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, 2011




 ̈
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934




For the transition period from _________________ to _________________




Commission File Number: 000-54076





FIRST CHINA PHARMACEUTICAL GROUP, INC.


(Exact name of registrant as specified in its charter)




Nevada

74-3232809(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification Number)





Number 504, West Ren Min Road,


Kunming City, Yunnan Province


People’s Republic of China, 650000


(Address of principal executive offices)





852-2138-1668


(Registrant’s telephone number, including area code)




Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Sections 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 definitions of “larger 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   ̈
Smaller reporting company  x(Do not check if a smaller reporting 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




The number of shares outstanding of the registrant’s common stock at August 15, 2011 was 59,664,480.












INDEX





PagePART I - FINANCIAL INFORMATIONITEM 1.
FINANCIAL STATEMENTS
3Unaudited Consolidated Balance Sheets as of June 30, 2011 and December 31, 2010
3Unaudited Consolidated Statements of Income and Comprehensive Income for the Three and Six Months Ended June 30, 2011 and 2010
5Unaudited Consolidated Statements of Shareholders’ Equity
6Unaudited Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2011 and 2010
7Notes to Unaudited Consolidated Financial Statements
9ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
26ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
33ITEM 4.
CONTROLS AND PROCEDURES
33PART II - OTHER INFORMATIONITEM 1.
LEGAL PROCEEDINGS
35ITEM 1A.
RISK FACTORS
35ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
35ITEM 3.
DEFAULTS UPON SENIOR SECURITIES
35ITEM 4.
REMOVED AND RESERVED
35ITEM 5.
OTHER INFORMATION
35ITEM 6.
EXHIBITS
35SIGNATURES
36




i


Cautionary Notice Regarding Forward-Looking Statements





In this Quarterly Report on Form 10-Q, references to “dollars” and “$” are to United States dollars and, unless otherwise indicated, references to “we,” “our,” “us,” the “Company,” “FCPG,” or the “Registrant” refer to First China Pharmaceutical Group, Inc., a Nevada corporation and its wholly owned subsidiaries, First China Pharmaceutical Group Limited, a Hong Kong company, and Kun Ming Xin Yuan Tang Pharmacies Co. Ltd., a company organized under the laws of the People’s Republic of China.





This Quarterly Report contains certain forward-looking statements.  When used in this Quarterly Report, statements which are not historical in nature, including the words “anticipate,” “estimate,” “should,” “expect,” “believe,” “intend,” “may,” “project,” “plan” or “continue,” and similar expressions are intended to identify forward-looking statements.  They also include statements containing anticipated business developments, a projection of revenues, earnings or losses, capital expenditures, dividends, capital structure or other financial terms.





The forward-looking statements in this Quarterly Report are based upon management’s beliefs, assumptions and expectations of our future operations and economic performance, taking into account the information currently available to them.  These statements are not statements of historical fact.  Forward-looking statements involve risks and uncertainties, some of which are not currently known to us that may cause our actual results, performance or financial condition to be materially different from the expectations of future results, performance or financial condition we express or imply in any forward-looking statements.  These forward-looking statements are based on our current plans and expectations and are subject to a number of uncertainties and risks that could significantly affect current plans and expectations and our future financial condition and results.





We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.  In light of these risks, uncertainties and assumptions, the forward-looking events discussed in this filing might not occur.  We qualify any and all of our forward-looking statements entirely by these cautionary factors.  As a consequence, current plans, anticipated actions and future financial conditions and results may differ from those expressed in any forward-looking statements made by or on our behalf.  You are cautioned not to unduly rely on such forward-looking statements when evaluating the information presented herein.


2


PART I. FINANCIAL INFORMATION




ITEM 1.          FINANCIAL STATEMENTS




FIRST CHINA PHARMACEUTICAL GROUP, INC.


CONSOLIDATED BALANCE SHEETS


AS OF JUNE 30, 2011 AND DECEMBER 31, 2010


(Stated in US Dollars)





As of


As ofJune 30, 2011


December 31, 2010Notes


(Unaudited)


(Unaudited)$


$ASSETSCurrent AssetsCash and cash equivalents





1,026,522



1,125,057Restricted cash





1,086,594



503,118Account receivables





1,371,912



2,385,820Other receivables





1,638,251



17Due from a related party

3



1,932,077



-Prepayment

4



5,068,175



-Deferred expenses

5



207,195



-Inventories





1,252,704



6,912,658Total Current Assets





13,583,430



10,926,670Non-current AssetsDue from a related party, non-current

3



20,624,448



17,011,021Deferred expenses, non-current

5



494,420



-Plant and equipment, net

6



13,268



5,605Intangible assets, net

7



98,636



2,268Total Non-current Assets





21,230,772



17,018,894Total Assets





34,814,202



27,945,564





See accompanying notes to the financial statements


3


FIRST CHINA PHARMACEUTICAL GROUP, INC.





CONSOLIDATED BALANCE SHEETS


AS OF JUNE 30, 2011 AND DECEMBER 31, 2010


(Stated in US Dollars)





As of


As ofJune 30, 2011


December 31, 2010Notes


(Unaudited)


(Unaudited)$


$LIABILITIES AND STOCKHOLDERS’ EQUITYCurrent LiabilitiesShort-term borrowings





772,606



812,491Account payable





-



10,250Other payable and accrued liabilities

8



13,625,284



12,547,659Due to a related party

3



229,844



12,752Notes payable

9



2,693,306



1,266,905Income tax payable





3,453,068



3,114,235Total Current Liabilities





20,774,108



17,764,292Non-current LiabilitiesConvertible Promissory Notes

10



891,228



772,592Total Non-current Liabilities





891,228



772,592Total Liabilities





21,665,336



18,536,884STOCKHOLDERS’ EQUITYCommon stock$0.001 par value; 200,000,000 shares authorized; 59,664,480 shares issued and outstanding as of June 30, 2011;55,000,000 shares issued and outstanding as of December 31, 2010 respectively.

11



59,664



55,000Treasury stock

12



5,000



5,000Additional paid-in capital

11



3,695,982



11,575Reserve

13



8,169,832



-Retained earnings





740,034



9,041,827Accumulated other comprehensive income- foreign currency translation adjustments





478,354



295,278Total Stockholders’ Equity





13,148,866



9,408,680Total Liabilities and Stockholders’ Equity





34,814,202



27,945,564





See accompanying notes to the financial statements


4


FIRST CHINA PHARMACEUTICAL GROUP INC.





CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010 - Unaudited


(Stated in US Dollars)





Notes


Three months ended June 30


Six months ended June 302011


2010


2011


2010$


$


$


$Net sales





11,634,463



7,178,612



19,727,527



13,878,888Costs of sales





(10,292,859
)


(5,928,686
)


(17,891,272
)


(11,444,144
)Gross Profit





1,341,604



1,249,926



1,836,255



2,434,744Selling expenses





(50,504
)


(7,185
)


(694,627
)


(12,142
)Administrative expenses





(475,163
)


(36,429
)


(1,001,928
)


(76,514
)Income/(Loss) from Operation





815,937



1,206,312



139,700



2,346,088Other income /(expenses)





74,697



(21,220
)


93,796



(91,977
)Interest income





1,005



3,650



6,307



4,951Interest expense





(54,043
)


(11,837
)


(77,797
)


(21,585
)Income/(Loss) before Tax





837,596



1,176,905



162,006



2,237,477Income tax


14



(214,210
)


(294,226
)


(293,967
)


(559,369
)Net Income/(Loss)






623,386



882,679



(131,961
)


1,678,108Other Comprehensive Income-Foreign currencytranslation adjustments






149,492



16,447



183,076



31,268Total Comprehensive Income






772,878



899,126



51,115



1,709,376Basic Earnings/(Loss) per Share


17Weight average number ofcommon shares outstanding






59,510,035



45,000,000



57,418,241



45,000,000Earnings per share






0.0130



0.0200



0.0009



0.0380Diluted Earnings/(Loss) per Share


17Weight average number ofcommon shares outstanding






68,363,699



45,000,000



62,132,501



45,000,000Earnings per share






0.0116



0.0200



0.0008



0.0380





See accompanying notes to the financial statements


5


FIRST CHINA PHARMACEUTICAL GROUP INC.





CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010 - Unaudited


(Stated in US Dollars)





Common stock





Additional








Other comprehensive incomeNotes


Shares


Amount


Treasury

Shares


paid-in

capital


Reserve


Retained

Earnings


Foreign currency

transaction adjustment


Total$


$


$


$


$


$


$Balance as of January 1, 2010





45,000,000



45,000



-



221,101



-



4,692,321



117,151



5,075,573Net income





-



-



-



-



-



1,678,108



-



1,678,108Foreign currency translationAdjustments





-



-



-



-



-



-



31,268



31,268Balance as of June 30, 2010





45,000,000



45,000



-



221,101



-



6,370,429



148,419



6,784,949Balance as of January 1, 2011





55,000,000



55,000



5,000



11,575



-



9,041,827



295,278



9,408,680Equity component of issuedconvertible notes


10



-



-



-



24,842



-



-



-



24,842Issuance of private offering units


11



4,277,812



4,278



-



3,523,951



-



-



-



3,528,229Share-based payment for consultant fee


11



200,000



200



-



135,800



-



-



-



136,000Share-based payment for service on private offering units


11



186,668



186



-



(186
)


-



-



-



-Net loss






-



-



-



-







(131,961
)


-



(131,961
)Appropriation of reserves


13



-



-



-



-



8,169,832



(8,169,832
)


-



-Foreign currency translationAdjustments






-



-



-



-



-



-



183,076



183,076Balance as of June 30, 2011






59,664,480



59,664



5,000



3,695,982



8,169,832



740,034



478,354



13,148,866





See accompanying notes to the financial statements


6


FIRST CHINA PHARMACEUTICAL GROUP, INC.





CONSOLIDATED STATEMENT OF CASH FLOWS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010 - Unaudited


(Stated in US Dollars)





Six Months Ended June 302011


2010$


$Cash Flows from Operating ActivitiesNet income (loss)


(131,961
)


1,678,108Adjustments to reconcile net income to net cash provided by operating activities:Depreciation and amortization


2,932



1,491Interest expense on convertible notes


8,477



-Shared based payments expense


11,332



-Changes in operating assets and liabilities:Due from related parties


(4,991,949
)


-Other receivable


(1,636,187
)


(2,363,098
)Deferred expenses


(700,705
)


-Account Receivables


1,018,641



-Prepayment


(4,937,108
)


-Inventories


5,724,717



(2,971,002
)Other payable and accrued liabilities


901,077



2,667,933Notes payable


1,394,991



-Income tax payable


293,967



-Net cash used in operating activities


(3,041,776
)


(986,568
)Cash Flows from Investing ActivitiesAdditions in plant and equipment


(11,766
)


-Additions in intangible assets


(95,000
)


-Net cash used in investing activities


(106,766
)


-


7


FIRST CHINA PHARMACEUTICAL GROUP, INC.





CONSOLIDATED STATEMENT OF CASH FLOWS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010 - Unaudited


(Stated in US Dollars)





Six Months Ended June 302011


2010$


$Cash flows from financing activitiesNew borrowings raised


-



146,868Repayment of borrowings


(52,457
)


(23,675
)Net proceed from convertible notes


135,000



-Net proceed from private offering units


3,528,230



-Decrease (increase) in restricted cash


(570,867
)


808,439Net cash provided by financing activities


3,039,906



931,632Effect of foreign currency translation on cash and cash Equivalents


10,102



35,142Net increase/(decrease) in cash and cash equivalents


(98,534
)


(19,794
)Cash and cash equivalents - beginning of period


1,125,056



35,142Cash and cash equivalents at the end of period


1,026,522



15,348Supplemental disclosures for cash flow information:Cash paid for:Interest


23,461



21,585





See accompanying notes to the financial statement


8


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)




1.           ORGANIZATION AND PRINCIPAL ACTIVITIES





First China Pharmaceutical Group, Inc., (the “Company”), incorporated in Nevada as of July 31, 2007, is a public reporting “shell company”, as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended. As of May 14, 2010, the Company amended its Articles of Incorporation to change its name from “E-Dispatch Inc.” to “First China Pharmaceutical Group, Inc.”.





First China Pharmaceutical Group limited (the “FCPG HK”) was incorporated in Hong Kong as of April 29, 2010 under the Companies Ordinance of Hong Kong. As of September 15, 2010, the Company issued 15,000,000 shares in exchange for 100% of the issued and outstanding common stock of FCPG HK. The newly issued shares represented 25% of the Company’s issued and outstanding common stock.





Kun Ming Xin Yuan Tang Pharmacies Co. Ltd. (“XYT”) was established under the laws of the People’s Republic of China (“PRC”) as of November 12, 2002 with a paid-in capital of RMB 2,000,000 as of December 31, 2010. As of June 25, 2010, FCPG HK acquired XYT, which became FCPG HK’s wholly owned subsidiary.





The Company and the Subsidiaries (collectively the “Group”) are principally engaged in drug logistics and distribution in Yunnan Province, China through drug stores, medical clinics and hospitals.





On May 6, 2011, the Company's Board of Directors changed the Company’s fiscal year end from March 31 to December 31, effective immediately.





2.           SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES





(a)          Basis of Preparation and Presentation





As of September 15, 2010, the Company acquired FCPG HK and XYT. The Company was a shell company and its accounting acquirer is FCPG HK and XYT on the date before September 15, 2010. According to the division of Corporation Finance Financial Reporting Manual 1170.1, financial information of a registrant’s predecessor is required for all periods prior to the succession, with no lapse in audited periods or omission of other information required about the registrant. Any interim period of the predecessor prior to its acquisition by the registrant should be audited when audited financial statements for the period after the acquisition are presented. Schedules required by S-X Article 12 are required for predecessor entities.





The Share Exchange is being accounted for as a reverse acquisition presumed to be effected on June 30, 2010 instead of September 15, 2010. The statements of balance sheet as of June 30, 2011, the statement of income and comprehensive income for the three months and six months ended June 30, 2011 and the statements of stockholders’ equity and cash flows for the six months ended June 30, 2011 have been prepared for the Group.


9


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES(CONT’D)





(a)          Basis of Preparation and Presentation (Cont’d)





The statements of balance sheet as of June 30, 2010, the statement of income and comprehensive income for the three months and six months ended June 30, 2010 and the statements of stockholders’ equity and cash flows for the six months ended June 30, 2010 have been prepared for the predecessor, XYT on a comparative basis.Information presented for comparative purposes in the consolidated financial statements is also to be retroactively adjusted to reflect the legal parent’s (the Company’s) legal capital.





The Group’s consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America to illustrate predecessor and successor financial information.





This basis of accounting differs in certain material respects from that used for the preparation of the books of account of the Group, which are prepared in accordance with the accounting principles and the relevant financial regulations applicable to enterprises with limited liabilities established in the PRC (“PRC GAAP”), the accounting standards used in the places of their domicile.  The accompanying financial statements reflect necessary adjustments recorded in the books of account of the Group to present them in conformity with US GAAP.





In the opinion of the management of the Group, all adjustments, which are of a normal recurring nature, necessary for a fair statement of the results for the years have been made.





(b)          Use of Estimates





In preparing the financial statements in conformity with accounting principles generally accepted in the United States of America, management makes estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the dates of the financial statements, as well as the reported amounts of revenues and expenses during the reporting periods. These accounts and estimates include, but are not limited to, the valuation of due from related parties, inventories and the estimation on useful lives of plant and machinery and intangible assets. Actual results could differ from those estimates.





(c)          Concentration of Credit Risk





Financial instruments that potentially expose the Group to concentrations of credit risk consist primarily of cash and cash equivalents, other receivable, restricted cash and due from related parties. The Group places its cash with financial institutions with high-credit ratings and quality. The Group conducts periodic reviews of the related party financial conditions and payment practices.





