UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C. 20549





FORM
20-F


(Mark
One)




REGISTRATION
      STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE
      ACT OF 1934





OR





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





For the
fiscal year ended June 30, 2010





OR





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




For the transition period from
___________ to ___________.





OR





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





Date of
event requiring this shell company report _________________________





For the transition period from
___________ to ___________.





Commission
file number: 001-33602





HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.


(Exact
name of Registrant as specified in its charter)





Not
Applicable


(Translation
of Registrant’s name into English)





British Virgin
Islands


(Jurisdiction
of incorporation or organization)





No.
2 Disheng Middle Road,


Beijing
Economic-Technological Development Area,


Beijing,
P. R. China 100176


(Address
of principal executive offices)





Securities
registered or to be registered pursuant to Section 12(b) of the
Act.




Title
      of each class
                  
                  Name
      of each exchange on which registeredOrdinary
      Shares
                  
                  The
      NASDAQ Global Select
Market





Securities
registered or to be registered pursuant to Section 12(g) of the Act.




None





(Title of
Class)





Securities
for which there is a reporting obligation pursuant to Section 15(d) of the Act.




None





Indicate
the number of outstanding shares of each of the issuer’s classes of capital or
common stock as of the close of the period covered by the annual report (June
30, 2010): 54,449,129 ordinary shares.





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


 ̈Yes x No





If this
report is an annual or transition report, indicate by check mark if the
registrant is not required to file reports pursuant to Section 13 or 15(d) of
the Securities Exchange Act of 1934.


 ̈Yes x No





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.


xYes  ̈ 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, or a non-accelerated filer.





Large
accelerated filer  ̈          Accelerated
filer x            Non-accelerated
filer  ̈


Indicate
by check mark which basis of accounting the registrant has used to prepare the
financial statements included in this filing:





U.S.
      GAAP x
            International
      Financial Reporting Standards as issued by the International Accounting
      Standards Board  ̈
            Other
       ̈





If
“Other” has been checked in response to the previous question, indicate by check
mark which financial statement item the registrant has elected to
follow.





 ̈ Item
17                       ̈ Item 18





If this
is an annual report, indicate by check mark whether the registrant is a shell
company (as defined in Rule 12b-2 of the Exchange Act).


 ̈Yes       x No











HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.





ANNUAL
REPORT ON FORM 20-F


FOR
THE FISCAL YEAR ENDED JUNE 30, 2010





TABLE
OF CONTENTS





PagePART
      IITEM
      1.
                    IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND
      ADVISERS
                    4ITEM 2.
                    OFFER STATISTICS AND EXPECTED
      TIMETABLE
                    4ITEM 3.
                    KEY INFORMATION
                    4ITEM 4.
                    INFORMATION ON THE COMPANY
                    18ITEM 4A.
                    UNRESOLVED STAFF COMMENTS
                    32ITEM 5.
                    OPERATING AND FINANCIAL REVIEW AND
      PROSPECTS
                    33ITEM 6.
                    DIRECTORS, SENIOR MANAGEMENT AND
      EMPLOYEES
                    55ITEM 7.
                    MAJOR SHAREHOLDERS AND RELATED PARTY
      TRANSACTIONS
                    62ITEM 8.
                    FINANCIAL INFORMATION
                    63ITEM 9.
                    THE OFFER AND LISTING
                    63ITEM 10.
                    ADDITIONAL INFORMATION
                    65ITEM 11.
                    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
      RISK
                    75ITEM 12.
                    DESCRIPTION OF SECURITIES OTHER THAN EQUITY
      SECURITIES
                    76PART
      IIITEM
      13.
                    DEFAULTS, DIVIDEND ARREARAGES AND
      DELINQUENCIES
                    76ITEM 14.
                    MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITIES
      HOLDERS AND USE OF PROCEEDS
                    76ITEM 15T.
                    CONTROLS AND PROCEDURES
                    77ITEM 16A.
                    AUDIT COMMITTEE FINANCIAL
      EXPERT
                    79ITEM
      16B.
                    CODE OF ETHICS
                    79ITEM 16C.
                    PRINCIPAL ACCOUNTANT FEES AND
      SERVICES
                    79ITEM 16D.
                    EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES
                    80ITEM 16E.
                    PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND
      AFFILIATED PURCHASERS
                    80ITEM 16F.
                    CHANGEIN
      REGISTRANT’S CERTIFYING ACCOUNTANT
                    80ITEM 16G.
                    CORPORATE GOVERNANCE
                    80PART
      IIIITEM
      17.
                    FINANCIAL STATEMENTS
                    80ITEM 18.
                    FINANCIAL STATEMENTS
                    80ITEM 19.
                    EXHIBITS
                    80







USE
OF CERTAIN DEFINED TERMS




Except as
otherwise indicated by the context, references in this annual report
to:




·
            “Beijing
      Haotong” are references to Beijing Haotong Science and Technology
      Development Co., Ltd.;




·
            “Beijing
      Helitong” are references Beijing Helitong S&T Exploration Co.,
      Ltd.;




·
            “Beijing
      Hollycon” are references to Beijing Hollycon Med. & Tech. Co.,
      Ltd.;




·
            “Beijing
      Hollysys” are references to Beijing Hollysys Co.,
  Ltd.;




·
            “Beijing
      Hollysys Electronics” are references to Beijing Hollysys Electronics
      Technology Co., Ltd.;




·
            “Beijing
      Hollysys S&T” are references to Beijing Hollysys S&T Exploration
      Co., Ltd.;




·
            “Beijing
      WoDeWeiye” are references to Beijing WoDeWeiye Technology Exploration Co.,
      Ltd.;




·
            “BVI”
      are references to the British Virgin
Islands;




·
            “China”
      and “PRC” are references to the People’s Republic of China and references
      to “Hong Kong” are references to the Hong Kong Special Administrative
      Region of China;




·
            “Clear
      Mind” are references to Clear Mind Limited, a BVI
  company;




·
            “Exchange
      Act” are references to the Securities Exchange Act of 1934, as
      amended;




·
            “Gifted
      Time” are references to Gifted Time Holdings Limited, a BVI
      company;




·
            “Hangzhou
      Hollysys” are references to Hangzhou Hollysys Automation Co.,
      Ltd.;




·
            “Hollysys”
      “we,” “us,” or “our,” and the “Company,” are references to the combined
      business of Hollysys Automation Technologies Ltd., a BVI company, and its
      consolidated subsidiaries, Singapore Hollysys, Gifted Time, Clear Mind,
      World Hope, Beijing Helitong, , Beijing Hollysys S&T, Hangzhou
      Hollysys, Hollysys Automation, Beijing Hollysys, Beijing Hollysys
      Electronics, Beijing Hollycon, Beijing Haotong and Beijing WoDeWeiye.
      ;




·
            “Hollysys
      Automation” are references to Beijing Hollysys Automation & Drive Co.,
      Ltd.;




·
            “RMB,”
      are references to Renminbi, the legal currency of China and “U.S.
      dollars,” “$” and “US$” are to the legal currency of the United
      States;




·
            “Securities
      Act,” are references to the Securities Act of 1933, as
      amended;




·
            “Singapore
      Hollysys” are references to Hollysys (Asia Pacific) Pte Limited, a
      Singapore company; and




·
            “World
      Hope” are references to World Hope Enterprises Limited, a Hong Kong
      company.




FORWARD-LOOKING
INFORMATION





This
annual report contains forward-looking statements and information relating to us
that are based on the current beliefs, expectations, assumptions, estimates and
projections of our management regarding our company and
industry.  When used in this annual report, the words “may”, “will”,
“anticipate”, “believe”, “estimate”, “expect”, “intend”, “plan” and similar
expressions, as they relate to us or our management, are intended to identify
forward-looking statements.  These statements reflect management's
current view of us concerning future events and are subject to certain risks,
uncertainties and assumptions, including among many others: our potential
inability to achieve similar growth in future periods as we did historically, a
decrease in the availability of our raw materials, the emergence of additional
competing technologies, changes in domestic and foreign laws, regulations and
taxes, changes in economic conditions, uncertainties related to China’s legal
system and economic, political and social events in China, a general economic
downturn, a downturn in the securities markets, and other risks and
uncertainties which are generally set forth under the heading, “Key information
— Risk Factors” and elsewhere in this annual report.  Should any of
these risks or uncertainties materialize, or should underlying assumptions prove
incorrect, actual results may vary materially from those described as
anticipated, estimated or expected in this annual report.





3


All
forward-looking statements included herein attributable to us or other parties
or any person acting on our behalf are expressly qualified in their entirety by
the cautionary statements contained or referred to in this
section.  Except to the extent required by applicable laws and
regulations, we undertake no obligations to update these forward-looking
statements to reflect events or circumstances after the date of this annual
report or to reflect the occurrence of unanticipated events.




PART I




ITEM
1.                      IDENTITY
OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS





Not
applicable.





ITEM
2.                      OFFER
STATISTICS AND EXPECTED TIMETABLE





Not
applicable.





ITEM
3.                      KEY
INFORMATION





Selected
Consolidated Financial Data





The
following table presents selected financial data regarding our
business.  It should be read in conjunction with our consolidated
financial statements and related notes contained elsewhere in this annual report
and the information under Item 5, “Operating and Financial Review and
Prospects.”  The selected consolidated statement of income data for
the fiscal years ended June 30, 2010, 2009 and 2008 and the consolidated balance
sheet data as of June 30, 2010 and 2009 have been derived from the audited
consolidated financial statements of Hollysys that are included in this annual
report beginning on page F-1.  The selected statement of income data
for the fiscal years ended June 30, 2007 and 2006, and balance sheet data as of
June 30, 2008, 2007 and 2006 have been derived from our audited financial
statements that are not included in this annual report.





