
while at December 31, 2009 it was $10,080,345. The payables balance was mainly
loans from the largest shareholder, with such loans being interest-free,
fee-free and has no fixed repayment schedule.





During
the six months period ended June 30, 2010, the Company purchased construction
materials amounting to $0.3 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 June 30, 2010, the Company’s advance to Canbo was $2.5 million,
as shown under the other receivables balance.





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


22


CHINA
ARCHITECTURAL ENGINEERING, INC.


NOTES
TO UNAUDITED INTERIM CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE THREE- AND SIX-MONTH PERIODS ENDED JUNE 30, 2010 AND 2009


(Stated
in US Dollars)




14.
            SUBSEQUENT
      EVENTS





Waiver
of Conversion Price Adjustment on Convertible Bonds





On July
13, 2010, the Company and the holders of the Company’s outstanding Variable Rate
Convertible Bonds due 2012 (the “2007 Bonds”), 12% Convertible Bonds due 2011
(the “2008 Bonds,” and collectively with the 2007 Bonds, the “Bonds”) and
warrants to purchase 300,000 shares of common stock of the Company expiring 2013
(the “2008 Warrants”) entered a new Waiver Agreement (the “Waiver”) , which has
a three month term subject to the terms and conditions contained therein.
Pursuant to Waiver, the bondholders and warrantholder agreed to waive their
right to a reduction in the conversion price of the Bonds and exercise price of
the 2008 Warrants due to the Company’s proposed sale of the shares pursuant to
the Purchase Agreement at a price per share less than the current conversion
prices of the Bonds and exercise price of the 2008 Warrants. The holders of the
2008 Bonds also agreed that no default shall occur under Condition 12(A)(xiv) of
the trust deed governing the 2008 Bonds relating to the requirement that KGE
Group own at least 45% of the Company’s common stock due to the sale of
5,000,000 shares of the Company by KGE Group.





The
waivers contained in the Waiver Agreement are subject to numerous
conditions.  Under the Waiver Agreement, the Company agreed to pay the
Bondholders the interest on the Bonds in the amount of approximately $3.84
million on scheduled dates, of which the Company made a payment of approximately
$1.26 million on March 31, 2010 and $1.32 million on April 15, 2010. Under the
terms of the waiver, the Company agreed that the Company would pay to the
bondholders all outstanding interests in arrears on the Bonds, plus all other
applicable interest up until the payment date, within 30 days after the closing
of the issuance of the shares to acquired ConnGame, but which in any event,
would not be later than September 30, 2010.





The
Company also agreed to repay an overdraft facility in the amount of
approximately $4.91 million on three scheduled dates.  The Company
made payment of approximately one-half of this amount and agreed to pay all
unsettled amounts, which include all outstanding principal and interest amounts,
within 30 days after the closing of the issuance of the Shares, but which in any
event, would not be later than September 30, 2010.





The
Company also agreed that the Company will not repay or prepay any debt prior to
its currently scheduled due date until the Company make all of the payments
specified in the Waiver and the Bonds have been redeemed in full and that any
new indebtedness incurred by us for the purpose of repaying the overdraft
facility shall (i) not exceed the outstanding amount due and payable under the
overdraft facility and (ii) be subordinated to all amount owed under the Bonds
(the “Waiver
Covenants”).




Stock
Purchase Agreement for ConnGame
 
 On August
11, 2010, the Company entered into a stock purchase agreement (the “Agreement”)
with First Jet Investments Limited, a company organized under the laws of the
British Virgin Islands (“First Jet”), New Crown Technology Limited, First Jet’s
wholly-owned subsidiary (“New Crown”) and Mr. Jun Tang, the principal of First
Jet and New Crown. Upon the terms and subject to the conditions set forth in the
Agreement, which has been approved by the board of directors of the Company and
Mr. Jun Tang, First Jet will sell to the Company (the “Stock Sale”) 60% of the
issued and outstanding shares of New Crown, the holder of 100% of the equity
interests of Shanghai ConnGame Network Ltd. (“ConnGame”), for 25,000,000 shares
of the Company’s Common Stock, $0.001 par value per share. ConnGame is a company
organized under the laws of the People’s Republic of China with a registered
capital of RMB 10,000,000.
  Under the
Agreement, the obligation of each of First Jet and the Company to consummate the
Stock Sale is conditioned upon First Jet’s delivery of certificate of capital
and proof of transfer of equity of New Crown to the Company, regulatory
approvals, and other customary closing conditions, such as the accuracy of the
representations and warranties of the other party, and performance in all
material respects by the other party of its obligations under the
Agreement.
  First Jet
and Mr. Jun Tang have entered into various covenants in the Agreement,
including, among others, covenants that it will not, without prior written
consent of the Company, for a period of three years after the date of closing,
either solely or jointly with any other person to (i) engage in any business
which may be in competition within Hong Kong or PRC with ConnGame in the
carrying on of the business (ii) solicit or entice away from ConnGame any
employee, officer, manager or consultant (ii) deal with or approach for business
in respect of any trade or business carried on by ConnGame any person who at
closing or within two years prior to closing was a customer, supplier, client or
agent or in the habit of dealing under contract with ConnGame. First Jet and Mr.
Jun Tang further covenants to the Company that (i) it will not at any time
hereafter make use or disclose to any person other than to the officers or
employees of ConnGame any information relating to ConnGame (ii) it will not any
time hereafter in relation to any trade, business or company use a name
including the word or symbol “ConnGame” or any other trademark listed in Section
3.01(y) of the Agreement or any Chinese equivalent (iii) it will not do anything
that might prejudice the goodwill of ConnGame and (iv) it will procure that its
affiliates and their respective employees will observe the restrictions
described above. First Jet and Mr. Jun Tang have also agreed to coordinate any
and all required compliance with relevant PRC laws and regulations and to comply
with the terms and conditions of the waiver agreement entered into on July 13,
2010 between the Company and the holders of the Company’s outstanding Variable
Rate Convertible Bonds due 2012.
  The
Agreement contains representations and warranties of First Jet, including, among
others, with respect to regulatory matters, financial statements and absence of
undisclosed liabilities, litigation, material contracts, compliance with law and
possession of insurance, taxes, employee benefits, environmental matters,
intellectual property matters, real estate matters, accuracy of governmental
filings, accuracy of books and records. Warranties of the Company include
representations regarding its corporate status, corporate authority, litigation,
and the valid issuance of its common stock. The Agreement contains
indemnification obligations of each party with respect to breaches of
representations, warranties and covenants and certain other specified
matters.


23


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/A for the year ended
December 31, 2009 filed with the Securities and Exchange Commission on June 2,
2010.





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,
identification and remediation of the Company's deficiencies and weaknesses in
its internal controls over financial reporting, potential claims or litigation
that may result from the occurrence of restatements, the proposed acquisition of
ConnGame and satisfactory completion of related due diligence and closing
conditions, including but not limited to regulatory approvals; ability to
identify and secure debt, equity, and/or other financing required to continue
the operations of the Company, particularly in the event that the Company is not
able to conduct the proposed acquisition of ConnGame; required Company
payments under the waiver agreement and ability to maintain the conditions of
the bondholder extension; difficulties related to integration and management of
the combined operations; difficulties in moving into the online gaming market;
reduction or reversal of the Company's recorded revenue or profits due to
"percentage of completion" method of accounting and expenses; increasing
provisions for bad debt related to the Company's accounts receivable;
fluctuation and unpredictability of costs related to our products and
services; adverse capital and credit market conditions; fluctuation and
unpredictability of costs related to the Company's products and services;
expenses and costs associated with its convertible bonds, regulatory approval
requirements and competitive conditions; 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 2009 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 have
traditionally specialized in high-end curtain wall systems (including glass,
stone and metal curtain walls), roofing systems, steel construction systems,
eco-energy saving building conservation systems and related products, for public
works and commercial real estate projects.   We have
traditionally competed on the strength of our reputation, relationships with
government and commercial clients, and our ability to give expression to the
vision of leading architects.