No single external customer exceeded 5% of the Group’s total revenue for the periods presented.


10


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES(CONT’D)





(d)          Cash and Cash Equivalents





The Company relies on supplies from numerous vendors. There is no single vendor that exceeded 5% of the Group’s total purchase for the six months ended June 30, 2011.





The Group considers all highly liquid investments with initial maturities of six months or less to be cash equivalents.





(e)          Restricted Cash





Deposits in banks for securities of notes payable that are restricted in use are classified as restricted cash under current assets.





(f)          Trade and Other Receivables





Trade and other receivables are recognized initially at fair value and subsequently measured at amortized cost using the effective interest method, less allowance for impairment. An allowance for impairment of trade and other receivables is established when there is objective evidence that the Group will not be able to collect all amounts due according to the original terms of receivables. The amount of the allowance is the difference between the receivable’s carrying amount and the present value of estimated future cash flows, discounted at the effective interest rate computed at initial recognition. The amount of the allowance is recognized in the statement of income and comprehensive income.





(g)          Inventories





Inventories are finished goods purchased from outsiders of the Company and stated at the lower of cost and net realizable value. Cost is determined using the weighted average basis. The cost of inventories, principally comprising purchase cost and other costs incurred in bringing the inventories to their present location and condition. Net realizable value is the estimated selling price in the ordinary course of business, less the estimated costs of completion and the estimated costs necessary to make the sale.


11


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES(CONT’D)





(h)         Plant and Equipment





Plant and equipment are stated at cost less depreciation and accumulated impairment loss. Cost represents the purchase price of the asset and other costs incurred to bring the asset into its existing use. Maintenance, repairs and betterments, including replacement of minor items, are charged to expense; major additions to physical properties are capitalized.





Depreciation of plant and equipment is calculated to written off the cost, less their estimated residual value, if any, using the straight-line method over their estimated useful lives. The principal depreciation periods are as follows:





Office equipment
3 yearsOther equipment
5 years





(i)          Intangible Assets





Intangible assets are stated at cost less amortization and accumulated impairment loss. The intangible assets of the Group represent software in used.  The intangible assets are amortized over their estimated useful lives of 10 years using the straight-line method.





(j)          Revenue Recognition





Revenue from sales of the Group’s products is recognized when the significant risks and rewards of ownership have been transferred to the buyer at the time of delivery and the sales price is fixed or determinable and collection is reasonably assured.





When the customers checked and accepted the products, the collection is reasonably assured. Since the nature of the products, the type of their customers and their distribution methods are substantially similar, the revenue recognition policy on variable products is the same.


12


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)




2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES(CONT’D)





(k)         Income taxes





The Group uses the asset and liability method of accounting for income taxes pursuant to SFAS No. 109 “Accounting for Income Taxes”.  Under the asset and liability method of SFAS 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statements carrying amounts of existing assets and liabilities and loss carry forwards and their respective tax bases.  Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.





(l)          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 financial statements. The Group’s current component of other comprehensive income is the foreign currency translation adjustments.




13


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES(CONT’D)





(m)         Foreign Currency Translation





The Group maintains its financial statements in the functional currency. The functional currency of the Company is US dollar (“USD”, “$”), the functional currency of FCPG HK is Hong Kong dollar (“HKD”), and the functional currency of XYT is Renminbi (“RMB”). Monetary assets and liabilities denominated in currencies other than the functional currency are translated into the functional currency at rates of exchange prevailing at the balance sheet dates. Transactions denominated in currencies other than the functional currency are translated into the functional currency at the exchanges rates prevailing at the dates of the transaction. Exchange gains or losses arising from foreign currency transactions are included in the determination of net income for the respective periods.





For financial reporting purposes, the financial statements of the Company, FCPG HK and XYT which are prepared using the functional currency have been translated into USD. Assets and liabilities are translated at the exchange rates at the balance sheet dates and revenue and expenses are translated at the average exchange rates and stockholders’ equity is translated at historical exchange rates. Any translation adjustments resulting are not included in determining net income but are included in foreign exchange adjustment to other comprehensive income, a component of stockholders’ equity.





HKD is pegged to USD and hence there is no significant translation adjustment impact on these financial statements.





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 USD at the rates used in translation.





(n)          Financial instruments





The carrying amounts of all financial instruments approximate fair value. The carrying amounts of cash and cash equivalents, restricted cash, due from (to) a related party, notes payable, other payable and accrued liabilities and income tax payable approximate their fair values due to the short-term nature of these items. The carrying amounts of short-term borrowings approximate the fair value based on the Company’s expected borrowing rate for debt with similar remaining maturities and comparable risk.





It is management’s opinion that the Company is not exposed to significant interest, price or credit risks arising from these financial instruments.


14


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





2.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES(CONT’D)





(o)         Recent Accounting Pronouncements





In January 2010, the FASB issued ASU No. 2010-06 “Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements”. This update provides amendments to Subtopic 820-10 that required new disclosures for 2 situations. i) A reporting entity should disclose separately the amount of significant transfer in and out of Level 1 and 2 fair value measurements and describe the reasons for the transfers. ii) In the reconciliation for fair value measurements using significant unobservable inputs (Level 3), a reporting entity should present separately information about purchases, sales, issuance, and settlements. None of the new pronouncements has current application to the Company.





In February 2010, the FASB issued ASU No. 2010-09 “Subsequent Events (Topic 855): Amendments to Certain Recognition and Disclosure Requirements”. This Update provides amendments to i)An entity that either (a) is an SEC filer or (b) is a conduit bond obligor for conduit debt securities that are traded in a public market (a domestic or foreign stock exchange or an over-the-counter market, including local or regional markets) is required to evaluate subsequent events through the date that the financial statements are issued. If an entity meets neither of those criteria, then it should evaluate subsequent events through the date the financial statements are available to be issued. ii)The glossary of Topic 855 is amended to include the definition of SEC filer. iii)An entity that is an SEC filer is not required to disclose the date through which subsequent events have been evaluated. iv)The glossary of Topic 855 is amended to remove the definition of public entity. v)The scope of the reissuance disclosure requirements is refined to include revised financial statements only.


15


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





2.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONT’D)





(o)         Recent Accounting Pronouncements (Cont’d)





In May 2010, the FASB issued ASU No. 2010-19 “Foreign Currency (Topic 830): Foreign Currency Issues: Multiple Foreign Currency Exchange Rates (SEC Update)”. The purpose of this Update is to codify the SEC Staff Announcement made at the March 18, 2010 meeting of the FASB Emerging Issues Task Force (EITF) by the SEC Observer to the EITF. The Staff Announcement provides the SEC staff’s view on certain foreign currency issues related to investments in Venezuela. None of the new pronouncements has current application to the Company.





In December 2010, the FASB issued Update No. 2010-28 “Intangibles—Goodwill and Other (Topic 350): When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts”. The amendments in this Update modify Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. In determining whether it is more likely than not that a goodwill impairment exists, an entity should consider whether there are any adverse qualitative factors indicating that an impairment may exist. The qualitative factors are consistent with the existing guidance and examples in paragraph 350-20-35-30, which requires that goodwill of a reporting unit be tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. For nonpublic entities, the amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. Nonpublic entities may early adopt the amendments using the effective date for public entities.





The Company does not anticipate that the adoption of the above recent accounting pronouncements will have a material impact on these financial statements.


16


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





3.           RELATED PARTIES





Due from a related party


The amount due from a related party, which is held by an executive officer of the Company as of June 30, 2011, is at a monthly interest rate of 1% from May 12, 2011 to November 12, 2011.





The amount due from a related party, non-current, who is a major shareholder of the Company as of June 30, 2011, is interest free, unsecured and repayable on demand. The amount solely represents the net balance of trade receivables and trade payables where the shareholder had collected and settled on behalf of XYT, up to September 30, 2010.