The
audited consolidated financial statements for the years ended June 30, 2010,
2009 and 2008 are prepared and presented in accordance with generally accepted
accounting principles in the United States, or U.S. GAAP.  The
selected financial data information is only a summary and should be read in
conjunction with the historical consolidated financial statements and related
notes of Hollysys contained elsewhere herein.  The financial
statements contained elsewhere fully represent our financial condition and
operations; however, they are not indicative of our future
performance.


4





YearsEndedJune30,2006
                    
                    
                    2007
                    
                    
                    2008
                    
                    
                    2009
                    
                    
                    2010Statement
      of Income DataRevenue
                    
                    $
                    89,916,604
                    
                    
                    
                    101,885,486
                    
                    
                    
                    121,498,752
                    
                    
                    
                    157,502,067
                    
                    
                    
                    174,089,196Operating
      income (loss)
                    
                    
                    23,349,801
                    
                    
                    
                    25,711,773
                    
                    
                    
                    5,844,538
                    
                    
                    
                    (5,550,479
                    )
                    
                    
                    32,547,400Income
      before income taxes
                    
                    
                    22,941,290
                    
                    
                    
                    18,646,368
                    
                    
                    
                    2,248,419
                    
                    
                    
                    (5,603,121
                    )
                    
                    
                    35,219,424Net
      income (loss)(1)
      attributable to Hollysys
                    
                    
                    18,051,255
                    
                    
                    
                    13,084,751
                    
                    
                    
                    (1,677,178
                    )
                    
                    
                    (13,851,064
                    )
                    
                    
                    25,704,538Add:
      Amortization of discount and interest on notes payable related to bridge
      loan
                    
                    
                    -
                    
                    
                    
                    6,401,975
                    
                    
                    
                    3,244,434
                    
                    
                    
                    -
                    
                    
                    
                    -Stock-based
      compensation cost for incentive shares
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    17,000,000
                    
                    
                    
                    39,240,000
                    
                    
                    
                    -Stock-based
      compensation cost for options
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    84,473
                    
                    
                    
                    319,026
                    
                    
                    
                    524,076Non-GAAP
      net income attributable to Hollysys
                    
                    
                    18,051,255
                    
                    
                    
                    19,486,726
                    
                    
                    
                    18,651,729
                    
                    
                    
                    25,707,962
                    
                    
                    
                    26,228,614Weighted
      average ordinary shares
                    
                    
                    22,200,000
                    
                    
                    
                    22,200,000
                    
                    
                    
                    37,658,437
                    
                    
                    
                    44,950,883
                    
                    
                    
                    51,243,667Weighted
      average number of diluted ordinary shares
                    
                    
                    22,200,000
                    
                    
                    
                    22,883,836
                    
                    
                    
                    37,658,437
                    
                    
                    
                    44,950,883
                    
                    
                    
                    51,838,294Basic
      earnings per share(1)
                    
                    
                    0.81
                    
                    
                    
                    0.59
                    
                    
                    
                    (0.04
                    )
                    
                    
                    (0.31
                    )
                    
                    
                    0.50Diluted
      earnings per share(1)
                    
                    
                    0.81
                    
                    
                    
                    0.57
                    
                    
                    
                    (0.04
                    )
                    
                    
                    (0.31
                    )
                    
                    
                    0.50Non-GAAP
      basic earnings per share
                    
                    
                    0.81
                    
                    
                    
                    0.88
                    
                    
                    
                    0.50
                    
                    
                    
                    0.57
                    
                    
                    
                    0.51Non-GAAP
      diluted earnings per share
                    
                    
                    0.81
                    
                    
                    
                    0.85
                    
                    
                    
                    0.50
                    
                    
                    
                    0.57
                    
                    
                    
                    0.51Cash
      dividends declared per share
                    
                    
                    0.07
                    
                    
                    
                    0.03
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Balance Sheet DataTotal
      current assets
                    
                    
                    96,958,442
                    
                    
                    
                    128,404,729
                    
                    
                    
                    214,320,514
                    
                    
                    
                    283,971,473
                    
                    
                    
                    301,359,086Total
      assets
                    
                    
                    120,024,159
                    
                    
                    
                    154,930,570
                    
                    
                    
                    252,734,095
                    
                    
                    
                    345,443,522
                    
                    
                    
                    384,730,251Total
      current liabilities
                    
                    
                    60,032,366
                    
                    
                    
                    101,419,000
                    
                    
                    
                    71,028,772
                    
                    
                    
                    101,121,574
                    
                    
                    
                    135,917,248Total
      liabilities
                    
                    
                    65,661,377
                    
                    
                    
                    104,703,288
                    
                    
                    
                    87,794,820
                    
                    
                    
                    149,424,388
                    
                    
                    
                    171,258,661Non-controlling
      interest
                    
                    
                    9,801,634
                    
                    
                    
                    13,200,169
                    
                    
                    
                    17,645,377
                    
                    
                    
                    22,479,241
                    
                    
                    
                    774,865Stockholders’
      equity
                    
                    
                    44,561,148
                    
                    
                    
                    37,027,113
                    
                    
                    
                    147,293,898
                    
                    
                    
                    173,539,893
                    
                    
                    
                    212,696,725





(1) We
have no discontinued operations.  Therefore net income and net income per
share have been provided in lieu of income from continuing operations and
income (loss) from continuing operations per share.




In
evaluating our results, the non-GAAP measures of “Non-GAAP G&A Expenses”,
“Non-GAAP Income (loss) from Operations”, and “Non-GAAP Net income (loss) and
Earnings (loss) per share” serve as additional indicators of our operating
performance and not as a replacement for other measures in accordance with U.S.
GAAP. We believe these non-GAAP measures are useful to investors, as they
exclude amortization of discount and interest on notes payable related to bridge
loan and stock-based compensation costs.  The amortization of discount and
interest on notes payable related to bridge loan is non-recurrent and
non-operation-related in nature. The stock-based compensation is calculated
based on number of shares granted and the stock price as of the grant date. It
will not result in any cash inflows or outflows. We believes that using non-GAAP
measures help our shareholders to have a better understanding of our operating
results and growth prospects. In addition, given the business nature of
Hollysys, it has been a common practice for investors and analysts to use such
non-GAAP measures to evaluate the Company.





5


The
following table provides a reconciliation of U.S. GAAP measures to the non-GAAP
measures for the periods indicated:




YearsEndedJune30,2006
                
                
                2007
                
                
                2008
                
                
                2009
                
                
                2010G&A
      Expenses
                
                
                6,515,929
                
                
                
                7,135,221
                
                
                
                26,588,771
                
                
                
                48,981,078
                
                
                
                13,914,091Minus:
      Stock-based compensation cost for incentive shares
                
                
                -
                
                
                
                -
                
                
                
                17,000,000
                
                
                
                39,240,000
                
                
                
                -Minus:
      Stock-based compensation cost for options
                
                
                -
                
                
                
                -
                
                
                
                84,473
                
                
                
                319,026
                
                
                
                524,076Non-GAAP
      G&A Expenses
                
                
                6,515,929
                
                
                
                7,135,221
                
                
                
                9,504,298
                
                
                
                9,422,052
                
                
                
                13,390,015Net
      income (loss) attributable to Hollysys
                
                
                18,051,255
                
                
                
                13,084,751
                
                
                
                (1,677,178
                )
                
                
                (13,851,064
                )
                
                
                25,704,538Add:
      Amortization of discount and interest on notes payable related to bridge
      loan
                
                
                -
                
                
                
                6,401,975
                
                
                
                3,244,434
                
                
                
                -
                
                
                
                -Add:
      Stock-based compensation cost for incentive shares
                
                
                -
                
                
                
                -
                
                
                
                17,000,000
                
                
                
                39,240,000
                
                
                
                -Add:
      Stock-based compensation cost for options
                
                
                -
                
                
                
                -
                
                
                
                84,473
                
                
                
                319,026
                
                
                
                524,076Non-GAAP
      net income attributable to Hollysys
                
                
                18,051,255
                
                
                
                19,486,726
                
                
                
                18,651,729
                
                
                
                25,707,962
                
                
                
                26,228,614Weighted
      average common shares
                
                
                22,200,000
                
                
                
                22,200,000
                
                
                
                37,658,437
                
                
                
                44,950,883
                
                
                
                51,243,667Weighted
      average number of diluted common shares
                
                
                22,200,000
                
                
                
                22,883,836
                
                
                
                37,658,437
                
                
                
                44,950,883
                
                
                
                51,838,294Non-GAAP
      basic earnings per share
                
                
                0.81
                
                
                
                0.88
                
                
                
                0.50
                
                
                
                0.57
                
                
                
                0.51Non-GAAP
      diluted earnings per share
                
                
                0.81
                
                
                
                0.85
                
                
                
                0.50
                
                
                
                0.57
                
                
                
                0.51





Capitalization
and Indebtedness





Not
applicable.





Reasons
for the Offer and Use of Proceeds





Not
applicable.





Risk Factors




Aninvestmentinourcapitalstockinvolvesahighdegreeofrisk.Youshouldcarefullyconsidertherisksdescribedbelow,togetherwithalloftheotherinformationincludedinthis annual report,beforemakinganinvestmentdecision.Ifanyofthefollowingrisksactuallyoccurs,ourbusiness,financial conditionorresultsofoperationscouldsuffer.Inthatcase,thetradingpriceofourcapital stockcoulddecline,andyoumayloseallorpartofyourinvestment.





RISKS RELATED TO OUR BUSINESS





We
will need to commit greater resources to new product and service development in
order to stay competitive, and we may fail to offset the increased cost of such
development with a sufficient increase in net sales or margins.