The
recent trends in the global economy have had a significant adverse impact on our
results of operations and on the commercial construction industry as a whole.
The competitive environment in which we operate has become more competitive,
increasing the number of re-bid construction projects and amount of time between
bidding and award of a project, reducing selling prices, and causing competitors
to modify the scope and type of projects on which they bid.  In 2008
we increased the number of international construction projects, but in 2009 the
spread of the global recession and reduction in the nature and scope of
international construction projects has led us to primarily focus our attention
on domestic projects in China.  Dubai, Doha, Kuwait and other middle
east region have been suffered a great impact markedly under the global
financial crisis.  Our projects suffered as
well.





During
2009, we experienced a decrease in the project turnover and an increase in costs
and delays in customer payments and this trend has continued during the first
six months of 2010. As a result, our results of operations have
suffered.  However, we conducted our Dubai and Doha Projects
construction under the original schedule, and executed the design for Kuwait
project in 2009.  After the completion of “soft-open” of Dubai Metro
Rail Project in September 2009, the contractor called bonds and refused to sign
and pay for the project payments, which have resulted in a cash flow
difficulties for our company.  As described below under “Dubai Metro
Rail Project,” we dispute the contractor’s rights to call the bonds and seeking
remedies for its actions.  In addition, after a thorough review and
analysis of the feasibility and profitability of the Singapore Project, we
determined that it was in the best interests of our company to withdraw from the
project.





We do not
believe that the international economy will experience a swift recovery in the
near future and therefore its negative impact on construction industry still
exists and will exist in the near future.  As a result, we suspended
the orders of the construction of international projects, and shifted the focus
of our business to design and professional consulting services.  To
develop projects and generate revenue, we have sought to join new projects in
the position of design and project consultant and the role of material
supplier.


24


In the
past, the number and size of our international projects had been increasing, but
during 2009 our management has moved to refocus our resources to projects in the
mainland China.  During the second quarter of 2009, we decided to
terminate our work on the project in Singapore and stop the guarantee related to
the project. Our management reviewed and created updated forecasts for the
project and concluded that there will be major differences between the design
concept as originally contemplated and the final site structures. As a result,
we decided to terminate our work on the project since we did not receive
approval for our improvement proposal, and resources related to the project were
moved to projects in China.




We
believe that the Chinese market has faired much better than most of the
international markets.  With the strength of our reputation and
history of notable projects in China, we are focusing our resources and efforts
in our domestic market.   We believe that we have long-standing
relationships with leading Chinese and international architects, having
completed high profile projects in China.  During the year 2009, we
commenced certain landmark projects in China, which consisted of the Changsha
Train Station, Changsha Museum, Guangzhou Science Town, and projects in Jinan
and Inner Mongolia. These projects are expected to be completed in 2010. In
the first half of 2010, we signed the contracts for the projects of Beijing
Jiangtai Business Centre, Wuhan Xinhaigeming Museum and Liuzhou Nanning
Gymnasium and Natatorium. The total contract value of these projects are
estimated to be approximately $18.9 million. These projects are expected to be
completed in either 2010 or 2011.





Revenues
and earnings recognition on many construction contracts are measured based on
progress achieved as a percentage of the total project effort or upon the
completion of milestones or performance criteria rather than evenly or linearly
over the period of performance.  Our work is performed under
cost-plus-fee contracts and fixed-price contracts. The length of our contracts
varies but typically has a duration of approximately one to two years.
Approximately 95% of our sales are from-fixed price contracts. The remaining
sales are from cost-plus-fee contracts. Under fixed-price contracts, we receive
a fixed price. Consequently, we realize a profit on fixed-price contracts only
if we control our costs and prevent cost over-runs on the contracts.
Approximately 70% of contracts are modified after they begin, usually to
accommodate requests from clients to increase project size and scope. In cases
where fixed-price contracts are modified, the fixed price is renegotiated and
adjusted upwards accordingly. Under cost-plus-fee contracts, which may be
subject to contract ceiling amounts, we are reimbursed for allowable costs and
fees, which may be fixed or performance-based. If our costs exceed the
contract ceiling or are not allowable under the provisions of the contract or
any applicable regulations, we may not be reimbursed for all our
costs.





Proposed
Acquisition of 60% Equity Interest in ConnGame





In
December 2009, we and First Jet Investments Limited (“First Jet”) entered into a
letter of intent for the acquisition (“Letter of Intent”) that set forth the
principal terms under which we would issue up to 25,000,000 shares of our common
stock to First Jet to acquire 60% of the equity interest of Shanghai ConnGame
Network Co. Ltd. (“ConnGame”), a company formed under the laws of the People’s
Republic of China, which is a developer and publisher of MMORPG (Massively
Multiplayer Online Role Playing Game).  In January 2010, our board of
directors and stockholders approved our acquisition of a 60% equity interest in
ConnGame.  We believe our acquisition of ConnGame will enable us to
strengthen our core architectural engineering and design abilities, in addition
to enabling us to enter China's large online game market, with ConnGame’s two
to-be-released MMORPG games.  We believe that the online game industry
and its related business model will be a growing market in China.





Pursuant
to the terms of the Letter of Intent, we would issue the total 25,000,000 shares
of common stock to First Jet if an independent valuation firm determined that
the value of ConnGame was equal or greater to $50 million.  We
received an appraisal report dated January 17, 2010 from Shanghai Xinda Asset
Appraisal Co., Ltd.  According to the appraisal, subject to its
assumptions and limitations, the fair market value of ConnGame on January 15,
2010 was approximately $52 million (RMB 357 million), based on a discounted cash
flow model.  In addition, the proposed acquisition and the
issuance of the shares will be subject to numerous closing conditions, including
the execution of a waiver of reduction to conversion price of our outstanding
Bonds or exercise price of the 2008 Warrants.  As described below, we
and the bondholders, in addition to other parties, entered into a waiver
agreement on February 24, 2010.




On August
11, 2010, we entered into a stock purchase agreement (“Agreement”) with First
Jet, New Crown Technology Limited, a wholly owned subsidiary of First Jet and
the holder of 100% of the equity interests of ConnGame (“New Crown”), and Mr.
Jun Tang, the principal of First Jet and New Crown.  Pursuant to the
Agreement, we agreed to issue First Jet 25,000,000 shares of our common stock,
$0.001 par value per share, in exchange for 60% of the equity interest of New
Crown on the date of closing of the acquisition.




25


Upon the
consummation of the acquisition, Luo Ken Yi will resign as Chairman of the Board
of Directors.  Mr. Luo will remain as a member of the
Board.  Upon Mr. Luo’s resignation as the Chairman of the Board, the
Board will appoint Mr. Jun Tang, the sole shareholder of First Jet, as Chairman
of the Board.  Mr. Jun Tang, 47, currently serves as the President and
Chief Executive Officer of New Huadu Group, Fujian.  From 2004 to
2008, Mr. Tang served as President of Shanghai SNDA (Nasdaq: SNDA), an
interactive entertainment media company in China.  Prior to that, he
served as President of Microsoft China Co., Ltd from 2002 to
2004.  From 1997 to 2002, he served as General Manager of Microsoft
Global Technical Engineering Center, and from 1994 to 1997 he served as Senior
Project Manager for Microsoft US.  Mr. Tang received his doctorate
degree, master’s degree and bachelor’s degree in the U.S. and China,
respectively.




Completion
of the proposed acquisition is expected to occur in the next few days. See “Note 15 -
Subsequent Events”of the notes of the financial statements contained in this quarterly
report for additional information.