Due to a related party


The amount due to a related party, who is an executive officer of the Company as of June 30, 2011, is interest free, unsecured and repayable on demand.





Related parties transactions


As of September 30, 2010, FCPG HK purchased from its former shareholder, an amount of $6,153,178 of the inventory which had all been sold out by FCPG HK before June 30, 2011.





As of


As ofJune 30,


December 31,2011


2010$


$Due from a related party, non-currentTo: XYT


26,777,626



17,011,021To: FCPG-HK


(6,153,178
)


-Total


20,624,448



17,011,021




17


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





4.          PREPAYMENT





As of


As ofJune 30,


December 31,2011


2010$


$Prepayment for material purchase


4,237,824



-Prepayment for website system development


698,542



-Prepayment for new office decoration


100,000



-Others


31,809



-Total


5,068,175



-




5.          DEFERRED EXPENSES





As of


As ofJune 30,


December 31,2011


2010$


$Deferred service charge for medical agent


549,520



-Deferred consultant service charge


124,667



-Others


27,428



-701,615



-Less: current portion


(207,195
)


-Deferred expenses, non-current


494,420



-





The amortization of deferred service charge for medical agent, with a 5-year amortization period, is $9,302 for the six months ended June 30, 2011.


The amortization of deferred consultant service charge, with a 2-year amortization period, is $73,667 for the six months ended June 30, 2011.




18


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





6.           PLANT AND EQUIPMENT, NET





As of


As ofJune 30,


December 31,2011


2010$


$CostOffice equipment


31,348



13,199Other equipment


23,251



30,631Total cost


54,599



43,830Accumulated depreciation


(41,331
)


(38,225
)Property, plant and equipment, net


13,268



5,605





7.           INTANGIBLE ASSETS, NET





As of


As ofJune 30,


December 31,2011


2010$


$Cost


110,218



8,426Accumulated amortization


(11,582
)


(6,158
)Intangible assets, net


98,636



2,268





8.           OTHER PAYABLE AND ACCRUED LIABILITIES





As of


As ofJune 30,


December 31,2011


2010$


$Value added tax payable


11,442,179



11,179,905Other payables


2,183,105



1,367,75413,625,284



12,547,659




19


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





9.           NOTES PAYABLE





The notes payable which were issued by the Company with bank guarantees are secured by the restricted cash.





10.         CONVERTIBLE PROMISSORY NOTES





On October 3, 2010, we issued a convertible promissory note to in the principal amount of up to $400,000, with interest on the unpaid principal at a rate of 5.0% simple interest per annum.  The Note matures on October 3, 2015.  The outstanding principal and accrued but unpaid interest thereon may be converted (1) upon a qualified debt or equity financing, in which case the holder of the Note would receive for the same promissory note or class and series of stock, respectively, issued in such qualified financing; (2) upon mutual agreement by the holder and the Company, in which case the holder would receive a number of shares of common stock based on a conversion price equal to the trailing volume weighted average price; or (3) upon a reorganization, consolidation or merger of the Company, in which case the holder would receive a number of shares of common stock based on a conversion price equal to the trailing volume weighted average price. On October 4, 2010, the note was assigned to another party. (the Note I”), and on January 21, 2011, the note holder agreed to extend the total funds available to the Company to $500,000.  As of June 30, 2011, the Company has drawn $495,000 under Note I and no share conversion occurred.





On December 22, 2010, we issued a convertible promissory note (“Note II”) in the principal amount of $500,000, with interest on the unpaid principal at a rate of 5.0% simple interest per annum.  The Note matures on December 22, 2015.  The outstanding principal and accrued but unpaid interest thereon may be converted (1) upon a qualified debt or equity financing, in which case the holder of the Note would receive for the same promissory note or class and series of stock, respectively, issued in such qualified financing; (2) upon mutual agreement by the holder and the Company, in which case the holder would receive a number of shares of common stock based on a conversion price equal to the trailing volume weighted average price; or (3) upon a reorganization, consolidation or merger of the Company, in which case the holder would receive a number of shares of common stock based on a conversion price equal to the trailing volume weighted average price. As of June 30, 2011, the Company has drawn $500,000 under the Note and no share conversion occurred.




20





FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





10.
CONVERTIBLE PROMISSORY NOTES (Cont’d)





The discount rate of the convertible promissory notes were calculated based on the 5-year bank loan interest yield rate and the treasury yield rate by 6.87%~8.67% per annum under the Note I due to different issuance date and 7.98% per annum under the Note II. The discount amounts on the convertible promissory notes were allocated to the additional paid-in capital.





The details of convertible promissory notes as of June 30, 2011 are as follows





As of June 30, 2011Note I


Note II


TotalConvertible notes payable:-par value


495,000



500,000



995,000-discount on liabilities


(54,224
)


(59,523
)


(113,747
)-interest payable adjustment


4,691



5,284



9,975445,467



445,761



891,228


21


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





11.
COMMON STOCK





As of June 30, 2010, the Company had 100,000,000 common shares authorized. As of June 25, 2010, the Company’s stockholders approved a proposal to amend the Company’s articles of incorporation to increase the total number of authorized shares of common stock from 100,000,000 to 200,000,000. The effective date of the amendment was June 29, 2010. As of June 30, 2011, the Company had 200,000,000 common shares authorized.





Reorganization of FCPG HK and XYT on reverse acquisition


On August 23, 2010, the Company entered into a voluntary share exchange agreement with FCPG HK Group (Exchange Agreement). Accordingly, an additional 15,000,000 shares of the Company would be issued to the sole selling shareholder of FCPG HK Group, in exchange for 100% of the issued and outstanding common stock of FCPG HK Group. The newly issued shares would represent 25% of the Company’s issued and outstanding common stock. The issuance date was September 15, 2010.





Issuance of private offering units





Between March 18, 2011 and April 15, 2011, the Company entered into a form of Securities Purchase Agreement (the “SPA”) with certain accredited investors (the “Purchasers”) for the issuance and sale of one hundred and fifty four (154) Units of the Company at a purchase price of $25,000 per Unit (the “Private Offering”), for aggregate consideration of $3,850,000.





Each “Unit” is comprised of (i) 27,778 shares of Company common stock, $0.001 par value per share (the “Common Stock,” and the shares of Common Stock offered referred to as the “Shares”), (ii) warrants to purchase 27,778 shares of Common Stock at an exercise price of $1.25 per share (the “Series A-1 Warrants”), and (iii) warrants to purchase 27,778 shares of Common Stock at an exercise price of $2.00 per share (the “Series A-2 Warrants”) (the Series A-1 Warrants and the Series A-2 Warrants, collectively, the “Warrants”).  The Warrants expire four (4) years from the date of issuance, subject to early termination or forfeiture in accordance with certain terms and conditions of the Warrants.





Each of the Purchasers executed an SPA and each Purchaser represented to the Company that such investor is an “accredited investor” as defined in Rule 501(a) of Regulation D of the Securities Act of 1933.  The Company expects to use the net proceeds of the Private Offering, totaling $3,633,500 after deducting for certain costs and expenses of the Private Offering, for general corporate purposes, which may include funding working capital needs, marketing, acquisitions and expansion, and to further the operations of the Company.  An aggregate of 4,464,480 Shares, 4,464,480 Series A-1 Warrants and 4,464,480 Series A-2 Warrants were issued in connection with the Private Offering.





The fair value on the Warrants was calculated under Black-Scholes Model.





Share-based payment for consultant service


As of May 6, 2011, the Company entered into a Board Advisory Agreement (the “Agreement”) with Jack Zwick, whereby Mr. Zwick consented to serve as a director of the Company.  Pursuant to the Agreement, Mr. Zwick will received two hundred thousand (200,000) shares of Company common stock, vesting monthly over a period of two years, in connection with his service as a director and a consulting fee of $2,000 per month.


22


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





12.
TREASURY SHARES





As of November 17, 2010, 5,000,000 shares had been cancelled and returned to the Company as Treasury Shares.