The
success of our business depends in great measure on our ability to keep pace
with, or even lead, changes that occur in our
industry.  Traditionally, the automation and control systems business
was relatively stable and slow moving.  Successive generations of
products offered only marginal improvements in terms of functionality and
reliability.  However, the emergence of computers, computer networks
and electronic components as key elements of the systems that we design and
build has accelerated the pace of change in our industry.  Where there
was formerly as much as a decade or even more between successive generations of
automation systems, the time between generations is now as little as two to
three years.  Technological advances and the introduction of new
products, new designs and new manufacturing techniques by our competitors could
adversely affect our business unless we are able to respond with similar
advances.  To remain competitive, we must continue to incur
significant costs in product development, equipment and facilities and to make
capital investments.  These costs may increase, resulting in greater
fixed costs and operating expenses than we have incurred to date.  As
a result, we could be required to expend substantial funds for and commit
significant resources to the following:




6




·
            Research
      and development activities on existing and potential product
      solutions;


·
            Additional
      engineering and other technical
personnel;


·
            Advanced
      design, production and test
equipment;


·
            Manufacturing
      services that meet changing customer
needs;


·
            Technological
      changes in manufacturing processes;
and


·
            Expansion
      of manufacturing capacity.





Our
future operating results will depend to a significant extent on our ability to
continue providing new product solutions that compare favorably on the basis of
time to market, cost and performance, with competing third-party suppliers and
technologies.  Our failure to increase net sales sufficiently to
offset the increased costs needed to achieve those advances would adversely
affect our operating results.





We
may experience trade barriers in expanding to our targeted emerging markets and
may be subject to tariffs and taxes that will result in significant additional
costs for our business and products.





We may
experience barriers to conducting business and trade in our planned expansion to
emerging markets.  These barriers may be in the form of delayed
customs clearances, customs duties or tariffs.  In addition, we may be
subject to repatriation taxes levied upon the exchange of income from local
currency into foreign currency, substantial taxes of profits, revenues, assets
and payroll, as well as value-added tax.  The markets into which we
may expand may impose onerous and unpredictable duties, tariffs and taxes on our
business and products.  These barriers or expenses could have an
adverse effect on our operations and financial results.





We
do not have long-term purchase commitments from our customers, so our customers
are free to choose products from our competitors, which would result in a loss
of revenue and profitability.





We are
engaged in the design, production and installation of automation and process
control systems.  As a result, our revenues result from numerous
individual contracts that, once completed, typically produce only a limited
amount of ongoing revenues for maintenance and other
services.  Furthermore, customers may change or delay or terminate
orders for products without notice for any number of reasons unrelated to us,
including lack of market acceptance for the products to be produced by the
process our system was designed to control.  As a result, in order to
maintain and expand our business, we must be able to replenish the orders in its
pipeline on a continuous basis.  It is possible that some of our
potential customers could choose the products of our
competitors.  Should they do so, we would suffer a decline in revenues
and profitability.





The
success of our business depends heavily on securing a steady stream of new
customers.





Our
average contract is worth approximately $150,000.  While some of those
contracts are for upgrades and additions to existing control systems, most of
them are for new installations.  In order for our business to continue
to succeed and grow, we need to secure contracts with new customers on a regular
basis.  We may not be successful in securing new
contracts.





A
lack of adequate engineering resources could cause our business to lose
profitability and potential business prospects.





One of
the competitive advantages that we enjoy is the relatively low cost of our
engineering staff compared to those of our Western and Japan-based
competitors.  The plentiful supply of affordable engineering talent in
China is a key element of our overall business strategy.  However, if
the available supply of engineers were to be absorbed by competing demands, then
the cost of hiring, training and retaining capable engineers would likely
increase.  This could result in a reduction in our profitability and
business prospects, or could even cause a change in our business
strategy.





7


Our
products may contain design or manufacturing defects, which could result in
reduced demand for our products or services, customer claims and uninsured
liabilities.





We
manufacture spare parts for maintenance and replacement purposes after
completion of integrated solution contracts to our customers’ requirements,
which can be highly complex and may at times contain design or manufacturing
errors or defects.  Any defects in the spare parts we manufacture may
result in returns, claims, delayed shipments to customers or reduced or
cancelled customer orders.  If these defects occur, we will incur
additional costs, and if they occur in large quantity or frequently, we may
sustain additional costs, loss of business reputation and legal
liability.  Moreover, we are in the process of entering both the
nuclear power generation and railway control systems sectors. Each of these
sectors poses a substantially higher risk of liability in the event of a system
failure, than was present in the industrial process controls markets in which we
traditionally compete.





We may
not be able to obtain adequate insurance coverage to protect us against these
and other risks associated with our business.  The typical practice of
the industries with which we are involved is for the customers to obtain
insurance to protect their own operational risks.  Therefore, we
currently do not carry any insurance coverage to protect against the risks
related to product failure.  However, it is possible that such
customers or their insurers could assert claims against us for any damages
caused by a failure in one of our systems, and as a result, the failure of any
of our products could result in a liability that would seriously impair our
financial condition or even force us out of business.





Our failure to
adequately protect our intellectual property rights may undermine our
competitive position, and litigation to protect our intellectual property rights
may be costly.





Our
business is based on a number of proprietary products and systems, some of which
are patented, others of which we protect as trade secrets.  We strive
to strengthen and differentiate our product portfolio by developing new and
innovative products and product improvements.  As a result, we believe
that the protection of our intellectual property will become increasingly
important to our business as the functionality of automation systems increases
to meet customer demand and as we try to open new markets for our
products.  Implementation and enforcement of intellectual
property-related laws in China has historically been lacking due primarily to
ambiguities in PRC intellectual property law.  Accordingly, protection
of intellectual property and proprietary rights in China may not be as effective
as in the United States or other countries.  Currently, we hold 111
PRC utility patents that relate to various product configurations and product
components and 103 software copyrights and have 20 pending PRC patent
applications. We will continue to rely on a combination of patents, trade
secrets, trademarks and copyrights to provide protection in this regard, but
this protection may be inadequate.





For
example, our pending or future patent applications may not be approved or, if
allowed, they may not be of sufficient strength or scope.  As a
result, third parties may use the technologies and proprietary processes that we
have developed and compete with us, which could negatively affect any
competitive advantage we enjoy, dilute our brand and harm our operating
results.





In
addition, policing the unauthorized use of our proprietary technology can be
difficult and expensive.  Litigation may be necessary to enforce our
intellectual property rights and given the relative unpredictability of China’s
legal system and potential difficulties enforcing a court judgment in China,
there is no guarantee litigation would result in an outcome favorable to
us.  Furthermore, any such litigation may be costly and may divert
management attention away from our core business.  An adverse
determination in any lawsuit involving our intellectual property is likely to
jeopardize our business prospects and reputation.  We have no
insurance coverage against litigation costs so we would be forced to bear all
litigation costs if we cannot recover them from other parties.  All of
the foregoing factors could harm our business and financial
condition.





8


We
may develop new products that do not gain market acceptance, which would result
in the failure to recover the significant costs for design and manufacturing
services for new product solutions, thus adversely affecting operating
results.





We
operate in an industry characterized by increasingly frequent and rapid
technological advances, product introductions and new design and manufacturing
improvements.  As a result, we must expend funds and commit resources
to research and development activities, possibly requiring additional
engineering and other technical personnel; purchasing new design, production,
and test equipment; and enhancing our design and manufacturing processes and
techniques.  We may invest in equipment employing new production
techniques for existing products and new equipment in support of new
technologies that fail to generate adequate returns on the investment due to
insufficient productivity, functionality or market acceptance of the products
for which the equipment may be used.  We could, therefore, incur
significant costs for design and manufacturing services for new product
solutions that do not generate a sufficient return on that investment, which
would adversely affect our future operating results.  Our future
operating results will depend significantly on our ability to provide timely
design and manufacturing services for new products that compete favorably with
design and manufacturing capabilities of third party suppliers.





RISKS
RELATING TO THE INDUSTRY IN WHICH WE OPERATE





Our
plans for growth rely on an increasing emphasis on railroad and nuclear power
sectors, and these sectors present fewer business opportunities, so we may not
be successful in growing these new markets.





While the
principal focus of our business until recently has been to provide Distributed
Control Systems to industrial and manufacturing companies, our plans for growth
include an increasing emphasis on railroad control systems and nuclear power
generation control systems.  These sectors generally present fewer
business opportunities during a given period relative to the industrial and
manufacturing sectors. However, the average size of contracts in those sectors
tends to be much larger, and as a result, the competition for such contracts is
substantial. We may not be successful in entering these new markets and, if it
were unable to do so, our revenues and profits would decline, resulting in a
decreased value of our stock.





Many
of our competitors have substantially greater resources than we do, allowing
them to be able to reduce their prices, which would force us to reduce our
prices.





We
operate in a very competitive environment with many major international and
domestic companies, such as Honeywell, General Electric, ABB, Siemens, Emerson
and Hitachi.  Many of our competitors are much better established and
more experienced than we are, have substantially greater financial resources,
operate in many international markets and are much more diversified than we
are.  As a result, they are in a strong position to compete
effectively with us by, for example, reducing their prices, which could force us
to reduce our prices.  These large competitors are also in a better
position than we are to weather any extended weaknesses in the market for
automation and control systems.  Other emerging companies or companies
in related industries may also increase their participation in our market, which
would add to the competitive pressures that we face.





A
decrease in the rate of growth in Chinese industry and the Chinese economy in
general may lead to a decrease in our revenues because industrial companies in
China are the principal current source of revenues for us.





Industrial
companies operating in China are the principal current source of revenues for
us.  Our business benefited in the past from the rapid expansion of
China’s industrial activity, which has created additional demand from existing
companies and led to the formation of numerous additional companies that have
need for our products and services.  China’s industrial expansion has
been fueled in large measure by international demand for the low-cost goods that
China is able to produce due to labor advantages and other comparative
advantages, such as governmental subsidies to offset research and development
expenses and taxes and reduced land use/facilities costs for targeted
industries.  The Chinese economy may not be able to sustain this rate
of growth in the future, and any reduction in the rate of China’s industrial
growth or a shrinking of China’s industrial base could adversely affect our
revenues.  The resulting increase in competition for customers might
also cause erosion of profit margins that we have been able to achieve
historically.





Our
plans to enter the international automation market may not prove successful, and
we may waste capital resources and needlessly divert management’s time and
attention from our principal market.