Wavier
Agreement





On
February 24, 2010, we entered into an Amendment and Waiver Agreement (the
“Waiver Agreement”) with the holders of our outstanding Variable Rate
Convertible Bonds due 2012 (the “2007 Bonds”) and 12% Convertible Bonds due 2011
(the “ 2008 Bonds,” and collectively with the 2007 Bonds, the “ Bonds ”) and
warrants to purchase 300,000 shares of our common stock expiring 2013 (the “
2008 Warrants ”).  Pursuant to the Waiver Agreement, the holders of
the Bonds and the 2008 Warrants agreed to waive their right to a reduction in
the conversion price of the Bonds and the exercise price of the 2008
Warrants upon our anticipated issuance of up to 25,000,000 shares for the
proposed acquisition of a 60% ownership interest in
ConnGame.  Additionally, the holders of the 2008 Bonds agreed to waive
any default under the terms and conditions of the trust deed governing the
2008 Bonds relating to the requirement that KGE Group Limited, our largest
shareholder, own at least 45% of our issued and outstanding common
stock.  The waiver had a term of three months and expired on May 24,
2010.  The parties entered into a new waiver on July 13, 2010, which
has a three month term subject to the terms and conditions contained
therein.





The
waivers contained in the Waiver Agreement are subject to numerous
conditions.  Under the Waiver Agreement, we agreed to pay the
Bondholders the interest on the Bonds in the amount of approximately $3.84
million on scheduled dates, of which we made a payment of approximately $1.26
million on March 31, 2010 and $1.32 million on April 15, 2010.  Under
the terms of the waiver, we agreed that we would pay to the bondholders all
outstanding interests in arrears on the Bonds, plus all other applicable
interest up until the payment date, within 30 days after the closing of the
issuance of the shares to acquired ConnGame, but which in any event, would not
be later than September 30, 2010.





We also
agreed to repay an overdraft facility in the amount of approximately $4.91
million on three scheduled dates.  We made payment of approximately
one-half of this amount and agreed to pay all unsettled amounts, which include
all outstanding principal and interest amounts, within 30 days after the closing
of the issuance of the Shares, but which in any event, would not be later than
September 30, 2010.





We also
agreed that we will not repay or prepay any debt prior to its currently
scheduled due date until we make all of the payments specified in the Waiver and
the Bonds have been redeemed in full and that any new indebtedness incurred by
us for the purpose of repaying the overdraft facility shall (i) not exceed the
outstanding amount due and payable under the overdraft facility and (ii) be
subordinated to all amount owed under the Bonds (the “Waiver Covenants”).
As of the date of the report, the closing of the issuance of the shares to
acquired ConnGame was not completed and no payment was made under the terms of
the new waivers.





If we
fail to make any of the payments specified in the Waiver, then all rights of the
holders of the Bonds and 2008 Warrants waived under the Waiver to or to be
waived under the Waiver, shall not be waived and will be reinstated, and any
previous waivers will be null and void.  In such case, appropriate
adjustments will be made to the conversion prices of the Bonds and the exercise
price of the 2008 Warrants in the event the Shares are issued and an event of
default under the terms and conditions of the trust deed governing the 2008
Bonds shall exist, making the 2008 Bonds immediately due and
payable.  Additionally, if any part of the issuance of the Shares is
cancelled or not consummated within three months from the effective date of the
Waiver then all rights of the holders of the Bonds and 2008 Warrants waived
under the Waiver or to be waived under the Waiver, shall not be waived and will
be reinstated, and any previous waivers will be null and void.





If we are
unable to comply with the terms of the Waiver, the issuance of the Shares could
result in an adjustment of the conversion price of the Bonds and the 2008
Warrants pursuant to the governing Trust Deeds and warrant agreement,
respectively, which could result in substantial dilution to our shareholders.
There 2007 Bonds are currently convertible at a per share price of $2.45 per
share and the 2008 Bonds and 2008 Warrants are convertible and exercisable,
respectively, at $6.35 per share.  If we do not comply with the terms
of the Waiver Agreement, an adjustment to the conversion and exercise prices
could be adjustable downward to the value of the assets that we receive for the
issuance of the Shares, as calculated in accordance with the provisions of
the Trust Deeds and the warrant agreement.


26


Dubai
Metro Rail Project





On
September 9, 2009, the Red Line, or first phase, of the Dubai Metro was
officially opened. We, through our subsidiary Techwell Engineering Limited, had
been working towards completion of our external envelopes for stations along the
Red Line of the Dubai Metro System.  According to our original
construction blueprint, the majority of our construction work was completed at
the end of June 2009, and final construction milestones were scheduled for
completion in the third quarter of 2009.  With less than 5% of our
contract remaining to be completed, Techwell was removed by the master
contractor of the project, who also called for and received payment of $2.1
million in performance bonds and $7.3 million in advance payment bonds that were
issued on Techwell's behalf for the project. The calling of the advance payment
bonds was based on the master contractor's belief that it had paid in excess of
the construction work performed.  We and certain of our subsidiaries
are guarantors of the bonds that were paid by the banks, and we are liable under
the guarantee agreements for such amounts paid by the banks.  We do
not believe that the master contractor had a proper basis for calling the bonds
and intend to vigorously pursue and defend all of our legal rights and remedies
related to this dispute.  We have engaged a construction claims
consultant to facilitate resolution of this dispute.  We and our
construction claims consultant, based on a review of the facts, documents, and
materials available, believe that we have a reasonable opportunity to collect
the amounts due to Techwell from the master contractor, less appropriate credits
as our final amount due for work performed through September
2009.  We, with the assistance of our claims consultant, have
been continuously evaluating the dispute and probability of success on this
dispute going forward and make the appropriate adjustments; however, no
assurance can be given that the dispute will be resolved in our and Techwell’s
favor. The Company’s counsel in Dubai is preparing the legal documents for the
claims by the time of this report.





With the
use of “percentage-of-completion” method, the revenue to be recognized for each
period will included both (1) the revenue earned for the current period and (2)
the adjustment to previously recognized revenue that is required because of the
changes in estimated total revenue, costs and profitability of projects from
which the previous revenue had been recognized. The changes in the estimates may
be the result of, for example, increased costs or overhead expenses of the
projects, changes of the scope of the works of the contract as well as the
changes of technologies used which in turn affect the costs of the
project.  Under these circumstances, the estimated revenue and costs
can change and as a result the estimated profitability of the project can
change, which affects the profit elements in the revenue previously recognized
and may be required to be revised accordingly.  The “adjustments” or
“revisions” are made via adjustment to the current period revenue because it is
the changes in estimates that are requiring the revisions and not a restatement
of the previous period figures.




With
respect to the Dubai Metro Rail Project, which was the primary focus of
Techwell, an adjustment under the percentage-of-completion method described
above may be required if, for example, the Company and the Company’s claim
consultant modifies its evaluation of the Company’s claims such that the Company
is not likely to recover its claims as currently anticipated, if the Company
encounters any unexpected difficulties in the claiming process which making the
increase of claiming costs, and if a commercial settlement between the parties
is reached on a amounts different from current value estimates.  In
such scenarios, the final project revenue or estimated costs may be changed to
affect the revenue recognition of the project.  However, neither of
the situations is considered to exist at the moment of the reporting that
affects the accounting estimates of revenue and costs used for the
period.  As such, the Company believes that the revenue recognized to
date is appropriate as there were periodic reviews of the estimates of the
project revenue and costs by the Company to reflect the latest profitability of
the project for revenue recognition.





One of
the primarily reasons that the aging of Company’s contract receivables have
increased is the delay in payment by client of the Dubai projects since April
2009.  The underlying receivable as of June 30, 2010 from the Dubai
projects was approximately $42.1 million, which represented 47% of the total
contract receivables as of such date. The Company has employed a claim
consultant, Hill International, to facilitate the Company’s claim for the back
payment.  The Company currently expects that there will be progress
and payments will be received as early as the fourth quarter of
2010.  However, due to the ongoing dispute, there is no guarantee that
the Company will collect all or a portion of the contract
receivable.  For receivables related to the Dubai Project, the client
delayed payment to us since April 2009 by refusing to issue the Certificates for
Value of Work Done.  No Certificates have been issued since April
2009.  The Certificates are pre-requisites to proceed with payment to
the Company. The client paid for all work for Certificates for Value of Work
Done issued in or before April 2009.  Such payments were made prior to
December 31, 2009.  As a result, no account receivables at June 30,
2010 represent work for the above-referenced Certificates issued in or before
April 2009.  The receivables as of June 30, 2010 were recognized in
accordance with the Percentage of Completion Method and based on the claim
consultant’s report on the estimated final value of work done that the Company
completed as of June 30, 2010.