13.
RESERVE





As of March 31, 2011, the board of XYT determined the appropriation of reserves from retained earnings as of September 31, 2010 by $8,169,832.





14.
INCOME TAX





XYT, organized under the laws of the People’s Republic of China (“PRC”) is subject to PRC Enterprises Income Tax ("EIT") with the tax rate of 25%.





FCPG HK was incorporated in Hong Kong under the Companies Ordinance of Hong Kong is subject to HK Profit tax with the tax rate of 16.5%.





A reconciliation of the tax expense applicable to income before tax using the statutory rate to the tax expense at the effective tax rate is as follows:





Notes

Three months ended June 30


Six months ended June 302011


2010


2011


2010$


$


$


$Income/(Loss) before tax


742,597



1,176,905



67,007



2,237,477Tax at the statutory rate-16.5%


214,210



-



293,967



-Tax at the statutory rate-25%


(37,505
)


294,226



(217,746
)


559,369Tax effect of tax losses not recognized


37,505



-



217,746



-Effective income tax expenses


214,210



294,226



293,967



559,369


23


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





15.
COMMITMENTS AND CONTINGENCIES





There was no amount due to commitments and contingencies except that XYT leases the office and warehouse under non-cancelable operating lease agreement that expires in 2018.




Payments due by PeriodContractual Obligations

Less than


One to


Three to


More ThanAs of June 30, 2011

One Year


Three Years


Five Years


Five Years


TotalOperating Lease Obligations

$
-


$
115,891


$
77,261


$
67,603


$
260,755




16.
SEGMENT INFORMATION





No segment information is disclosed as the Company is engaged in the sales of Chinese patent drug, antibiotics, bio-chemicals, chemical preparations and biological. The nature of the products, the type of their customers and their distribution methods are substantially similar. The Company operates in a single segment in the PRC.





17.
EARNINGS PER SHARE





The Company reports basic and diluted earnings per share in accordance with ASC Topic 260, “Earnings Per Share”.  Basic earnings/ (loss) per share is computed by dividing net comprehensive income/ (loss) by weighted average number of shares of common stock outstanding during the period. Diluted earnings per share is computed by dividing net comprehensive income by the weighted average number of shares of common stock, common stock equivalents and potentially dilutive securities outstanding during the period. Common equivalent shares are excluded from the computation in periods for which they have an anti-dilutive effect. Stock options for which the exercise price exceeds the average market price over the period are anti-dilutive and, accordingly, are excluded from the calculation.





For the six months ended June 30, 2011, the comprehensive income was $51,115. The weighted average number of common shares outstanding for the six months ended June 30, 2011 was 57,418,241. The adjusted weighted average number of common shares and potentially dilutive securities outstanding for the six months ended June 30, 2011 was 62,132,501.


24


FIRST CHINA PHARMACEUTICAL GROUP INC.


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


FOR THE SIX MONTHS ENDED JUNE 30, 2011 AND 2010


(Stated in US Dollars)





18.
SUBSEQUENT EVENT





In order to operate in a common law jurisdiction, the Company has initiated a re-organization that will move its administrative operations to Hong Kong while continuing its drug distribution business in China. This includes relocating certain administrative functions such as,  financial accounting, information technology and investor relations to Hong Kong.




As part of this re-organization FCPG HK will dispose its interests in XYT through an arm's length transaction. FCPG HK will contract with XYT to act as the supplier of its logistics in filling orders in Yunnan province. XYT will be contractually bound to only provide services to FCPG HK. FCPG HK will retain ownership of the customers generated by XYT and the internet license. The internet software utilized to conduct the business will also continue to be used exclusively by FCPG HK.





Future acquisitions will be made by a similar re-structuring and will utilize the acquired company's logistics in each province to fulfill orders that are processed by FCPG HK.





Beginning August, 2011, the Company has been negotiating with an independent third party on an arm's length basis to acquire XYT.





Management is in the process of negotiating contractual agreements with an independent third party to acquire XYT and enter agreements that will have XYT continue to provide logistical support to FCPG HK and not undertake in any business activities that will be in direct competition with FCPG HK now or in the future.


25


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




The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited consolidated financial statements and related notes appearing elsewhere in this Quarterly Report.  In addition to historical financial information, the following discussion contains forward-looking statements that reflect our plans, estimates and beliefs.  We use words such as “anticipate,” “estimate,” “plan,” “project,” “continuing,” “ongoing,” “expect,” “believe,” “intend,” “may,” “will,” “should,” “could,” and similar expressions to identify forward-looking statements.  Our actual results could differ materially from those discussed in the forward-looking statements.  Factors that could cause or contribute to these differences include those discussed below and elsewhere in this Quarterly Report.  See also Risk Factors in our Annual Report on Form 10-K filed July 14, 2011.





Overview





First China Pharmaceutical Group, Inc. (“FCPG” or the “Company”), formerly known as E-Dispatch Inc., was incorporated under the laws of the State of Nevada on July 31, 2007.  On September 15, 2010, we closed a voluntary share exchange transaction pursuant to a Share Exchange Agreement, dated August 23, 2010 (the “Exchange Transaction”), by and among FCPG, First China Pharmaceutical Group Limited, a Hong Kong company (“FCPG HK”), and Kun Ming Xin Yuan Tang Pharmacies Co. Ltd., a company organized under the laws of the People’s Republic of China (“PRC”) and wholly owned subsidiary of FCPG HK (“XYT”).  Prior to the Exchange Transaction, we were a development stage company engaged in developing a cell phone-based taxi dispatch system, and a public reporting “shell company,” as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended.  As a result of the Exchange Transaction, the FCPG HK stockholder acquired approximately 25% of our issued and outstanding common stock, FCPG HK and XYT became our wholly-owned subsidiaries, and we acquired the business and operations of FCPG HK and XYT.





Through our wholly-owned subsidiary, XYT, we are now engaged in drug logistics and distribution in Yunnan Province, China through drug stores, medical clinics and hospitals, as well as the wholesale distribution of medicine products, chemical agents, antibiotics, biochemistry drugs and biological preparations to hospitals and the XYT store located at the Company’s distribution facility in Kunming.  XYT was founded in November 2002 and is a provincial pharmaceutical distributor that offers approximately 5,000 drugs, of which approximately 1,000 are over-the-counter drugs, approximately 1,000 are prescription drugs, approximately 2,000 are prepared Chinese medicines and approximately 1,000 are supplements.  Currently, XYT has approximately 5,000 customers and supplies approximately 10% of such customers’ inventories with a sales network that covers the entire Yunnan Province of China.  XYT believes it has a strategic advantage over certain of its competitors in Yunnan Province as it has obtained government approval to fill orders over the internet. XYT received the License of Internet Drug Information Service issued by the Yunnan Food and Drug Administration in October 2009.  This license enables XYT to bypass municipal and county pharmaceutical distributors, market XYT’s product line, provide pricing information and provide products directly to XYT customers.  Bypassing these layers of distribution enables XYT to offer products to its customers at a significantly lower price than its major competitors while maintaining its margins.





Our continuing strategy is to build a nationwide pharmaceutical distribution network throughout China.  Over the next 12 months XYT plans to expand its customer base through the use of the following tactics: broadening of the current product line will attract more large customers that currently do not utilize XYT and benefit from  internet ordering and the lower prices that XYT offers; providing computers to customers will also attract new customers as XYT’s management is unaware of any other pharmaceutical distribution company providing this benefit; supplementing  XYT’s current sales force with the addition of at least two additional sales teams that will make calls directly to hospitals, medical clinics and pharmacies.  XYT anticipates that each sales team will be composed of a sales manager and 10 sales people.