To date
we have conducted nearly all of our business within China and Southeast
Asia.  However, we have plans to further penetrate international
markets in the near future.  While the manner in which we plan to do
so will likely not involve large expenditures of capital and resources, it will
also require meaningful amounts of management time and attention.  Our
products and our overall approach to the automation and controls system business
may not be accepted in other markets to the extent needed to make that effort
profitable.  In addition, the additional demands on our management
from these activities may detract from our efforts in the domestic Chinese
market and market of surrounding countries, causing the operating results in our
principal markets to be adversely affected.





9


We
depend heavily on key personnel, and loss of key employees and senior management
could harm our business.





Our
future business and results of operations depend in significant part upon the
continued contributions of our key technical and senior management personnel,
including Dr. Changli Wang, our Chairman, Chief Executive Officer and President,
and Mr. Peter Li, our Chief Financial Officer.  They also depend in
significant part upon our ability to attract and retain additional qualified
management, technical, marketing and sales and support personnel for our
operations.  If we lose a key employee, if a key employee fails to
perform in his or her current position or if we are not able to attract and
retain skilled employees as needed, our business could suffer. Turnover in our
senior management could significantly deplete institutional knowledge held by
our existing senior management team and impair our operations.





In
addition, if any of these key personnel joins a competitor or forms a competing
company, we may lose some of our customers. We have entered into confidentiality
and non-competition agreements with all of these key personnel. However, if any
disputes arise between these key personnel and us, it is not clear, in light of
uncertainties associated with the PRC legal system, what the court decisions
will be and the extent to which these court decisions could be enforced in
China, where all of these key personnel reside and hold some of their assets.
See “—Risks Related to Doing Business in China—Uncertainties with respect to the
PRC legal system could limit the legal protections available to you and
us.”





We
may be exposed to potential risks relating to our internal controls over
financial reporting and our ability to have those controls positively attested
to by our independent auditors.





As
directed by Section 404 of the Sarbanes-Oxley Act of 2002, the SEC adopted rules
requiring public companies to include a report of management on the Company’s
internal controls over financial reporting in their annual reports and the
independent registered public accounting firm auditing a company’s financial
statements to attest to and report on the operating effectiveness of such
company’s internal controls.  Although our independent auditor has
provided a positive attestation as of June 30, 2010, we can provide no assurance
that we will comply with all of the requirements imposed thereby and we will
receive a positive attestation from our independent auditors in the
future.  In the event we identify significant deficiencies or material
weaknesses in our internal controls that we cannot remediate in a timely manner
or we are unable to receive a positive attestation from our independent auditors
with respect to our internal controls, investors and others may lose confidence
in the reliability of our financial statements.





RISKS
RELATED TO DOING BUSINESS IN CHINA





Substantially all of our operating
assets are located in China and substantially all of our revenue will be derived
from our operations in China so our business, results of operations and
prospects are subject to the economic, political and legal policies,
developments and conditions in China.





The PRC’s
economic, political and social conditions, as well as government policies, could
impair our business.  The PRC economy differs from the economies of
most developed countries in many respects.  China’s GDP has grown
consistently since 1978 (National Bureau of Statistics of
China).  However, we cannot assure you that such growth will be
sustained in the future. If, in the future, China’s economy experiences a
downturn or grows at a slower rate than expected, there may be less demand for
spending in certain industries. A decrease in demand for spending in certain
industries could impair our ability to remain profitable.  The PRC’s
economic growth has been uneven, both geographically and among various sectors
of the economy.  The PRC government has implemented various measures
to encourage economic growth and guide the allocation of resources. Some of
these measures benefit the overall PRC economy, but may have a negative effect
on us.  For example, our financial condition and results of operations
may be hindered by PRC government control over capital investments or changes in
tax regulations.





10


The PRC
economy has been transitioning from a planned economy to a more market-oriented
economy. Although in recent years the PRC government has implemented measures
emphasizing the use of market forces for economic reform, the reduction of state
ownership of productive assets and the establishment of sound corporate
governance in business enterprises, a substantial portion of productive assets
in China is still owned by the PRC government. In addition, the PRC government
continues to play a significant role in regulating industry development by
imposing industrial policies.  It also exercises significant control
over PRC economic growth through the allocation of resources, controlling
payment of foreign currency-denominated obligations, setting monetary policy and
providing preferential treatment to particular industries or
companies.





If
the China Securities Regulatory Commission, or CSRC, or another PRC regulatory
agency, determines that CSRC approval of our recent merger was required or if
other regulatory obligations are imposed upon us, we may incur sanctions,
penalties or additional costs which would damage our business





On August
8, 2006, six PRC regulatory agencies, including the CSRC, promulgated the
Regulations on Mergers and Acquisitions of Domestic Companies by Foreign
Investors, or the M&A Regulations, which became effective on September 8,
2006. Under these regulations, the prior approval of the CSRC is required for
the overseas listing of offshore special purpose vehicles that are directly or
indirectly controlled by PRC companies or individuals and used for the purpose
of listing PRC onshore interests on an overseas stock exchange.





On
September 20, 2007, we completed a merger transaction with Chardan North China
Acquisition Corporation, or Chardan, which resulted in our current ownership and
corporate structure.  We believe that CSRC approval was not required
for our merger transaction or for the listing and trading of our securities on a
trading market because we are not an offshore special purpose vehicle that is
directly or indirectly controlled by PRC companies or
individuals.  Although the M&A Regulations provide specific
requirements and procedures, there are still many ambiguities in the meaning of
many provisions.  Further regulations are anticipated in the future,
but until there has been clarification either by pronouncements, regulation or
practice, there is some uncertainty in the scope of the regulations and the
regulators have wide latitude in the enforcement of the regulations and approval
of transactions.  If the CSRC or another PRC regulatory agency
subsequently determines that the CSRC’s approval was required, we may face
sanctions by the CSRC or another PRC regulatory agency.  If this
happens, these regulatory agencies may impose fines and penalties on our
operations in China, limit our operating privileges in China, restrict or
prohibit payment or remittance of dividends paid by Hollysys, or take other
actions that could damage our business, financial condition, results of
operations, reputation and prospects, as well as the trading price of our
securities.





If
the PRC imposes restrictions designed to reduce inflation, future economic
growth in the PRC could be severely curtailed which could hurt our business and
profitability.





While the
economy of the PRC has experienced rapid growth, this growth has been uneven
among various sectors of the economy and in different geographical areas of the
country.  Rapid economic growth often can lead to growth in the supply
of money and rising inflation.  In order to control inflation in the
past, the PRC has imposed controls on bank credits, limits on loans for fixed
assets and restrictions on state bank lending.  Imposition of similar
restrictions may lead to a slowing of economic growth, a decrease in demand for
our products and generally damage our business and profitability.





Fluctuations
in exchange rates could harm our business and the value of our
securities.





The value
of our securities will be indirectly affected by the foreign exchange rate
between U.S. dollars and RMB and between those currencies and other currencies
in which our sales may be denominated. Because substantially most of our
earnings and cash assets are denominated in RMB and our financial results are
reported in U.S. dollars, fluctuations in the exchange rate between the U.S.
dollar and the RMB will affect our balance sheet and our earnings per share in
U.S. dollars.  In addition, appreciation or depreciation in the value
of the RMB relative to the U.S. dollar would affect our financial results
reported in U.S. dollar terms without giving effect to any underlying change in
our business or results of operations.  Fluctuations in the exchange
rate will also affect the relative value of any dividend we issue that will be
exchanged into U.S. dollars as well as earnings from, and the value of, any U.S.
dollar-denominated investments we make in the future.  Since July
2005, the RMB has no longer been pegged to the U.S. dollar.  Although
the People’s Bank of China regularly intervenes in the foreign exchange market
to prevent significant short-term fluctuations in the exchange rate, the RMB may
appreciate or depreciate significantly in value against the U.S. dollar in the
medium to long term. Moreover, it is possible that in the future PRC authorities
may lift restrictions on fluctuations in the RMB exchange rate and lessen
intervention in the foreign exchange market.





11


Very
limited hedging transactions are available in China to reduce our exposure to
exchange rate fluctuations.  To date, we have not entered into any
hedging transactions.  While we may enter into hedging transactions in
the future, the availability and effectiveness of these transactions may be
limited, and we may not be able to successfully hedge our exposure at
all.  In addition, our foreign currency exchange losses may be
magnified by PRC exchange control regulations that restrict our ability to
convert RMB into foreign currencies.




Exchange
controls that exist in the PRC may limit our ability to utilize our cash flow
effectively.





We are
subject to the PRC’s rules and regulations on currency conversion.  In
the PRC, the State Administration for Foreign Exchange, or SAFE, regulates the
conversion of the RMB into foreign currencies.  Currently, foreign
investment enterprises, or FIEs, are required to apply to the SAFE for “Foreign
Exchange Registration Certificates for FIEs.”  We believe Beijing
Helitong is an FIE.  With such registration certificates, which need
to be renewed annually, FIEs are allowed to open foreign currency accounts
including a “basic account” and “capital account.” Currency conversion within
the scope of the “basic account,” such as remittance of foreign currencies for
payment of dividends, can be effected without requiring the approval of the
SAFE.  However, conversion of currency in the “capital account,”
including capital items such as direct investment, loans and securities, still
require approval of the SAFE.  We cannot assure you that the PRC
regulatory authorities will not impose further restrictions on the
convertibility of the RMB. Any future restrictions on currency exchanges may
limit our ability to use our cash flow for the distribution of dividends to our
shareholders or to fund operations it may have outside of the PRC.





A
failure by our shareholders or beneficial owners who are PRC citizens or
residents in China to comply with certain PRC foreign exchange regulations could
restrict our ability to distribute profits, restrict our overseas and
cross-border investment activities or subject us to liability under PRC
laws.