The
Company has not recorded an allowance for doubtful accounts related to the Dubai
project.  The Company has engaged a construction claims consultant to
facilitate resolution of the dispute.  The Company and its
construction claims consultant, based on a review of the facts, documents, and
materials available, believe that the Company has a reasonable opportunity to
collect the amounts due to Techwell from the master contractor, less appropriate
credits as its final amount due for work performed through September
2009.  The Company, with the assistance of its claims consultant, have
been continuously evaluating the dispute and probability of success on this
dispute going forward and make the appropriate adjustments; however, no
assurance can be given that the dispute will be resolved in the Company’s
and Techwell’s favor.  In the report of the claim consultant, there
are the high and low estimates for the final total value of work done for the
Dubai project. The Company started with the low estimates with prudence and
adjusted such amounts with the amounts that the claim
consultant’s expressed that there was an excellent opportunity for the
Company to be recovered.  Furthermore, as the client of the projects
being the joint venture of two reputable Japanese corporations and one Turkish
corporation with long operating histories, the Company believes that the
possibility of default in payment is considered not likely to
occur.  Based on these supporting documents and analysis, the Company
believes that the receivables will be collected and no allowance is
required.  However, the Company will be required to account for
doubtful collection of the receivables related to the Dubai Project in the event
it concludes that it is not likely that the Company will be able to collect the
receivables.


27


We had a
meeting with the master contractor during the second quarter of 2010. Based on
the information and understandings obtained from the meeting, our claims
consultant and counsel in Dubai were in the process of redrafting the documents
for the claims as of June 30, 2010.





Techwell
Litigation





Pursuant
to a Stock Purchase Agreement dated November 7, 2007, the previous shareholders
of Techwell Engineering 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 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. Ng and 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 its operations during the course the negotiations of the Techwell
acquisition; (ii) the Company failed to perform its obligations under a
settlement agreement alleged to have been agreed to by the Company in
January 2009; and (iii) the dismissal of Mr. Ng was unlawful and
invalid.  The lawsuit filed by Mr. Ng and Miss Yam requests the court
for specific performance of the settlement agreement that was allegedly entered
into, which would require the return of the Techwell company to Mr. Ng and Miss
Yam, and in the absence of such grant of relief, Mr. Ng and Miss Yam request
unspecified damages in lieu of return of the Techwell company.





On
January 23, 2009 an ex-parte injunction order was granted to Mr. Ng, restraining
the Company from implementing 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 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 in the 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.





As of the
date of this report, the Company, Mr. Ng, and Miss Yam, after several counter
proposals among the parties, are still in discussions and negotiations to settle
all disputes. However, there is no guarantee that the parties will reach an
agreement to settle the dispute, in which case the Company intends to vigorously
defend itself against the lawsuit.  There can be no assurance
that the 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 away 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.  In the event we lose ownership of Techwell, we will lose
the approximately $20.3 million of profit contribution since the acquisition of
Techwell.


28


Results
of Operations





The
following table sets forth statements of operations for the three and six months
ended June 30, 2010 and 2009 in U.S. dollars (unaudited):





For Three Months Ended June 30,
                    
                    
                    For Six Months Ended June 30,2010
                    
                    
                    2009
                    
                    
                    2010
                    
                    
                    2009(in thousands, except for share and per share amounts)Contract
      revenues earned$
                    5,708
                    
                    
                    $
                    30,599
                    
                    
                    $
                    17,181
                    
                    
                    $
                    66,942Cost
      of contract revenues earned
                    
                    
                    (6,137
                    )
                    
                    
                    (20,647
                    )
                    
                    
                    (15,282
                    )
                    
                    
                    (48,809
                    )Gross
      profit / (Loss)
                    
                    $
                    (429
                    )
                    
                    $
                    9,952
                    
                    
                    $
                    1,899
                    
                    
                    $
                    18,133Selling,
      general and administrative expenses
                    
                    
                    (1,846
                    )
                    
                    
                    (6,120
                    )
                    
                    
                    (6,069
                    )
                    
                    
                    (12,071
                    )Income
      / (Loss) from operations
                    
                    $
                    (2,275
                    )
                    
                    $
                    3,832
                    
                    
                    $
                    (4,170
                    )
                    
                    $
                    6,062Interest
      income
                    
                    
                    3
                    
                    
                    
                    46
                    
                    
                    
                    5
                    
                    
                    
                    50Interest
      expenses
                    
                    
                    (1,868
                    )
                    
                    
                    (1,464
                    )
                    
                    
                    (3,494
                    )
                    
                    
                    (2,776
                    )Other
      expenses
                    
                    
                    (8
                    )
                    
                    
                    -
                    
                    
                    
                    (9
                    )
                    
                    
                    -Other
      income
                    
                    
                    816
                    
                    
                    
                    139
                    
                    
                    
                    824
                    
                    
                    
                    160Income
      / (Loss) before taxes on Continuing Operations
                    
                    $
                    ( 3,332
                    )
                    
                    $
                    2,553
                    
                    
                    $
                    (6,844
                    )
                    
                    $
                    3,496(Income
      tax) / Tax benefit
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    (9
                    )
                    
                    
                    -Net
      earnings / (loss) including non-controlling interests
                    
                    
                    (3,332
                    )
                    
                    
                    2,553
                    
                    
                    
                    (6,853
                    )
                    
                    
                    3,496(Income)
      / Loss attributable to non-controlling interests
                    
                    
                    2
                    
                    
                    
                    (1
                    )
                    
                    
                    3
                    
                    
                    
                    (1
                    )Net
      earnings / (loss) attributable to the Company
                    
                    $
                    (3,330
                    )
                    
                    $
                    2,552
                    
                    
                    $
                    (6,850
                    )
                    
                    $
                    3,495Earnings
      / (Loss) per share:Basic
                    
                    $
                    (0.06
                    )
                    
                    $
                    0.05
                    
                    
                    $
                    (0.12
                    )
                    
                    $
                    0.07Diluted
                    
                    $
                    (0.06
                    )
                    
                    $
                    0.05
                    
                    
                    $
                    (0.12
                    )
                    
                    $
                    0.07Weighted
      average shares outstanding:Basic
                    
                    
                    55,156,874
                    
                    
                    
                    53,256,874
                    
                    
                    
                    54,945,763
                    
                    
                    
                    53,256,874Diluted
                    
                    
                    55,156,874
                    
                    
                    
                    53,256,874
                    
                    
                    
                    54,945,763
                    
                    
                    
                    53,256,874





Three
Months Ended June 30, 2010 and 2009





Contract
revenues earned for the three months ended June 30, 2010 were $5.7 million, a
decrease of $24.9 million, or 81%, from the contract revenues earned of $30.6
million for the comparable period in 2009. The primary reasons for the decrease
in contract revenues earned was due to the decline in the global economy and
construction industry, and the resulting negative adverse effects on our
business operations, in addition to few new projects for our company during the
first half of 2010, after our completion of international projects in 2009 such
as the Dubai Metro Red Line and Doha High Rise Office Tower.  We
believe our suspension of international projects contributed significantly
to the decline in our revenue, as 61% of our annual revenue came from
international projects in 2009, while only 3% of our annual revenue came from
international projects in the first half of 2010.