On March 10, 2011, we entered into a non-binding Letter of Intent (“LOI”) to acquire 100% of the interest in Shenzhen Ming He Tang Pharmaceutical Co., Ltd. (“Min He Tang”) of Shenzhen City, Guangdong Province.  Ming He Tang was founded in 2002 and has established itself as a recognized and respected distributor of pharmaceutical products in the south China marketplace. Ming He Tang offers approximately 2500 drug varieties delivered to over 886 primary customers.  On June 14, 2011, we executed a non-binding addendum to the LOI with Ming He Tang, which sets forth a purchase price agreement whereby (subject to a binding agreement) it is proposed that we shall acquire all of the issued and outstanding shares of capital stock of Ming He Tang in exchange for certain shares of our restricted common stock and a commitment by the Company to invest in the business of Ming He Tang over a 12 month period from the closing date of the acquisition for the purpose of replicating our business model.


26





Corporate re-organization & Intended Disposal of XYT





In order to operate in a common law jurisdiction, the Company has initiated a re-organization that will move its administrative operations to Hong Kong while continuing its drug distribution business in China.  This includes relocating certain administrative functions such as,  financial accounting, information technology and investor relations to Hong Kong.





As part of this re-organization, it is intended that FCPG HK will dispose its interests in XYT through an arm’s length transaction.  FCPG HK will contract with XYT to act as the supplier of its logistics in filling orders in Yunnan province.  XYT will be contractually bound to only provide services to FCPG HK.  FCPG HK will retain ownership of the customers generated by XYT and the internet license.  The internet software utilized to conduct the business will also continue to be used exclusively by FCPG HK.





Management is currently in the process of negotiating contractual agreements with an independent third party to acquire XYT and enter agreements that will have XYT continue to provide logistical support to FCPG HK and not undertake in any business activities that will be in direct competition with FCPG HK now or in the future.





Key factors affecting our results of operations include revenues, cost of revenues, operating expenses and income and taxation.





Comparison of the Three Months Ended June 30, 2011 and 2010





The following table sets forth certain information regarding our results of operation.





Three Months Ended June 302011


2010Statements of Operations DataSales (Net)

US$
11,634,463


US$
7,178,612Cost of Sales


(10,292,859
)


(5,928,686
)Gross Profit


1,341,604



1,249,926Selling expenses


(50,504
)


(7,185
)Administrative expenses


(475,163
)


(36,429
)Other income & expenses


74,697



(21,220
)Interest income & expense


(53,038
)


(8,187
)Income tax


(214,210
)


(294,226
)Net Income


623,386



882,679Effects of foreign currency translation conversion


149,492



16,447Comprehensive income


772,878



899,126





Sales (Net)





Net sales increased from US$7,178,612 for the three months ended June 30, 2010 to US$11,634,463 for the three months ended June 30, 2011, representing an increase of US$4,455,851 or 62%. This increase is primarily attributable to the Company's ambitious expansion of the business in China by high-priced products, increasing selling efforts and distribution channels. However, the key reason for the improvement was the Company’s ability to market its product line over the internet in 2011.  In November 2010, the Company received government approval to market its product line over the internet and began to realize the benefits of internet marketing in the first two quarters of 2011.





Cost of sales





Cost of sales increased from US$5,928,686 for the three months ended June 30, 2010 to US$10,292,859 for the three months ended June 30, 2011, representing an increase of US$4,364,173 or 74%. Cost of sales consists primarily of material cost which is directly attributable to the selling of pharmaceutical products. The increase in cost of goods sold is primarily attributable to the increase in sales and increase in material product prices in the PRC.


27





Gross profit





Gross profit increased from US$1,249,926 for the three months ended June 30, 2010 to US$1,341,604 for the three months ended June 30, 2011, representing an increase of US$91,678 or 7%. The increase in gross profit reflects increased overall sales as described above, as well as the sale of certain higher margin products. The gross profit margin has declined as the PRC government has lowered the  price of certain drugs as part of the national health care reform wherein pharmaceuticals are being made more available to the population at large, thus reducing margins on certain drugs sold.





Selling expenses





Sellingexpenses increased from US$7,185 for the three months ended June 30, 2010 to US$50,504 for the three months ended June 30, 2011, representing an increase of US$43,319 or 603%. The increase is mainly attributable to the amortization of service charges for the medical agents.  Medical Agents are fee based sales agents that are being used by the Company to rapidly increase sales in Yunnan province. These Medical Agents will eventually be replaced by employees. These service charges did not occur during the same period of 2010.





Administrative expenses





Administrative expenses increased from US$36,429 for the three months ended June 30, 2010 to US$475,163 for the three months ended June 30, 2011, representing an increase of US$438,734 or 1,204%. The increase is mainly attributable to professional, consulting and accounting expenses of US$247,210 in the second quarter of 2011.





Other income & expenses





Other income & expenses increased from a negative US$21,220 for the three months ended June 30, 2010 to a positive US$74,697 for the three months ended June 30, 2011, representing an increase in income of US$95,917 or452%. The increase is attributable to exchange gain due to foreign currency conversion resulting from changes in the applicable exchange rates.





Interest expense





Interest expense increased from US$8,187 for the three months ended June 30, 2010 to US$53,038 for the three months ended June 30, 2011, representing an increase in expense of US$44,851 or 548%. The increase is mainly attributable to the interest expenses from the convertible notes.





Income tax expense





Income tax expense decreased from US$294,226 for the three months ended June 30, 2010 to US$214,210 for the three months ended June 30, 2011, representing a decrease in income tax expense of US$80,016 or 27%. The decrease is attributable to the decreased income tax rate from 25% in PRC in the second quarter of 2010 to 16.5% in Hong Kong in the second quarter of 2011, due to the business operations having shifted from XYT to FCPG HK.





Net income





Net income decreased from a positive US$882,679 for the three months ended June 30, 2010 to US$623,386 for the three months ended June 30, 2011, representing a decrease in net income of US$259,293 or 29%. This decrease was primarily due to the increase in cost of sales and administrative expenses described above.





Effects of foreign currency translation conversion





Effects of foreign currency translation conversion increased from US$16,447 for the three months ended June 30, 2010 to US$149,492 for the three months ended June 30, 2011, representing an increase of US$133,045 or 809%.


28





Comprehensive income/loss





Comprehensive income decreased from a positive US$899,126 for the three months ended June 30, 2010 to US$772,878 for the three months ended June 30, 2011, representing a decrease in income of US$126,248 or 14%. The decrease is attributable to the increases in sales and gross profits, offset in part by cost of sales, selling expenses and administrative expenses described above.





Comparison of the Six Months Ended June 30, 2011 and 2010





The following table sets forth certain information regarding our results of operation.





Six Months Ended June 302011


2010Statements of Operations DataSales (Net)

US$
19,727,527


US$
13,878,888Cost of Sales


(17,891,272
)


(11,444,144
)Gross Profit


1,836,255



2,434,744Selling expenses


(694,627
)


(12,142
)Administrative expenses


(1,001,928
)


(76,514
)Other income & expenses


93,796



(91,977
)Interest income & expense


(71,490
)


(16,634
)Income tax


(293,967
)


(559,369
)Net Income/(Loss)


(131,961
)


1,678,108Effects of foreign currency translation conversion


183,076



31,268Comprehensive income


51,115



1,709,376





Sales (Net)





Net sales increased from US$13,878,888 for the six months ended June 30, 2010 to US$19,727,527 for the six months ended June 30, 2011, representing an increase of US$5,848,639 or 42%. This increase is primarily attributable to the Company's ambitious expansion of the business in China by high-priced products, increasing selling efforts and distribution channels. However, the key reason for the improvement was the Company’s ability to market its product line over the internet in 2011.  In November 2010, the Company received government approval to market its product line over the internet and began to realize the benefits of internet marketing for the six months ended June 30, 2011.





Cost of sales





Cost of sales increased from US$11,444,144 for the six months ended June 30, 2010 to US$17,891,272 for the six months ended June 30, 2011, representing an increase of US$6,447,128 or 56%. Cost of sales consists primarily of material cost which is directly attributable to the selling of pharmaceutical products. The increase in cost of goods sold is primarily attributable to the increase in material product prices for the six months ended June 30, 2011.