Notice on
Issues Relating to Administration of Foreign Exchange in Fund-raising and
Reverse Investment Activities of Domestic Residents Conducted via Offshore
Special Purpose Companies, or Notice 75, was issued on October 21, 2005 by SAFE
(that replaced two previously issued regulations on January 24, 2005 and April
8, 2005, respectively) that requires approvals from, and registrations with, PRC
government authorities in connection with direct or indirect offshore investment
activities by PRC residents and PRC corporate entities.  The SAFE
regulations require retroactive approval and registration of direct or indirect
investments previously made by PRC residents in offshore companies. In the event
that a PRC shareholder with a direct or indirect stake in an offshore parent
company fails to obtain the required SAFE approval and make the required
registration, the PRC subsidiaries of such offshore parent company may be
prohibited from making distributions of profit to the offshore parent and from
paying the offshore parent proceeds from any reduction in capital, share
transfer or liquidation in respect of the PRC subsidiaries. Further, failure to
comply with the various SAFE approval and registration requirements described
above, as currently drafted, could result in liability under PRC law for foreign
exchange evasion.





Although
SAFE issued an implementation Notice No. 106, or Notice 106, on May 29, 2007 to
local branches or agencies, because of the uncertainty as to when and how the
new procedure and requirements will take effect or be enforced, and uncertainty
concerning the reconciliation of the new regulations with other approval
requirements, it remains unclear how these existing regulations, and any future
legislation concerning offshore or cross-border transactions, will be
interpreted, amended and implemented by the relevant government
authorities.  Although we are committed to complying with the relevant
rules, we cannot assure you that we will never have shareholders or beneficial
owners who are PRC citizens or residents, or that such persons have always
complied with and will in the future make or obtain any applicable registrations
or approvals required by SAFE Circular 75, Notice 106 or other related
regulations.  Failure by such shareholders or beneficial owners to
comply with SAFE Circular 75 and Notice 106 could subject us to fines or legal
sanctions, restrict our overseas or cross-border investment activities, limit
our subsidiary’s ability to make distributions or pay dividends or affect our
ownership structure, which could adversely affect our business and
prospects.





12


Because
Chinese law governs many of our material agreements, we may not be able to
enforce our rights within the PRC or elsewhere, which could result in a
significant loss of business, business opportunities or capital.





Chinese
law governs many of our material agreements, some of which may be with Chinese
governmental agencies. We cannot assure you that we will be able to enforce any
of our material agreements or that remedies will be available outside of the
PRC.  The system of laws and the enforcement of existing laws and
contracts in the PRC may not be as certain in implementation and interpretation
as in the United States. The Chinese judiciary is relatively inexperienced in
enforcing corporate and commercial law, leading to a higher than usual degree of
uncertainty as to the outcome of any litigation.  The inability to
enforce or obtain a remedy under any of our future agreements could result in a
significant loss of business, business opportunities or capital.





Our
management is unfamiliar with United States securities laws and will have to
expend time and resources becoming familiar with such laws which could lead to
various regulatory issues.





Many
members of our management team are not familiar with United States securities
laws and will have to expend time and resources becoming familiar with such
laws.  This could be expensive and time-consuming and could lead to
various regulatory issues and a diversion of management attention, which may
harm our operations.





The ability of
our Chinese operating subsidiary to pay certain foreign currency obligations,
including dividends, is subject to restrictions.





Our
ability to pay dividends may be restricted due to the foreign exchange control
policies and availability of cash balances. Since substantially all of our
operations are conducted in China and a majority of our revenues are generated
in China, a significant portion of our revenue earned and currency received are
denominated in RMB.  The Chinese government imposes controls on the
convertibility of RMB into foreign currencies and, in certain cases, the
remittance of currency out of China. RMB is currently not a freely convertible
currency. Shortages in the availability of foreign currency may restrict our
ability to remit sufficient foreign currency to pay dividends, if any, on our
ordinary shares or otherwise satisfy foreign currency denominated
obligations.  Under existing Chinese foreign exchange regulations,
payments of current account items, including profit distributions, interest
payments and expenditures from the transaction, can be made in foreign
currencies without prior approval from the State Administration of Foreign
Exchange by complying with certain procedural requirements.  However,
approval from appropriate governmental authorities is required where RMB is to
be converted into foreign currency and remitted out of China to pay capital
expenses such as the repayment of bank loans denominated in foreign
currencies.  The Chinese government may also at its discretion
restrict access in the future to foreign currencies for current account
transactions.  If the foreign exchange control system prevents us from
obtaining sufficient foreign currency to satisfy our currency demands, we may
not be able to pay certain of our expenses as they come due.  In
addition, current regulations in China permit Chinese subsidiaries to pay
dividends to us only out of their accumulated distributable profits, if any,
determined in accordance with Chinese accounting standards and regulations. In
addition, Chinese subsidiaries are required to set aside at least 10% of its
accumulated profits each year.  Such reserve account may not be
distributed as cash dividends.





If
any dividend is declared in the future and paid in a foreign currency, you may
be taxed on a larger amount in U.S. dollars than the U.S. dollar amount that you
will actually ultimately receive.





If you
are a U.S. holder, you will be taxed on the U.S. dollar value of your dividends
at the time you receive them, even if you actually receive a smaller amount of
U.S. dollars when the payment is in fact converted into U.S. dollars.
Specifically, if a dividend is declared and paid in a foreign currency, the
amount of the dividend distribution that you must include in your income as a
U.S. holder will be the U.S. dollar value of the payments made in the foreign
currency, determined at the conversion rate of the foreign currency to the U.S.
dollar on the date the dividend distribution is includible in your income,
regardless of whether the payment is in fact converted into U.S. dollars. Thus,
if the value of the foreign currency decreases before you actually convert the
currency into U.S. dollars, you will be taxed on a larger amount in U.S. dollars
than the U.S. dollar amount that you will actually ultimately
receive.





Our
business could be severely harmed if the Chinese government changes its
policies, laws, regulations, tax structure or its current interpretations of its
laws, rules and regulations relating to our operations in China.





Our
manufacturing facility is located in China and virtually all of our assets are
located in China.  We generate our sales revenue only from customers
located in China.  Our results of operations, financial state of
affairs and future growth are, to a significant degree, subject to China’s
economic, political and legal development and related uncertainties. Our
operations and results could be materially affected by a number of factors,
including, but not limited to




13




·
            Changes
      in policies by the Chinese government resulting in changes in laws or
      regulations or the interpretation of laws or
  regulations,


·
            changes
      in taxation,


·
            changes
      in employment restrictions,


·
            restrictions
      on imports and sources of supply,


·
            import
      duties, and


·
            currency
      revaluation.





Over the
past several years, the Chinese government has pursued economic reform policies
including the encouragement of private economic activities and greater economic
decentralization.  If the Chinese government does not continue to
pursue its present policies that encourage foreign investment and operations in
China, or if these policies are either not successful or are significantly
altered, then our business could be harmed.  Following the Chinese
government’s policy of privatizing many state-owned enterprises, the Chinese
government has attempted to augment its revenues through increased tax
collection.  It also exercises significant control over China’s
economic growth through the allocation of resources, controlling payment of
foreign currency-denominated obligations, setting monetary policy and providing
preferential treatment to particular industries or
companies.  Continued efforts to increase tax revenues could result in
increased taxation expenses being incurred by us.  Economic
development may be limited as well by the imposition of austerity measures
intended to reduce inflation, the inadequate development of infrastructure and
the potential unavailability of adequate power and water supplies,
transportation and communications.  In addition, the Chinese
government continues to play a significant role in regulating industry by
imposing industrial policies.





The
Chinese laws and regulations which govern our current business operations are
sometimes vague and uncertain and may be changed in a way that hurts our
business.





China’s
legal system is a civil law system based on written statutes, in which system
decided legal cases have little value as precedents, unlike the common law
system prevalent in the United States. There are substantial uncertainties
regarding the interpretation and application of Chinese laws and regulations,
including but not limited to the laws and regulations governing our business, or
the enforcement and performance of our arrangements with customers in the event
of the imposition of statutory liens, death, bankruptcy and criminal
proceedings.  The Chinese government has been developing a
comprehensive system of commercial laws, and considerable progress has been made
in introducing laws and regulations dealing with economic matters such as
foreign investment, corporate organization and governance, commerce, taxation
and trade.  However, because these laws and regulations are relatively
new, and because of the limited volume of published cases and judicial
interpretation and their lack of force as precedents, interpretation and
enforcement of these laws and regulations involve significant uncertainties. New
laws and regulations that affect existing and proposed future businesses may
also be applied retroactively.   We are considered an FIE under
Chinese laws, and as a result, we must comply with Chinese laws and
regulations.  We cannot predict what effect the interpretation of
existing or new Chinese laws or regulations may have on our
business.  If the relevant authorities find us to be in violation of
Chinese laws or regulations, they would have broad discretion in dealing with
such a violation, including, without limitation: levying fines; revoking our
business and other licenses; requiring that we restructure our ownership or
operations; and requiring that we discontinue any portion or all of our
business.





A
slowdown or other adverse developments in the Chinese economy may materially and
adversely affect our customers’ demand for our services and our
business.





Almost
all of our operations are conducted in China and most of our revenues are
generated from sales to businesses operating in China.  Although the
Chinese economy has grown significantly in recent years, such growth may not
continue. we do not know how sensitive we are to a slowdown in economic growth
or other adverse changes in Chinese economy which may affect demand for our
products.  A slowdown in overall economic growth, an economic downturn
or recession or other adverse economic developments in China may materially
reduce the demand for our products and in turn reduce our results of
operations.





14


The
implementation of the new PRC employment contract law and increases in the labor
costs in China may hurt our business and profitability.





A new
employment contract law became effective on January 1, 2008 in
China.  It imposes more stringent requirements on employers in
relation to entry into fixed-term employment contracts, recruitment of temporary
employees and dismissal of employees.  In addition, under the newly
promulgated Regulations on Paid Annual Leave for Employees, which also became
effective on January 1, 2008, employees who have worked continuously for more
than one year are entitled to paid vacation ranging from 5 to 15 days, depending
on the length of the employee’s service.  Employees who waive such
vacation entitlements at the request of the employer will be compensated for
three times their normal daily salaries for each vacation day so waived. As a
result of the new law and regulations, our labor costs may increase. There is no
assurance that disputes, work stoppages or strikes will not arise in the future.
Increases in the labor costs or future disputes with our employees could damage
our business, financial condition or operating results.