Cost of
contract revenues earned for the three months ended June 30, 2010 was $6.1
million, a decrease of $14.5 million, or 70%, from $20.6 million for the
comparable period in 2009. Cost of contract revenues earned consists of the raw
materials, labor and other operating costs related to
manufacturing.  The decrease in costs of contract revenues earned was
primarily due to a reduction in the number of projects and thus, a decrease in
the revenues earned, as stated above.





Provisions
for estimated losses on uncompleted contracts are charged to cost of contract
revenues earned 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.


29


Gross
profit for the three months ended June 30, 2010 was -$0.4 million, a decrease of
$10.4 million, or 104%, from $10.0 million for the comparable period of 2009.
Our gross margin for the three months ended June 30, 2010 was -8% as compared
with 33% for the three months ended June 30, 2009. The decrease in gross margin
was primarily a result of increases in raw material, labor and administrative
costs in our domestic market of China, as well as adjustments made in accordance
to the percentage-completion method for accounting of projects revenue. Such
adjustments were made as a result of increases in the projects’ estimated costs,
which reduced the projects’ estimated profits and the revenues.





Selling,
general and administrative expenses were $1.8 million for the three months ended
June 30, 2010, a decrease of approximately $4.3 million, or 70%, from
approximately $6.1 million for the comparable period in 2009. The decrease was
due to decrease in revenue in earned.  Among the selling, general and
administrative expenses, payroll and social securities was the single largest
expenditure of the group, which accounted for approximately 44% of the expense.
Other major expenses included rental expenses 6% and depreciation expenses
8%.





Interest
expenses and finance expenses were $1.9 million for the three months ended June
30, 2010, an increase of $0.4 million, from approximately $1.5 million for the
comparable period in 2009.  The increase was primarily due to the
additional interest expense related to borrowing by short-term bank loans as
well as the increase in accretion of bonds interest discount.





Income
tax expenses were both $nil for the three months ended June 30, 2010
and 2009.  The primary reason was losses incurred by the operations of
the Company as still suffering from the effects of the recent international
financial crises.





Net loss
for the three months ended June 30, 2010 was $3.3 million, a decrease in income
of $5.8 million, or 232%, from net profit of $2.5 million for the comparable
period in 2009 mainly due to the decrease in contract revenues earned as the
result of decline in the global economy and construction industry and completion
of international projects in 2009, increases in raw material, labor and
administrative costs in our domestic market of China as well as the adjustments
in accordance to the percentage-completion method for accounting of
projects revenue which were resulted from the increase in the projects’
estimated costs that reduced the projects’ estimated profit and revenue
recognized.





Six
Months Ended June 30, 2010 and 2009





Contract
revenues earned for the six months ended June 30, 2010 were $17.2 million, a
decrease of $49.7 million, or 74%, from the contract revenues earned of $66.9
million for the comparable period in 2009. The primary reasons for the decrease
in contract revenues earned are the same as those stated for the decrease in
revenues in the three months ended June 30, 2010.





Cost of
contract revenues earned for the six months ended June 30, 2010 was $15.3
million, a decrease of $33.5 million, or 69%, from $48.8 million for the
comparable period in 2009. Cost of contract revenues earned consists of the raw
materials, labor and other operating costs related to manufacturing. The
decrease in costs of contract revenues earned was primarily due to a reduction
in the number of projects and thus, a decrease in the revenues
earned.





Provisions
for estimated losses on uncompleted contracts are charged to cost of contract
revenues earned 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.





Gross
profit for the six months ended June 30, 2010 was $1.9 million, a decrease of
$16.2 million, or 90%, from $18.1 million for the comparable period of 2009. Our
gross margin for the six months ended June 30, 2010 was 11% as compared with 27%
for the six months ended June 30, 2009. The decrease in gross margin was
primarily a result of increases in raw material, labor and administrative costs
in our domestic market of China as well as the adjustments in accordance to the
percentage-completion method for accounting of projects revenue. Such
adjustments were made as a result of increases in the projects’ estimated costs,
which reduced the projects’ estimated profits and the revenues.





Selling,
general and administrative expenses were $6.1 million for the six months ended
June 30, 2010, a decrease of approximately $6.0 million, or 50%, from
approximately $12.1 million for the comparable period in 2009. The decrease was
due to decrease in revenue in earned.  Among the selling, general and
administrative expenses, payroll and social securities was the single largest
expenditure of the group, which accounted for approximately 62% of the expenses
including 32% or $2.0 million being stock compensation expenses granted during
the first six months of 2010. Other major expenses included rental expenses 6%
and depreciation expenses 5%.





Interest
expenses and finance expenses were $3.5 million for the six months ended June
30, 2010, an increase of $0.7 million, from approximately $2.8 million for the
comparable period in 2009.  The increase was primarily due to the
additional interest expense in the first six months of 2010 related to borrowing
by short-term bank loans.


30


Income
tax expenses were $9,575 for the six months ended June 30, 2010 at an
effective tax rate of -0.1%, compared with $nil in taxes for the same period of
2009 at an effective tax rate of nil%.  The primary reason was losses
incurred by the operations of the Company as still suffering from the effects of
the recent international financial crises.





Net loss
for the six months ended June 30, 2010 was $6.8 million, a decrease in income of
$10.3 million, or 294%, from net profit of $3.5 million for the comparable
period in 2009 mainly due to the decrease in contract revenues earned as the
result of decline in the global economy and construction industry and completion
of international projects in 2009, increases in raw material, labor and
administrative costs in our domestic market of China as well as the adjustments
in accordance to the percentage-completion method for accounting of projects
revenue which were resulted from the increase in the projects’ estimated costs
that reduced the projects’ estimated profit and revenue recognized.





Liquidity
and Capital Resources





At June
30, 2010, we had cash and cash equivalents of $0.6 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.   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. The 2007 Bonds bear cash interest at the rate of 6% per annum for the
first year after April 12, 2007 and 3% per annum thereafter, of the principal
amount of the 2007 Bonds. Each 2007 Bond is convertible at an initial conversion
price of $3.50 per share.  At any time after April 12, 2010, holders
of the 2007 Bonds can require us to redeem the 2007 Bonds at 126.51% of the
principal amount. We are required to redeem any outstanding 2007 Bonds at
150.87% of its principal amount on April 4, 2012.  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.




On April
15, 2008, we completed a financing transaction pursuant to which we issued the
2008 Bonds in the principal amount of $20 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 (each an “Interest Payment
Date”). On any Interest Payment Date on or after April 15, 2010, the holders of
the Bonds can require us to redeem the Bonds at 116.61% of the principal amount.
We are required to redeem any outstanding Bonds at 116.61% of its principal
amount on April 15, 2011.





On July
13, 2010, we entered into the Waiver Agreement with the holders of our 2007
Bonds and 2008 Bonds and 2008 Warrants.  Under the Waiver Agreement,
we agreed to pay the Bondholders the interest on the Bonds in the amount of
approximately $3.84 million on scheduled dates, of which we made a payment of
approximately $1.26 million on March 31, 2010 and $1.32 million on April 15,
2010.  Under the terms of the waiver, we agreed that we would pay to
the bondholders all outstanding interests in arrears on the Bonds, plus all
other applicable interest up until the payment date, within 30 days after the
closing of the issuance of the shares to acquired ConnGame, but which in any
event, would not be later than September 30, 2010. We also agreed to repay
an overdraft facility in the amount of approximately $4.91 million on three
scheduled dates.  We made payment of approximately one-half of this
amount and agreed to pay all unsettled amounts, which include all outstanding
principal and interest amounts, within 30 days after the closing of the issuance
of the Shares, but which in any event, would not be later than September 30,
2010. We also agreed that we will not repay or prepay any debt prior to its
currently scheduled due date until we make all of the payments specified in the
Waiver and the Bonds have been redeemed in full and that any new indebtedness
incurred by us for the purpose of repaying the overdraft facility shall (i) not
exceed the outstanding amount due and payable under the overdraft facility and
(ii) be subordinated to all amount owed under the Bonds. As of the date of the
report, the closing of the ConnGame acquisition was not completed and no payment
was made under the terms of the new waivers.