Gross profit





Gross profit decreased from US$2,434,744 for the six months ended June 30, 2010 to US$1,836,255 for the six months ended June 30, 2011, representing a decrease of US$598,489 or 25%. The decrease in gross profit reflects increased cost of sales as described above. The gross profit margin has declined as the PRC government has lowered the  price of certain drugs as part of the national health care reform where pharmaceuticals are being made more available to the population at large, thus reducing margins on certain drugs sold.





Selling expenses





Sellingexpenses increased from US$12,142 for the six months ended June 30, 2010 to US$694,627 for the six months ended June 30, 2011, representing an increase of US$682,485 or 5,621%. The increase is mainly attributable to the service charges for the medical agents for the six months ended June 30, 2011. These service charges did not occur during the same period of 2010.


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Administrative expenses





Administrative expenses increased from US$76,514 for the six months ended June 30, 2010 to US$1,001,928 for the six months ended June 30, 2011, representing an increase of US$925,414 or 1,209%. The increase is mainly attributable to professional, consulting and accounting expenses of US$413,181 for the six months ended June 30, 2011.





Other income & expenses





Other income & expenses increased from a negative US$91,977 for the six months ended June 30, 2010 to a positive US$93,796 for the six months ended June 30, 2011, representing an increase in income of US$185,773 or 202%. The increase was attributable to exchange gain due to foreign currency conversion resulting from changes in the applicable exchange rates.





Interest income & expense





Interest expense increased from US$16,634 for the six months ended June 30, 2010 to US$71,490 for the six months ended June 30, 2011, representing an increase in expense of US$54,856 or 330%. The increase is mainly attributable to the interest expenses from the convertible notes.





Income tax expense





Income tax expense decreased from US$559,369 for the six months ended June 30, 2010 to US$293,967 for the six months ended June 30, 2011, representing a decrease in income tax expense of US$265,402 or 47%. The decrease is attributable to the decreased income tax rate from 25% in PRC for the six months ended June 30, 2010 to 16.5% in Hong Kong for the six months ended June 30, 2011, due to the business operations having shifted from XYT to FCPG HK.





Net income/(loss)





Net income decreased from a positive US$1,678,108 for the six months ended June 30, 2010 to a negative US$131,961 for the six months ended June 30, 2011, representing a decrease in net income of US$1,810,069 or 108%. The decrease is primarily due to the increase in cost of sales and administrative expenses described above.





Effects of foreign currency translation conversion





Effects of foreign currency translation conversion increased from US$31,268 for the six months ended June 30, 2010 to US$183,076 for the six months ended June 30, 2011, representing an increase of US$151,808 or 486%.





Comprehensive income





Comprehensive income decreased from a positive US$1,709,376 for the six months ended June 30, 2010 to US$51,115 for the six months ended June 30, 2011, representing a decrease in comprehensive income of US$1,658,261 or 97%. The decrease is attributable to the above-mentioned increases in sales and gross profits, offset in part by cost of sales, selling expenses, and administrative expenses.





Liquidity and Capital Resources





Overview





As of June 30, 2011, we had cash and equivalents on hand of US$1,026,522, and working capital deficit of US$7,190,678.  We still believe that our cash on hand and working capital will be sufficient to meet our operational cash requirements through December 31, 2011.  If the Company does not meet its revenue objectives over that period, the Company may need to sell additional equity securities, which could result in dilution to current stockholders, or seek additional loans.  The incurrence of indebtedness would result in increased debt service obligations and could require the Company to agree to operating and financial covenants that would restrict its operations. Financing may not be available in amounts or on terms acceptable to the Company, if at all.  Any failure by us to raise additional funds on terms favorable to us, or at all, could limit our ability to expand our business operations and could harm our overall business prospects.


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Our cash needs are primarily for working capital to support our operations, the purchase of inventory and future strategic acquisitions.  We presently finance our operations through revenue from the sale of our products and services, the private placement of equity and debt securities and short-term bank borrowings.  As of June 30, 2011, we had an outstanding bank loan from Kunming Wuhua Branch of Fudian Bank in the amount of US$772,606, with a monthly interest rate of 5.56%, and a maturity date of December 8, 2011.  We believe that our existing capital resources are sufficient to meet our current obligations and operating requirements, but will not be sufficient to meet our more aggressive growth and acquisition plans and that we will need to raise additional capital in the next 12 months.  In order to meet our planned two to four strategic acquisitions, we estimate requiring US$6 million in capital.  We will consider debt or equity offerings or institutional borrowing as potential means of financing, however, there are no assurances that we will be successful or that we will obtain terms that are favorable to us.





In addition to the US$6 million for acquisitions, XYT will also require financing to expand its product line. The Company completed a financing of $3.6 million (net of fees) and will utilize some of these proceeds to expand its product line. As the funding fell short of the $5 to $6 million objective which would have provided sufficient capital for product line expansion and an acquisition, the Company’s short term objective is now to broaden our product line from our current 5,000 products to 20,000 to 25,000 over a 6 to 8 month period.  This will allow XYT to not only sell more products to its existing customers, but also attract more customers that currently do not utilize XYT.  The bulk of these funds will be utilized to purchase inventory, which will be on a cash basis until a track record is established and net 30 day terms can be negotiated.  The broader product line will include significantly more Western drugs as well as traditional Chinese drugs and herbs.  In addition, the Company may be required to raise capital in order to make acquisitions in furtherance of its growth plan.  Although funds from operations are adequate to conduct the Company’s current operations, it will need to raise capital in order to grow through acquisitions.





Net cash used in operating activities





Net cash used in operating activities for the six months ended June 30, 2011 was US$3,041,776, compared to US$986,568 for the six months ended June 30, 2010.  The increase in cash used in operating activities was primarily due to the increase of prepayment of US$4,937,108 due to business expansion in order to promote sales and market share.





Net cash used in investing activities





Net cash used in investing activities was US$106,766 for six months ended June 30, 2011, compared to US$0 for the year ended June 30, 2010, related to the purchase of property, plant and equipment and intangible assets.





Net cash provided by financing activities





Net cash provided by financing activities was US$3,039,906 for six months ended June 30, 2011 and was comprised of a convertible promissory note and a private offering of units offset in part by repayment of borrowings from Kunming Wuhua Branch of Fudian Bank and increase in restricted cash.  Net cash provided by financing activities during the six months ended June 30, 2010 was US$931,632.





Off-Balance Sheet Arrangements





We have not entered into any other financial guarantees or other commitments to guarantee the payment obligations of any third parties.  We have not entered into any derivative contracts that are indexed to our shares and classified as shareholder’s equity or that are not reflected in our consolidated financial statements.  Furthermore, we do not have any retained or contingent interest in assets transferred to an unconsolidated entity that serves as credit, liquidity or market risk support to such entity.  We do not have any variable interest in any unconsolidated entity that provides financing, liquidity, market risk or credit support to us or engages in leasing, hedging or research and development services with us.





Critical Accounting Policies and Estimates





Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”), and this requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the related disclosure of contingent assets and liabilities at the dates of the consolidated financial statements as well as the reported amounts of revenues and expenses during the reporting periods.  We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances.  Accordingly, actual results may differ significantly from these estimates under different assumptions or conditions.  Significant estimates include:


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Valuation of accounts receivable





An allowance for impairment of trade and other receivables is established when there is objective evidence that we will not be able to collect all amounts due according to the original terms of receivables.  The amount of the allowance is the difference between the receivables’ carrying amount and the present value of estimated future cash flows, discounted at the effective interest rate computed at initial recognition.  The amount of the allowance is recognized in the income statement.





Inventories





Net realizable value of inventories is the estimated selling price in the ordinary course of business, less the estimated costs of completion and the estimated costs necessary to make the sale.  For the periods ended June 30, 2011 and 2010, the Company recorded no allowance for slow-moving and obsolete inventories.