The
Chinese government has been adopting increasingly stringent environmental,
health and safety protection requirements, which could hurt our
business.





The
continuance of our operations depends upon compliance with the applicable
environmental, health and safety, fire prevention and other
regulations.  Any change in the scope or application of these laws and
regulations may limit our production capacity or increase our cost of operation
and could therefore have an adverse effect on our business operations, financial
condition and operating results.  Our failure to comply with these
laws and regulations could result in fines, penalties or legal
proceedings.  There can be no assurance that the Chinese government
will not impose additional or stricter laws or regulations, compliance with
which may cause us to incur significant capital expenditures, which it may not
be able to pass on to our customers.





Under
the New EIT Law, we may be classified as a “resident enterprise” of
China.  Such classification will likely result in unfavorable tax
consequences to us and our non-PRC shareholders.





China
passed a new Enterprise Income Tax Law, or the New EIT Law, and its implementing
rules, both of which became effective on January 1, 2008.  Under the
New EIT Law, an enterprise established outside of China with “de facto
management bodies” within China is considered a “resident enterprise,” meaning
that it can be treated in a manner similar to a Chinese domestic enterprise for
enterprise income tax purposes.  The implementing rules of the New EIT
Law define de facto management as “substantial and overall management and
control over the production and operations, personnel, accounting, and
properties” of the enterprise.





On April
22, 2009, the State Administration of Taxation issued the Notice Concerning
Relevant Issues Regarding Cognizance of Chinese Investment Controlled
Enterprises Incorporated Offshore as Resident Enterprises pursuant to Criteria
of de facto Management Bodies, or the Notice, further interpreting the
application of the New EIT Law and its implementation non-Chinese enterprise or
group controlled offshore entities.  Pursuant to the Notice, an
enterprise incorporated in an offshore jurisdiction and controlled by a Chinese
enterprise or group will be classified as a “non-domestically incorporated
resident enterprise” if (i) its senior management in charge of daily operations
reside or perform their duties mainly in China; (ii) its financial or personnel
decisions are made or approved by bodies or persons in China; (iii) substantial
assets and properties, accounting books, corporate chops, board and shareholder
minutes are kept in China; and (iv) at least half of its directors with voting
rights or senior management often resident in China.  A resident
enterprise would be subject to an enterprise income tax rate of 25% on its
worldwide income and must pay a withholding tax at a rate of 10% when paying
dividends to its non-PRC shareholders.  However, it remains unclear as
to whether the Notice is applicable to an offshore enterprise incorporated by a
Chinese natural person.  Nor are detailed measures on imposition of
tax from non-domestically incorporated resident enterprises are
available.  Therefore, it is unclear how tax authorities will
determine tax residency based on the facts of each case.





We may be
deemed to be a resident enterprise by Chinese tax authorities.  If the
PRC tax authorities determine that Hollysys is a “resident enterprise” for PRC
enterprise income tax purposes, a number of unfavorable PRC tax consequences
could follow. First, we may be subject to the enterprise income tax at a rate of
25% on our worldwide taxable income as well as PRC enterprise income tax
reporting obligations.  In our case, this would mean that income such
as interest on financing proceeds and non-China source income would be subject
to PRC enterprise income tax at a rate of 25%.  Second, although under
the New EIT Law and its implementing rules, dividends paid to us from our PRC
subsidiaries would qualify as “tax-exempt income,” we cannot guarantee that such
dividends will not be subject to a 10% withholding tax, as the PRC foreign
exchange control authorities, which enforce the withholding tax, have not yet
issued guidance with respect to the processing of outbound remittances to
entities that are treated as resident enterprises for PRC enterprise income tax
purposes.  Finally, it is possible that future guidance issued with
respect to the new “resident enterprise” classification could result in a
situation in which a 10% withholding tax is imposed on dividends we pay to our
non-PRC shareholders and with respect to gains derived by our non-PRC
shareholders from transferring our shares.





15


We do not
expect any impact on our business and operations under the new EIT Law and its
implementing rules as we do not have non-PRC income.





RISKS
RELATED TO OUR SHARES





The market price
of our ordinary shares is volatile, leading to the possibility of its value
being depressed at a time when
you want to sell your holdings.





The
market price of our ordinary shares is volatile, and this volatility may
continue.  Numerous factors, many of which are beyond our control, may
cause the market price of our ordinary shares to fluctuate significantly. These
factors include:





·
            our
      earnings releases, actual or anticipated changes in our earnings,
      fluctuations in our operating results or our failure to meet the
      expectations of financial market analysts and
  investors;


·
            changes
      in financial estimates by us or by any securities analysts who might cover
      our stock;


·
            speculation
      about our business in the press or the investment
    community;


·
            significant
      developments relating to our relationships with our customers or
      suppliers;


·
            stock
      market price and volume fluctuations of other publicly traded companies
      and, in particular, those that are in the same industry as we
      are;


·
            customer
      demand for our products;


·
            investor
      perceptions of the automation and control industry in general and our
      company in particular;


·
            the
      operating and stock performance of comparable
  companies;


·
            general
      economic conditions and trends;


·
            major
      catastrophic events;


·
            announcements
      by us or our competitors of new products, significant acquisitions,
      strategic partnerships or
divestitures;


·
            changes
      in accounting standards, policies, guidance, interpretation or
      principles;


·
            loss
      of external funding sources;


·
            failure
      to maintain compliance with Nasdaq
rules;


·
            sales
      of our ordinary shares, including sales by our directors, officers or
      significant shareholders; and


·
            additions
      or departures of key personnel.





Securities
class action litigation is often instituted against companies following periods
of volatility in their stock price. This type of litigation could result in
substantial costs to us and divert our management’s attention and
resources.





Moreover,
securities markets may from time to time experience significant price and volume
fluctuations for reasons unrelated to operating performance of particular
companies. For example, from October until June 2009, securities markets in the
United States, China and throughout the world experienced a historically large
decline in share price. These market fluctuations may adversely affect the price
of our ordinary shares and other interests in our company at a time when you
want to sell your interest in us.





16


We
are a “foreign private issuer,” and have disclosure obligations that are
different than those of other U.S. domestic reporting companies so you should
not expect to receive the same information about us at the same time as a U.S.
domestic reporting company may provide.





We are a
foreign private issuer and, as a result, we are not subject to certain of the
requirements imposed upon U.S. domestic issuers by the SEC. For example, we are
not required to issue quarterly reports or proxy statements.  Through
the fiscal year ending June 30, 2011, we are allowed six months to file our
annual report with the SEC and thereafter must file our annual report within
four months of our fiscal year end.  We are not required to disclose
certain detailed information regarding executive compensation that is required
from U.S. domestic issuers.  Further, our directors and executive
officers are not required to report equity holdings under Section 16 of the
Securities Act.  As a foreign private issuer, we are also exempt from
the requirements of Regulation FD (Fair Disclosure) which, generally, are meant
to ensure that select groups of investors are not privy to specific information
about an issuer before other investors.  We are, however, still
subject to the anti-fraud and anti-manipulation rules of the SEC, such as Rule
10b-5.  Since many of the disclosure obligations required of us as a
foreign private issuer are different than those required by other U.S. domestic
reporting companies, our shareholders should not expect to receive information
about us in the same amount and at the same time as information is received
from, or provided by, other U.S. domestic reporting companies.  We are
liable for violations of the rules and regulations of the SEC which do apply to
us as a foreign private issuer. Violations of these rules could affect our
business, results of operations and financial condition.





We
do not intend to pay dividends on our ordinary  shares for the
foreseeable future.





We intend
to retain any future earnings to fund the operation and expansion of our
business and, therefore, we do not anticipate paying cash dividends on our
ordinary shares in the foreseeable future.





You
may have difficulty enforcing judgments obtained against us.





We are a
BVI company and substantially all of our assets are located outside of the
United States. Virtually all of our assets and a substantial portion of our
current business operations are conducted in the PRC.  In addition,
almost all of our directors and officers are nationals and residents of
countries other than the United States. A substantial portion of the assets of
these persons are located outside the United States. As a result, it may be
difficult for you to effect service of process within the United States upon
these persons.  It may also be difficult for you to enforce in
U.S. courts judgments obtained in U.S. courts based on the civil liability
provisions of the U.S. federal securities laws against us and our officers and
directors, many of whom are not residents in the United States and whose assets
are located in significant part outside of the United States.  In
addition, there is uncertainty as to whether the courts of the British Virgin
Islands or the PRC would recognize or enforce judgments of U.S. courts against
us or such persons predicated upon the civil liability provisions of the
securities laws of the United States or any state.  In addition, it is
uncertain whether such British Virgin Islands or PRC courts would be competent
to hear original actions brought in the BVI or the PRC against us or such
persons predicated upon the securities laws of the United States or any
state.





Because
we are incorporated under the laws of the BVI, it may be more difficult for our
shareholders to protect their rights than it would be for a shareholder of a
corporation incorporated in another jurisdiction.