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.





Full Art
International Limited incurred an automobile capital lease obligation due
November 9, 2012 that had an outstanding amount of $147,232 as of June 30,
2010.


31


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, which is also the total amount of cash collateral for
the facility. All cash collateral was then fully used to off-set a portion of
the calling of the bonds for projects in Dubai by the beneficiary. As of June
30, 2010, the facility was converted into the temporary loan of $4,529,217
resulted from the calling of performance and advance payment bonds at interest
rate at Bank's Cost of Fund + 6%.




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 that increased the
total amount of cash collateral to $3,000,000. In September 2009, $2,818,440 of
the cash collateral was used to off-set of the calling of the bonds for projects
in Dubai by the beneficiary. As of June 30, 2010, the facility amount was
reduced to $910,000 and was fully utilized.





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$10,218,978).  On September 30, 2009, the facility was amended to
allow Open Account Financing – Accounts Receivable against invoices from
acceptable buyers up to RMB21,000,000 and Open Account Financing and Overdraft
in Current Account up to RMB16,800,000.  ABN AMRO requires irrevocable
and unconditional guarantee from us and cash collateral of 20% of bank’s
acceptance bill issued and Open Account Financing.  As of June 30,
2010, Zhuhai KGE utilized RMB nil (US$nil million) of Bank Accepted Draft and
RMB16,094,080 (US$2,363,787) of Overdraft in Current Account.





In
September 2009, the beneficiary of a performance bond and advance payment bonds
for the projects in Dubai demanded the drawing of approximately $9.4 million in
total from the two issuing banks, ABN AMRO Bank NV and HSBC. The calling of the
bonds was based on the beneficiary’s belief that it had paid in excess of the
construction work performed. We do not believe that the beneficiary had the
proper basis for calling the bonds and intend to vigorously defend all of their
rights and remedies related to the dispute. As of June 30, 2010, after an offset
against collateral accounts that we held with the banks, there was approximately
$4.5 million in a shortfall amount due to ABN AMRO Bank NV by us that was not
paid off.  Such amount is currently outstanding as the temporary loan
from the bank at the interest rate at the bank’s cost of funds plus
6%.





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. Below is a summary of typical steps
in our processing of accounts:





·
            It
      takes approximately one month for our client to collect the payment
      application from contractors for the contract work
    completed.





·
            Thereafter,
      it takes approximately one to two months for the verification, agreement
      and certification of work completed, with timing to largely depend on
      whether there is disagreement in the calculation of certified value
      between the parties.





·
            Moreover,
      if it is the case that the application is to finalize the project account,
      it may take up to three months.





·
            Additionally,
      in the event that the client is not the owner of the project, it normally
      requires an additional one to two months for processing and obtaining the
      funds from the owner.





·
            One
      to two months the client to pay the
contractors.


32


In
contrast to collection times, 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.




We
experienced revenue of $17.2 million for the six months ended June 30, 2010
compared to revenue of $66.9 million for the same period in 2009. Construction
contract related receivables, including contract receivables and costs and
earnings in excess of billings as of June 30, 2010 were $97.7 million, a
decrease of $7.6 million from construction related receivables of $105.3 million
as of June 30, 2009. The decrease was a result of the reduction in projects
revenue.





The
collection period typically runs from two months to one year, the long aging of
receivables reflects the long collection period.  In addition, our
payment cycle is considerably shorter than our receivable cycle, since we
typically pay our suppliers all or a portion of the purchase price in advance
and for some suppliers we must maintain a deposit for future
orders.





Among the
$89.3 million contract receivables as of June 30, 2010, $14.0 million (15.7 %)
was outstanding over 365 days and $13.6 million (15.3 %) over 730 days, in total
of $27.6 million which including $10.6 million (11.9 %) million of retention
money which would only be settled after the retention periods of two or three
years. The Company periodically prepares the aging of the receivables
information and reviews the balances with consideration of the background of
each client for assessing the realizable value of the balances and would
make provision when appropriate.  The Company notes that its account
receivables that are 365 and 720 days old are primarily related to the Company’s
PRC operations, and the payment cycle in the PRC commonly entails a
receivable being outstanding for over one to two years before
collection.  Such situations are particularly common in the
construction market and with the clients from government. Since the Company’s
older outstanding receivables are mainly of government projects, the final
accounts and payments are required to be processed through a lengthy
bureaucratic process in the PRC government. Based on the foregoing, and despite
the receivables being outstanding from 365 to 720 days, the Company considers
them to be realizable because the Company believes that there is a remote chance
that the PRC Government will go into bankruptcy or otherwise refuse to make
payment on the receivables. In addition, the Company has the policy of
conducting a comprehensive review the aging of account receivables on a regular
basis every three months.  Furthermore, the Company has a designated
staff member from one of its PRC subsidiaries to remain in constant
communication with the Company’s various departments regarding PRC receivables
collection status, and allowances for doubtful accounts is made, as necessary,
based on the collection status updates. As of June 30, 2010, the contract
receivables under aging of 121 to 365 days amounted to $55.1 (61.8 %)
million including the receivables of the projects in Dubai which were
recognized at the end of the year at $42.1 (47.1%) million.





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 effected a direct
write off through a $3.8 million provision to the account receivables during the
six months ended June 30, 2010.  We recorded additional provision for
doubtful accounts of $212,420 in the six months ended June 30,
2010.  As of June 30, 2010, our provision for doubtful accounts was
$3.1 million, which was 3.2 % of our construction contract related receivables
of $97.7 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.





In
addition to the foregoing, we had a provision for contracts receivables that was
reclassified as “Other receivable” in the amount of approximately $9.9
million that represented account receivables of a subsidiary, Techwell
Engineering Ltd. (Techwell).  The receivables were acquired through
our acquisition of the Techwell in 2007 and have been outstanding since
acquisition.   The receivables are guaranteed by previous
shareholders of Techwell if not paid within 24 months of the
acquisition.  Accordingly, the provision was made and the receivable
amount was transferred to amount due from the shareholders under other
receivable balances.





At June
30, 2010, 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
provided by operating activities for the six months ended June 30, 2010 was
approximately $9.0 million, as compared to $2.7 million in the same period in
2009. In addition to decrease in net income ($10.3 million), the change is
primarily due to differences in changes in receivables $17.9 million, payables
($11.7 million), stock compensation expenses $2.0 million and inventory
$7.9 million.


33


Net cash
used in investing activities was approximately $0.1 million for the six months
ended June 30, 2010 compared to approximately $1.0 million net cash provided for
the six months ended June 30, 2009. The change was mainly a result of the
difference in change of restricted cash.




Net cash
used in financing activities was $9.1 million for the six months ended June 30,
2010 compared to $6.4 million for the six months ended June 30, 2009. The
increase was primarily due to differences in changes of repayment of short-term
loans ($2.7) million and repayment of shareholders loan $5.6
million.





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/A as of and for the year ended December 31,
2009, as filed with the Securities and Exchange Commission on June 2, 2010.
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/A as of and for the year ended December 31,
2009.  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, 2009 on Form
10-K/A as filed with the SEC on June 2, 2010.





Recent
Accounting Pronouncements





See
Note2(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, 2009 on Form 10-K/A as
filed with the SEC June 2, 2010.





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 (i) our restatements that we conducted in
May 2010 and (ii) one of our material operating subsidiaries, Techwell
Engineering Limited. (“Techwell”) that we acquired in November
2007.