Deferred income taxes





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





Useful lives of plant and machinery





Depreciation of property, plant and equipment is calculated to write off the cost, less their estimated residual value, if any, using the straight-line method over their estimated useful lives.  The principal depreciation periods are as follows:





Other equipment
5 yearsOffice equipment
3 years





Recently Issued Accounting Pronouncements





In January 2010, the FASB issued ASU No. 2010-06 “Fair Value Measurements and Disclosures (Topic 820): Improving Disclosures about Fair Value Measurements.” This update provides amendments to Subtopic 820-10 that required new disclosures for 2 situations: (i) a reporting entity should disclose separately the amount of significant transfer in and out of Level 1 and 2 fair value measurements and describe the reasons for the transfers; (ii) in the reconciliation for fair value measurements using significant unobservable inputs (Level 3), a reporting entity should present separately information about purchases, sales, issuance, and settlements. None of the new pronouncements has current application to the Company.





In February 2010, the FASB issued ASU No. 2010-09 “Subsequent Events (Topic 855): Amendments to Certain Recognition and Disclosure Requirements.” This Update provides amendments to: (i) an entity that either (a) is an SEC filer or (b) is a conduit bond obligor for conduit debt securities that are traded in a public market (a domestic or foreign stock exchange or an over-the-counter market, including local or regional markets), is required to evaluate subsequent events through the date that the financial statements are issued. If an entity meets neither of those criteria, then it should evaluate subsequent events through the date the financial statements are available to be issued;  (ii) the glossary of Topic 855 is amended to include the definition of SEC filer;  (iii) an entity that is an SEC filer is not required to disclose the date through which subsequent events have been evaluated;  (iv) the glossary of Topic 855 is amended to remove the definition of public entity; and (v) the scope of the reissuance disclosure requirements is refined to include revised financial statements only.





In May 2010, the FASB issued ASU No. 2010-19 “Foreign Currency (Topic 830): Foreign Currency Issues: Multiple Foreign Currency Exchange Rates (SEC Update).” The purpose of this Update is to codify the SEC Staff Announcement made at the March 18, 2010 meeting of the FASB Emerging Issues Task Force (EITF) by the SEC Observer to the EITF. The Staff Announcement provides the SEC Staff’s view on certain foreign currency issues related to investments in Venezuela. None of the new pronouncements has current application to the Company.


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In December 2010, the FASB issued Update No. 2010-28 “Intangibles—Goodwill and Other (Topic 350): When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts.” The amendments in this Update modify Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts. For those reporting units, an entity is required to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. In determining whether it is more likely than not that a goodwill impairment exists, an entity should consider whether there are any adverse qualitative factors indicating that an impairment may exist. The qualitative factors are consistent with the existing guidance and examples in paragraph 350-20-35-30, which requires that goodwill of a reporting unit be tested for impairment between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. For nonpublic entities, the amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. Nonpublic entities may early adopt the amendments using the effective date for public entities.





None of the above new pronouncements has current application to us, but may be applicable to our future financial reporting.





ITEM 3.          QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS




Not Applicable.




ITEM 4.          CONTROLS AND PROCEDURES




Evaluation of Disclosure Controls and Procedures





We carried out an evaluation, under the supervision and with the participation of our management, including our Principal Executive Officer along with our Principal Financial Officer, of the effectiveness of the design of our disclosure controls and procedures (as defined by Exchange Act Rules 13a-15(e) or 15d-15(e)) as of June 30, 2011 pursuant to Exchange Act Rule 13a-15.  Based upon that evaluation, our Principal Executive Officer along with our Principal Financial Officer concluded that our disclosure controls and procedures are not effective as of June 30, 2011 in ensuring that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.  This conclusion is based on findings that constituted material weaknesses.  A material weakness is a deficiency, or a combination of control deficiencies, in internal control over financial reporting such that there is a reasonable possibility that a material misstatement of the Company’s interim financial statements will not be prevented or detected on a timely basis.





In performing the above-referenced assessment, our management identified the following material weaknesses:





i)
We lack personnel with the experience to properly analyze and record complex transactions in accordance with U.S. GAAP. We have improved our reporting capacity with the appointment of a board member who is an expert in US GAAP and by contracting an accounting firm familiar with US GAAP to assist in the preparation of our financial statements.





ii)
We have insufficient quantity of dedicated resources and experienced personnel involved in reviewing and designing internal controls.  As a result, a material misstatement of the interim and annual financial statements could occur and not be prevented or detected on a timely basis. A review and assessment of  our internal controls is currently underway by an independent consulting firm





iii)
We have not achieved the optimal level of segregation of duties relative to key financial reporting functions.





iv)
We did not perform an entity level risk assessment to evaluate the implication of relevant risks on financial reporting, including the impact of potential fraud related risks and the risks related to non-routine transactions, if any, on our internal control over financial reporting.  Lack of an entity-level risk assessment constituted an internal control design deficiency which resulted in more than a remote likelihood that a material error would not have been prevented or detected, and constituted a material weakness.


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We continue to review our disclosure controls and procedures related to these material weaknesses and expect to implement changes in the near term, including identifying specific areas within our governance, accounting and financial reporting processes to add adequate resources and personnel to potentially mitigate these material weaknesses.  As part of these changes, we have formed an audit committee comprising of our independent directors, Mr. Jack Zwick and Mr. Greg Tse, with Mr. Jack Zwick as our audit committee financial expert.





Our present management will continue to monitor and evaluate the effectiveness of our internal controls and procedures and our internal controls over financial reporting on an ongoing basis and are committed to taking further action and implementing additional enhancements or improvements, as necessary and as funds allow.





Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.  Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.  All internal control systems, no matter how well designed, have inherent limitations.  Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.





Changes in Internal Control Over Financial Reporting





On June 2, 2011, our Board of Directors formed an audit committee and adopted an audit committee charter.  Our Board of Directors appointed Mr. Gregory D. Tse and Mr. Jack Zwick, current independent members of the Board of Directors, to serve on the audit committee.  Our Board of Directors has determined that Jack Zwick is an “audit committee financial expert,” as defined in Item 407(d)(5) of Regulation S-K.





Other than as noted above, there were no changes in our internal controls over financial reporting that occurred during the three months ended June 30, 2011 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.  We believe that a control system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the control system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within any company have been detected.


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PART II - OTHER INFORMATION




ITEM 1.
LEGAL PROCEEDINGS




To the best of management’s knowledge, there are no material legal proceedings pending against the Company.




ITEM 1A.
RISK FACTORS




Not Applicable.




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




None.





ITEM 3.
DEFAULTS UPON SENIOR SECURITIES




None.




ITEM 4.
REMOVED AND RESERVED




ITEM 5.
OTHER INFORMATION




None.




ITEM 6.
EXHIBITS





The following exhibits are included as part of this report by reference:





Exhibit

Number

Description2.1

Share Exchange Agreement, dated August 23, 2010 (incorporated by reference to Exhibit 2.1 of the Registrant’s Current Report on Form 8-K filed on August 24, 2010).3.1

Articles of Incorporation of the Registrant, dated July 31, 2007, including all amendments to date (incorporated by reference to Exhibit 3.1 of the Registrant’s Current Report on Form 8-K filed September 21, 2010).3.2

Amended and Restated Bylaws of the Registrant, as amended, dated June 1, 2010 (incorporated by reference to Exhibit 3.2 of the Registrant’s Current Report on Form 8-K filed on June 30, 2010).4.1

Form of Stock Specimen (incorporated by reference to Exhibit 4.1 of the Registrant’s Registration Statement on Form S-1 filed on May 28, 2008).31.1

Certification of Principal Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.*31.2

Certification of Principal Financial Officer and Principal Accounting Officer  Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.*32.1

Certification of Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.*32.2

Certification of Principal Financial and Principal Accounting Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 *


* Filed herewith


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SIGNATURES




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




FIRST CHINA PHARMACEUTICAL GROUP, INC.Date:  August 22, 2011
/s/ Yi Jia LiName:  Yi Jia LiTitle:  Chief Financial Officer(Principal Financial Officer and Principal Accounting Officer)


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