Our
corporate affairs are governed by our Memorandum and Articles of Association and
by the BVI Business Companies Act, 2004 of the BVI.  Principles of law
relating to such matters as the validity of corporate procedures, the fiduciary
duties of management and the rights of our shareholders differ from those that
would apply if we were incorporated in the United States or another
jurisdiction.  The rights of shareholders under BVI law are not as
clearly established as are the rights of shareholders in many other
jurisdictions.  Under the laws of most jurisdictions in the United
States, majority and controlling shareholders generally have certain fiduciary
responsibilities to the minority shareholders. Shareholder action must be taken
in good faith, and actions by controlling shareholders which are obviously
unreasonable may be declared null and void. BVI law protecting the interests of
minority shareholders may not be as protective in all circumstances as the law
protecting minority shareholders in US jurisdictions.  In addition,
the circumstances in which a shareholder of a BVI company may sue the company
derivatively, and the procedures and defenses that may be available to the
company, may result in the rights of shareholders of a BVI company being more
limited than those of shareholders of a company organized in the
US.  Furthermore, our directors have the power to take certain actions
without shareholder approval which would require shareholder approval under the
laws of most US jurisdictions.  The directors of a BVI corporation,
subject in certain cases to court approval but without shareholder approval, may
implement a reorganization, merger or consolidation, the sale of any assets,
property, part of the business, or securities of the corporation.  The
ability of our board of directors to create new classes or series of shares and
the rights attached by amending our Memorandum of Association and Articles of
Association without shareholder approval could have the effect of delaying,
deterring or preventing a change in our control without any further action by
the shareholders, including a tender offer to purchase our ordinary shares at a
premium over then current market prices. Thus, our shareholders may have more
difficulty protecting their interests in the face of actions by our board of
directors or our controlling shareholders than they would have as shareholders
of a corporation incorporated in another jurisdiction.





17


We
may be classified as a passive foreign investment company, which could result in
adverse United States federal income tax consequences to U.S.
shareholders.





We
believe that we are not considered a “passive foreign investment company,” or
PFIC, for United States federal income tax purposes for our tax year ended June
30, 2010.  However, each year we must make a separate determination as
to whether we are a PFIC.  We cannot assure you that we will not be a
PFIC for our tax year ending June 30, 2011 or any following tax
year.  If a non-U.S. corporation either (i) at least 75% of its gross
income is passive income for a tax year or (ii) at least 50% of the value of its
assets (based on an average of the quarterly values of the assets during a tax
year) is attributable to assets that produce or are held for the production of
passive income, then the non-U.S. corporation will be deemed a
PFIC.  The market value of our assets may be determined to a large
extent by the market price of our ordinary shares, which is likely to fluctuate
after this offering. Furthermore, how we spend as well as how quickly we spend
the proceeds from the offering will affect the composition of our income and
assets.  If we are treated as a PFIC for any tax year during which
U.S. shareholders hold ordinary shares, certain adverse United States federal
income tax consequences could apply to such U.S. holders.





Our
Shareholder Rights Plan and charter documents may hinder or prevent change of
control transactions.





Our
shareholder rights plan and provisions contained in our Memorandum and Articles
of Association may discourage transactions involving an actual or potential
change in our ownership. In addition, our Memorandum and Articles of Association
authorizes our board of directors to issue up to 90,000,000 shares
of  preferred stock without any further action by the
stockholders.  Please see Item 10, Additional Information for more
information regarding our shareholder rights plan.  Such restrictions
and issuances could make it more difficult, delay, discourage, prevent or make
it more costly to acquire or effect a change-in-control, which in turn could
prevent our stockholders from recognizing a gain in the event that a favorable
offer is extended and could materially and negatively affect the market price of
our ordinary shares, even if you or our other stockholders believe that such
actions are in the best interests of us and our stockholders.





ITEM
4.                      INFORMATION
ON THE COMPANY




A.
History and Development of the Company





We were
established under the laws of the BVI on February 6, 2006, as HLS Systems
International, Ltd., in order to merge with Chardan, a Delaware special purpose
acquisition company, originally established on March 10, 2005, with the primary
purpose of effecting a business combination with an unidentified operating
business that has its primary operating facilities located in China, in any city
or province north of Yangtze River. On September 20, 2007, we acquired all of
the issued and outstanding ordinary shares of Gifted Time, a BVI
company.  Simultaneously with the acquisition, Chardan merged with and
into us, all of the common stock of Chardan was converted into our ordinary
shares, on a one-to-one basis, and we assumed the then outstanding Chardan
warrants.  As a result of the foregoing transactions, we acquired a
controlling interest in Beijing Hollysys and Hangzhou Hollysys, and an indirect
interest in their majority and minority owned subsidiaries, and the consolidated
financial statements of Beijing Hollysys and Hangzhou Hollysys became our
historical financial statements for reporting purposes.  On July 17,
2009, we changed our name to Hollysys Automation Technologies Ltd to more
accurately reflect our core value of leveraging proprietary technologies to
provide state-of-the-art automation and control solutions for our
clients.





Gifted
Time and Subsidiaries





Gifted
Time was established under the laws of the BVI on September 21, 2005, as a
holding company for our indirect PRC subsidiaries, Beijing Hollysys and Hangzhou
Hollysys.





18


Beijing
Hollysys was established in September 1996 as a domestic Chinese company based
in Beijing, China. From inception, Beijing Hollysys has been engaged in
designing, developing and manufacturing automation control systems for customers
throughout China.  Beijing Hollysys offers integrated automation
solutions for many industries, including electric power generation, transmission
and distribution, manufacturing (including metallurgy, construction materials,
petrochemical and pharmaceutical industries), and railroad
transportation.  Beijing Hollysys’ integrated automation systems and
solutions have enabled customers to improve the safety, reliability and
efficiency of their manufacturing processes and significantly enhance the
customers’ overall profitability.  Hangzhou Hollysys was established
as an equity joint venture under Chinese laws in September 2003.  The
operations of Hangzhou Hollysys focus on industrial automation and integrated
solutions.





During
the period from December 2007 to March 2008, we established a series of wholly
owned subsidiaries, namely (i) Beijing Hollysys S&T, a Chinese domestic
enterprise which acquired the original shareholders’ 74.11% equity interest in
Beijing Hollysys; (ii) Beijing Helitong, a wholly foreign owned enterprise in
China which acquired the original shareholders’ 100% equity interest in Beijing
Hollysys S&T; (iii) World Hope, a Hong Kong company which acquired the
original shareholders’ 100% equity interest in Beijing Helitong; (iv) Clear
Mind, a BVI company which acquired the original shareholders’ 100% equity
interest in World Hope.  Through this series of ownership arrangement,
we obtained the 74.11% legal ownership of Beijing Hollysys instead of through
consignment agreements.  However, there can be no assurance that the
PRC authorities will not, in the future, challenge the appropriateness of the
procedures of the transferring of the ownership of the PRC subsidiaries as the
Company did not directly go through the procedures required by the M&A
Regulations.





On July
1, 2009, the Company completed the acquisition of 1.78% equity interest in
Beijing HollySys from the non-controlling interest holder for a consideration of
RMB 18 million (approximately $2,638,793), and held 75.89% equity interest of
Beijing HollySys upon the completion of the acquisition.





On
December 23, 2009, we entered into a share sale and purchase agreement, or the
Share Purchase Agreement, with Unionway Resources Limited, a business company
incorporated in the BVI, or the Seller, pursuant to which, among other things,
the Company acquired 100% equity interest in Maypower Limited, a business
company incorporated in the BVI and owned 24.11% of Beijing
Hollysys.  As the consideration for the acquisition of the equity
interest, we agreed to:





1)         issue
4,413,948 ordinary shares, or the Shares, to the Seller, and





2)         pay
cash $9,917,062.5, or RMB 67,634,366.25 to the Seller.




The
Shares were issued to the Seller and its designeee on March 16,
2010.  As a result of the acquisition of the equity interest, we
indirectly own 100% of Beijing Hollysys.





On
September 1, 2009, Beijing Hollysys entered into an agreement with two equity
owners of Beijing WoDeWeiYe to acquire 51% equity interest in of Beijing
WoDeWeiYe for a cash consideration of RMB 2 million (approximately
$294,477).  Upon the acquisition, Beijing WoDeWeiYe became a
subsidiary of the Company, and the operating result of Beijing WoDeWeiYe was
included in the Hollysys’s consolidated financial statements effective from
September 1, 2009.  We acquired Beijing WoDeWeiYe to engage in the
intelligent electric meter business and to further build up our foothold in
subway automation sector.





On June
4, 2010, Beijing Hollysys S&T invested RMB 10 million (approximately
$1,464,536) to establish a wholly owned subsidiary, Beijing Hollysys
Electronics, which engages in the business of automation equipment manufacturing
and assembly.





On June
4, 2010, Beijing Hollysys S&T invested RMB 5.10 million (approximately
$746,913) to establish a subsidiary, Beijing Hollycon, which engages in the
medical automation equipment manufacturing business.





Singapore
Hollysys





On
November 19, 2007, we entered into a sales and purchase agreement with Fulbond
Systems Pte Ltd., or Fulbond Systems, a Singapore based company partially owned
by Mr. Kiam Fee Yau, our ex-director, to acquire a 100% interest of Fulbond
Systems for a price of SGD$1,066,234 (approximately $744,596).  Pursuant to
the sales and purchase agreement, the closing day of this acquisition was
November 30, 2007 and after the ownership transfer, we changed the name of
Fulbond Systems to “Hollysys (Asia Pacific) Pte Limited,” or Singapore
Hollysys.  The purchase price was paid in cash on December 11,
2007.  As a result of the transaction, Singapore Hollysys becomes our
wholly owned subsidiary and the operating results of Singapore Hollysys is
included in our consolidated financial statements, effective from December 1,
2007.  We acquired Singapore Hollysys to serve as our Asia Pacific
headquarters to market our automation products within the region as well as in
other overseas countries.





19


B.  Business
Overview





We are a
leading provider of automation and control technologies and applications in
China that enable our diversified industry and utility customers to improve
operating safety, reliability, and efficiency. Founded in 1993, we have
approximately 2,400 employees with 9 sales centers and 13 service centers in 21
cities in China and serve over 1,700 customers in the industrial, railway,
subway & nuclear industries.  Our proprietary technologies are
applied in product lines including Distributed Control Systems, or DCS and
Programmable Logic Controller, or PLC, for industrial sector, high-speed railway
signaling system of Train Control Center, or TCC, and Automatic Train
Protection, or ATP, subway supervisory and control platform, or SCADA, and
nuclear conventional island automation and control system.