34


Restatements





In May
2010, we discovered that certain of our previously filed quarterly and annual
reports contained errors that required correction and restatement. The errors
related to the timing of the interest expense related to the Company’s
outstanding $8,000,000 Variable Rate Convertible Bonds due 2012 and $20,000,000
12% Convertible Bonds due 2011 that resulted in overstatements and
understatements of the interest expenses related to the bonds during various
quarters before the second quarter of 2008. Due to the accounting errors, the
interest expense was overstated by approximately $0.3 million, $0.5 million, and
$0.7 million for the second, third, and fourth quarters of fiscal year
2007, respectively, for a total overstatement of approximately $1.5 million
for fiscal 2007. The interest expense was overstated by approximately $0.1
million in the first quarter of 2008 and all the overstatements, approximately
$1.6 million, were reversed in the second quarter of 2008. For the year ended
December 31, 2009, there was an overstatement of the interest expense of $8,000
in the second quarter and an understatement of $6,000 during the third quarter,
for a total of overstatement of $2,000 for fiscal year 2009. The net bonds
payable amounts were presented correctly in the Company’s financial statements
as of December 31, 2008 and 2009, and it was only the components of the
Convertible Bonds that were restated, while the net payable amounts as of
December 31, 2007 was stated with correction of errors.





Additionally,
a correction was needed for the addition of an equity compensation charge in the
amount of $4,976 related to a portion of options granted in October 2009 that
the Company inadvertently omitted in the original Form 10-K filing. Together
with the overstatement of interest expenses of $2,000, the loss for the year
ended December 31, 2009 was understated by 2,983 and the retained earnings as of
December 31, 2009 was overstated by 2,983. Additionally, $1.5 million of
consolidation exchange loss resulted from the inter-company investments
elimination was incorrectly included in the additional paid in capital instead
of the accumulated comprehensive income presented in the Stockholders’ Statement
of Equity and Comprehensive Income for the year ended December 31,
2009.





We
believe that the accounting errors were caused by lack of personnel with
expertise in US generally accepted accounting principles and SEC rules and
regulations, in addition to inadequate staffing and supervision that lead to the
untimely identification and resolution of accounting and disclosure matters
and failure to perform timely and effective reviews. We intend to take action to
remediate these deficiencies going forward.





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.


35


Remediation
Efforts





We are in
the process of developing and implementing remediation plans to address our
material weaknesses.





Restatements





We have
taken and intend to take the following actions to address the material
weaknesses and improve our internal controls over financial
reporting:







1.
            We
      are seeking to improve supervision, education, and training of our
      accounting staff. We are also considering engaging third-party financial
      consultants to review and analyze our financial statements and assist us
      in improving our reporting of financial
  information.





2
            Management
      intends to hire additional personnel with technical knowledge, experience
      and training in the application of generally accepted accounting
      principles commensurate with our financial reporting and U.S. GAAP
      requirements.





3.
            We
      will continue to monitor the effectiveness of these improvements. We are
      also considering working with outside consultants in assessing and
      improving our internal controls and procedures when
    necessary.





4.
            An
      internal SOX 404 task force was set up in order to help the company
      strengthening its controls and procedures on the financial
      reporting.





5.
            In
      September 2009, we hired a new Vice President of Finance who was later
      appointed as our Acting Chief Financial Officer in November 2009.  We
      believe that the addition of this person will assist the strengthening of
      the controls and procedures of our
company.





6.
            In
      December 2009, our Acting Chief Financial Officer lead an extensive review
      of the controls and procedures of our company and developed a detailed
      remediation and implementation plan for Sarbanes-Oxley Act of 2002 Section
      404 compliance to be carried out starting in
  2010.





7.
            The
      remediation and implementation plan is being carried out which including
      the drafting up of the details internal control documents for SOX
      compliance.





Techwell




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:





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 engaged a consulting
      firm to assist in the set-up of project and our staff thereafter continued
      with its implementation.





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.
            In
      June 2009, 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.


36


5.
            In
      2009, we also 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.





7.
            In
      September 2009, we hired a new Vice President of Finance who was later
      appointed as our Acting Chief Financial Officer in November 2009.  We
      believe that the addition of this person will assist the strengthening of
      the controls and procedures of our
company.





8.
            In
      December 2009, our Acting Chief Financial Officer lead an extensive review
      of the controls and procedures of our company and developed a detailed
      remediation and implementation plan for Sarbanes-Oxley Act of 2002 Section
      404 compliance to be carried out starting in 2010, which includes the
      internal control for Techwell.





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 second quarter of 2010 that
have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting, other than as described above under
“Remediation Efforts.”


37


PART
II-OTHER INFORMATION





ITEM 1.
            LEGAL
      PROCEEDINGS





See
Note12(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 for the fiscal year ended December
31, 2009 on Form 10-K/A as filed with the Securities and Exchange Commission on
June 2, 2010.





Almost
one-half of our contracts receivables are attributable to a Dubai project for
which we may never be paid.





One of
the primarily reasons that the aging of Company’s contract receivables have
increased is the delay in payment by client of the Dubai projects since April
2009.  The underlying receivable as of June 30, 2010 from the Dubai
projects was approximately $42.1 million, which represented 47% of the total
contract receivables as of such date. The Company has employed a claim
consultant, Hill International, to facilitate the Company’s claim for the back
payment.  The Company currently expects that there will be progress
and payments will be received as early as the fourth quarter of
2010.  However, due to the ongoing dispute, there is no guarantee that
the Company will collect all or a portion of the contract
receivable.  If we are not able to collect the receivable, our results
of operations and financial condition will be materially adversely
impacted.  See “ITEM
2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATION—Dubai Metro Rail Project” in this report for more
information.





The
restatement of certain of our historical consolidated financial statements may
have an adverse effect on us.





In May
2010, our management concluded that our consolidated audited financial
statements for the years ended December 31, 2009, 2008 and 2007 and our
consolidated unaudited interim financial statements for the periods ended June
30, 2007, September 30, 2007, March 31, 2008 and June 30, 2008 needed to be
restated and should not be relied upon.  For a more detailed
discussion of the restatements, amendments and their underlying circumstances,
please refer to the Explanatory Note at the beginning of our Annual Report on
Form 10-K/A for the year ended December 31, 2009 (the “Amended 2008 Form 10-K”)
and Note 1 of the Notes to the consolidated financial statements included in the
Amended 2009 Form 10-K.  As a result of the restatements, the Company
may become subject to a number of significant risks, which could have an adverse
effect on its business, financial condition and results of operations, including
potential civil litigation (including stockholder class action lawsuits and
derivative claims made on behalf of the Company), and regulatory proceedings or
actions, the defense of which may require significant management attention and
significant legal expense and which litigation, proceedings or actions, if
decided against us, could require us to pay substantial judgments, settlements
or other penalties.





We
identified material weaknesses in our internal control over financial reporting
and concluded that such controls were not effective.  If we fail to
maintain effective internal control over financial reporting, we may not be able
to accurately report our financial results.  We can provide no
assurance that we will at all times in the future be able to report that our
internal control is effective.





Because
we have reporting obligations under the Exchange Act, we are required to report,
among other things, control deficiencies that constitute material weaknesses or
changes in internal control that, or that are reasonably likely to, materially
affect internal control over financial reporting.  A “material
weakness” is a significant deficiency or combination of significant deficiencies
that results in more than a remote likelihood that a material misstatement of
the annual or interim financial statements will not be prevented or
detected.  Based on the restatements to our financial statements
referenced above, our management concluded that our system of internal control
over financial reporting was not effective as of June 30, 2010, in addition to
prior period end dates, which were the cause of our restatements as described
above.  Although management does not anticipate making any further
restatements to the financial statements for subsequent periods, management
believes that our weakness in internal controls continued during such
periods.  Management has identified internal control deficiencies
which, in management’s judgment, represent material weaknesses in internal
control over financial reporting.  The control deficiencies related to
controls over the accounting and disclosure for transactions to ensure such
transactions were recorded as necessary to permit preparation of financial
statements and disclosure in accordance with GAAP. If we fail to comply with the
requirements of Section 404 of the Sarbanes-Oxley Act of 2002 or report a
material weakness, we might be subject to regulatory sanction and investors may
lose confidence in our financial statements, which may be inaccurate if we fail
to remedy such material weakness.


38


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





None.





ITEM 3.
            DEFAULTS
      UPON SENIOR SECURITIES





None.





ITEM 4.
            REMOVED
      AND RESERVED





None.





ITEM 5.
              OTHER
      INFORMATION
   Item 1.01 Entry into a Material Definitive
Agreement.
  On August
11, 2010, the Company entered into a stock purchase agreement (the “Agreement”)
with First Jet Investments Limited, a company organized under the laws of the
British Virgin Islands (“First Jet”), New Crown Technology Limited, First Jet’s
wholly-owned subsidiary (“New Crown”) and Mr. Jun Tang, the principal of First
Jet and New Crown.
   The
description of the Agreement set forth herein is a summary of the principal
terms of the Agreement, a copy of which is filed as Exhibit 10.1 to this
Quarterly Report on Form 10-Q and is incorporated herein by
reference.
  Upon the
terms and subject to the conditions set forth in the Agreement, which has been
approved by the board of directors of the Company and Mr. Jun Tang, First Jet
will sell to the Company (the “Stock Sale”) 60% of the issued and outstanding
shares of New Crown, the holder of 100% of the equity interests of Shanghai
ConnGame Network Ltd. (“ConnGame”), for 25,000,000 shares of the Company’s
Common Stock, $0.001 par value per share. ConnGame is a company organized under
the laws of the People’s Republic of China with a registered capital of RMB
10,000,000.
  Under the
Agreement, the obligation of each of First Jet and the Company to consummate the
Stock Sale is conditioned upon First Jet’s delivery of certificate of capital
and proof of transfer of equity of New Crown to the Company, regulatory
approvals, and other customary closing conditions, such as the accuracy of the
representations and warranties of the other party, and performance in all
material respects by the other party of its obligations under the
Agreement.
  First Jet
and Mr. Jun Tang have entered into various covenants in the Agreement,
including, among others, covenants that it will not, without prior written
consent of the Company, for a period of three years after the date of closing,
either solely or jointly with any other person to (i) engage in any business
which may be in competition within Hong Kong or PRC with ConnGame in the
carrying on of the business (ii) solicit or entice away from ConnGame any
employee, officer, manager or consultant (ii) deal with or approach for business
in respect of any trade or business carried on by ConnGame any person who at
closing or within two years prior to closing was a customer, supplier, client or
agent or in the habit of dealing under contract with ConnGame. First Jet and Mr.
Jun Tang further covenants to the Company that (i) it will not at any time
hereafter make use or disclose to any person other than to the officers or
employees of ConnGame any information relating to ConnGame (ii) it will not any
time hereafter in relation to any trade, business or company use a name
including the word or symbol “ConnGame” or any other trademark listed in Section
3.01(y) of the Agreement or any Chinese equivalent (iii) it will not do anything
that might prejudice the goodwill of ConnGame and (iv) it will procure that its
affiliates and their respective employees will observe the restrictions
described above. First Jet and Mr. Jun Tang have also agreed to coordinate any
and all required compliance with relevant PRC laws and regulations and to comply
with the terms and conditions of the waiver agreement entered into on July 13,
2010 between the Company and the holders of the Company’s outstanding Variable
Rate Convertible Bonds due 2012.
  The
Agreement contains representations and warranties of First Jet, including, among
others, with respect to regulatory matters, financial statements and absence of
undisclosed liabilities, litigation, material contracts, compliance with law and
possession of insurance, taxes, employee benefits, environmental matters,
intellectual property matters, real estate matters, accuracy of governmental
filings, accuracy of books and records. Warranties of the Company include
representations regarding its corporate status, corporate authority, litigation,
and the valid issuance of its common stock. The Agreement contains
indemnification obligations of each party with respect to breaches of
representations, warranties and covenants and certain other specified
matters.


Item
2.02 Results of Operations and Financial Condition.
 
 On August
16, 2010, the Company issued a press release announcing its financial results
for the second quarter ended June 30, 2010.  A copy of the July 20,
2010 press release is attached to this Quarterly Report on Form 10-Q as Exhibit
99.1 and the information therein is incorporated herein by
reference.
 
 Item
3.02 Unregistered Sales of Equity Securities.
 
 As
described under Item 1.01, above, the Company will issue 25,000,000 shares of
the Company’s common stock, par value $0.001, to First Jet in exchange for 60%
equity interest holding in New Crown, which is the 100% equity holder of
ConnGame.  The issuance of the shares will take place upon the closing
of the acquisition in accordance with the terms of the stock purchase
agreement.  The shares are expected to be issued in reliance upon an
exemption from registration pursuant to Regulation S of the Securities Act of
1933, as amended. The Company intends to comply with the conditions of Rule 903
as promulgated under the Securities Act including, but not limited to, the
following: (i) the recipient of the shares is a non-U.S. resident and will not
offered or sold their shares in accordance with the provisions of Regulation S;
(ii) an appropriate legend will be affixed to the securities issued in
accordance with Regulation S; (iii) the recipient of the shares will represent
that it is not acquiring the securities for the account or benefit of a U.S.
person; and (iv) the recipient of the shares will agree to resell the securities
only in accordance with the provisions of Regulation S, pursuant to a
registration statement under the Securities Act of 1933, as amended (the
“Securities Act”), or pursuant to an available exemption from registration. The
Company will refuse to register any transfer of the shares not made in
accordance with Regulation S, after registration, or under an
exemption.
 
 Item
5.02 Departure of Directors or Certain Officers; Election of Directors;
Appointment of Certain Officers; Compensatory Arrangements of Certain
Officers.
 
 On August
10, 2010, the Board of the Company, as contemplated by the stock purchase
agreement, approved the appointment of Mr. Jun Tang as a member and Chairman of
the Board of Directors of the Company upon the closing of the
acquisition.  Prior to Mr. Jun Tang’s appointment, Luo Ken Yi will
resign as Chairman of the Board of Directors but will remain as a member of the
Board and Chief Executive Officer of the Company.  In addition, Mr.
Tang Nianzhong, a current member of the Board of Directors, will resign from the
Board to ensure that the Company has a majority of independent directors on the
Board in compliance with Nasdaq continued listing standards.
 
 Mr. Jun
Tang, is the sole shareholder of First Jet, as Chairman of the Board. Mr. Jun
Tang, 47, currently serves as the President and Chief Executive Officer of New
Huadu Group, Fujian. From 2004 to 2008, Mr. Tang served as President of Shanghai
SNDA (Nasdaq: SNDA), an interactive entertainment media company in China. Prior
to that, he served as President of Microsoft China Co., Ltd from 2002 to 2004.
From 1997 to 2002, he served as General Manager of Microsoft Global Technical
Engineering Center, and from 1994 to 1997 he served as Senior Project Manager
for Microsoft US. Mr. Tang received his doctorate degree, master’s degree and
bachelor’s degree in the U.S. and China, respectively.
 
 Item
7.01 Regulation FD Disclosure.
 
 The
information under Item 2.02, above, is incorporated herein by
reference.
 
 The
information reported under Items 2.02 and 7.01 in this Quarterly Report on Form
10-Q, including Exhibit 99.1 attached hereto, shall not be deemed filed for
purposes of Section 18 of the Securities Exchange Act of 1934, as amended (the
“Exchange Act”)
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, as
amended, or the Exchange Act, regardless of any general incorporation language
in such filing.




ITEM 6.
                                  EXHIBITS10.1
                                  Stock
      Purchase Agreement dated August 11, 2010,
      among China Architectural Engineering, Inc., First Jet Investments
      Limited, New Crown Technology Limited and Jun
  Tang31.1
                                  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 and Chief Financial Officer Pursuant to Section
      906 of the Sarbanes-Oxley Act of 2002.*99.1
                                  Press
      Release issued August 16,
2010.*




*
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.


39


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)August
      16, 2010
              By:
              /s/  Luo Ken
YiLuo
      Ken YiChief
      Executive Officer and Chairman of the
Board




40