We have
historically focused our efforts in the area of DCS, which are networks of
controllers, sensors, actuators and other devices that can be programmed to
control outputs based on input conditions and/or algorithms, which is mainly
used to control continuous manufacturing process. Our DCS have been widely used
in the industries involving continuous flow of material handling, such as power
generation, petro-chemical, chemical, cement manufacturing, paper mills, waste
water recycling. We subsequently entered PLC market, which is mainly used in
discreet control applied to a wide array of industries. PLCs are usually
integrated together into machines providing control for the unit. We also
branched out of industrial automation domain to rail businesses leveraging on
our core competency and strong research and development capabilities, and have
already established our leading position in the high-speed rail signaling market
and subway SCADA market. We also command a leading position in China’s nuclear
automation and control market as the only proven local conventional island
automation and control product provider. Through our 50/50 joint venture with
China Guangdong Nuclear Power Holdings Co., Ltd., China Techenergy Co., Ltd., we
have access to all the nuclear reactors being contracted to our joint venture
partner, which is currently holding roughly 60% of China’s nuclear market
share.  We believe that our present leadership position in the
high-growth segments is attributable to our vision, execution, and strong
research and development capabilities.





We have a
reputation in the industry for our comprehensive capabilities in the PRC
domestic industrial automation market and have concentrated our focus on the
development of this market.  We sell our products and services to, or
carry out engineering projects for, national or multi-provincial companies with
subsidiaries located across 30 provinces in China.  To date, we have
served more than 1,700 industrial enterprise customers and have undertaken over
8,000 projects.  We believe that the quality of our systems is
unsurpassed by local Chinese competitors and is comparable to high-end foreign
suppliers of DCS and the history of our projects supports that
view.  For example, after three years of review and analysis, BASF, a
large multi-national company, has designated us as a potential qualified DCS
vendor for the company, a distinction shared with large multinationals such as
ABB and Emerson.





Our
revenue increased from approximately $121.5 million in fiscal year 2008, to
approximately $157.5 million in fiscal year 2009 and approximately $174.1
million in fiscal year 2010, representing a compounded annual growth rate of
approximately 19.7%.  These significant increases reflect our success
in exploring new business areas and our increasing market
penetration.  We continually seek to broaden our market reach by
introducing new technology and improving our profit margin through new business
areas such as railway control systems and nuclear power plant
control.





Strategy





Our goal
is to become one of the world's leading automation and process system
companies.  To meet this goal we plan to enhance the core competencies
that have made us a leading domestic automation and control technology and
application  provider in China, the only Chinese company qualified to
design and manufacture control systems for conventional island of nuclear power
stations, and a leader in the high-speed rail and subway sector.   The principal
elements of our core business strategies are as follows:




20




·
            To further establish our
      leadership position as a dominant automation and control technology and
      application provider across all the segments –  We seek
      to  be a potential industry consolidator in China as a dominant
      leading provider of industrial automation and control technology and
      application for clients in various industries, by presenting ourselves as
      a more total solution provider and expanded sales force and network across
      the country.  We also seek to further penetrate the rail
      business with more proprietary products to enhance our leading position
      and market share. Since the majority of our customers operate in a wide
      range of industries, especially in the high-speed rail, subway, and
      nuclear sectors, we stand to be a prime beneficiary of China’s drive for
      environment protection, clean energy, lower carbon emission, national
      economic development model transformation from export oriented
      to  domestic consumption oriented, and the rising labor cost due
      to demographics in China. We plan to aggressively expand our business
      to fully exploit the anticipated growing demand for automation and control
      in areas favored by government policy and the macro trend, such as clean
      energy and other environmentally friendly industries, and infrastructure
      industries.  Our combination of patented technologies, strong
      research and development capabilities, ability to leverage strategic
      alliance to enter and penetrate new market segments, and a comprehensive
      understanding of the Chinese market should allow us to capitalize on these
      growth opportunities.





·
            To continuously enhance our
      leadership position in technology – We have long been recognized as
      a pioneer in the development of industrial automation and control
      technology as well as applications.  We are continuously seeking
      ways to improve our existing product lines while being committed to the
      development of new applications. In order to maintain our leadership
      position in technology, we have devoted and will continue to devote
      significant resources to the research and development process that is
      undertaken by a group of highly trained and skilled
      engineers.  We plan to concentrate our research and development
      resources on our core end market related technologies and products, and
      new upcoming growth industries, including the 5th
      generation of proprietary DCS platform, subway signaling system, wind
      energy related control products and application, and high-speed rail
      products to compliment our existing high-speed product
      portfolio.





·
            To expand our automation and
      control applications to a wider array of industries and actively explore
      and prepare for international market expansion– In addition to
      aiming for a global leadership position, our secondary goal is to
      carefully expand or migrate to adjacent industries that can share or
      strengthen our core business. We have successfully leveraged our
      technological foundation and strategic alliance and have expanded our end
      markets from industrial, to nuclear, to rail over the past 10
      years.  We plan to continue to leverage this successful strategy
      to enter some high-growth and high-margin end-markets, such as wind
      energy, alternative energy, and waste management. We also actively explore
      the international market to prepare ourselves for future full-scale
      international expansion.





Products
and Services





As a
leading provider of automation and control technology and applications in China,
we provide our customers with our standard and customized products and
corresponding services based on each client’s specific requirements.  We
are committed to providing reliable, advanced and cost-effective solutions to
help customers optimize their processes to achieve higher quality, greater
reliability and better productivity and profitability.





Industrial Automation: Our
major offering is a comprehensive suite of automation systems for a wide
market.  Our industrial market clientele ranges from petrochemical,
thermal power industries, to cement production and paper making industries, and
etc. The two mainstream products for this market segment are our DCS products
and our PLCs.  DCS are a network of controllers, sensors, actuators
and other devices that can be programmed to control outputs based on input
conditions through logic calculations. In an automated production line, sensors
or so-called “instrumentations” are distributed across the production facility
to monitor sub-systems like the robots, CNC machines, and logistic
tools.  These sensors are like human eyes, which monitor the process,
and detect any abnormal situations.  The information collected from
those sensors is then transmitted to the DCS for centralized data processing
through communication networks.  The brain processes information and
generates commands, based on sophisticated algorithm and pre-set
parameters.  These commands are then sent to actuators (muscles/bones)
through communication devices to execute the orders and maintain production
flow.  PLCs are small computer devices installed on machines or
equipment, for example, on a factory assembly line, for manufacturing
automation.





21




High-speed
Rail:  Over the years, Hollysys has successfully scaled its
automation application from industrial manufacturing to rail and subway
industry, with proprietary product lines including, Train Control Center, or
TCC, and Automation Train Protection, or ATP.  An ATP essentially acts
as the train over-speed protection mechanism, which collects real-time
information like speed limit ahead, train operation status, line data,
instructions from train control center, then combines with the train parameters
to produce train protection curves.  In case of any human errors, like
driver’s negligence at the red light, it applies emergency brakes
automatically.  TCCs are an on-ground control center at railway
stations or equipment stations which monitors route condition, track status,
train schedules, distance between trains, and the working status of other
essential function devices, and then through logic calculation, generates
control instructions and commands.  The command information from the
TCC is then transmitted to the ATP located on the locomotives/trains, through
track circuits and electronic beacons located at various points along the
railway line, or wireless.





Nuclear Automation and
Control:  As the only proven domestic automation control
systems provider to the nuclear power industry in China, we provide our HOLLiAS
NMS product to China’s nuclear power industry.    In a
nuclear station, the nuclear island operates to transform nuclear energy to heat
energy, and pass on the steam generated by the steam generator to the
conventional island, where steam drives the turbine to generate the electricity,
and pass on to the transformer for loading onto the grid.  Our HOLLiAS
NMS proprietary control systems are now used in conventional islands for safety
and operation control. The know-how was accumulated from our industrial DCS
applications in high-end power plants, with much more sophisticated software and
hardware specifications, and more stringent production and quality assurance
process. Our nuclear joint venture China Techenergy Co., Ltd. has already
successfully completed developing its proprietary nuclear island automation and
control system, which is expected to be commercialized in 2012 or 2013, when the
total automation and control for nuclear power stations will be fully localized
for China.





Subway
Automation:  We have provided our SCADA system to China’s
subway market for many years, included to customers like the Beijing Subway,
Shanghai Metro, Guangzhou Metro, and Shenzhen Metro.  SCADA is an open
software platform to enable integrated and unified monitoring of all necessary
sub-systems of the subway, including the Power Supervisory Control and Data
Acquisition System, Building Automatic System, Fire Alarm System, Platform
Screen Door System, Access Control System, Closed Circuit Television, Passenger
Information System, Passenger Train Information System, and Alarm
System.  Given the exponential growth in China’s subway market and the
continued growth expected for the decades to come, Hollysys is developing its
proprietary Subway Signaling System, based on its strong research and
development capability and technical know-how of signaling application
accumulated from high-speed rail. The current subway signaling market is
predominantly occupied by multi-national corporations, such as
Siemens.





We
established a project group for each potential customer, which has a team of
systems engineers and managers engaged in providing total integrated solutions
to our customers to meet their specific requirements. Each project group is
staffed with a dedicated team of sales engineers, technical engineers and
project management professionals. The sales engineers and technical engineers
work together to offer the best customized solutions as a result of their
understanding of the customer’s detailed requirements through on-site studies.
The technical engineers are responsible for hardware assembly, software
configuration, testing and installation, commissioning and trial operation, and
start-up and training; while the project management professionals oversee
budgetary matters, coordinate the work force, ensure adequacy of resources and
monitor progress and quality to ensure the timely completion of each project.
 Our integrated solutions projects involve one or more of the following
activities:





·
            Solution planning – We
      provide our customers with strategic and tactical reviews of their current
      operations and future requirements.  We do much of this work before
      the customer awards the contract to assist the customer in developing an
      appropriate request for proposal and to improve Hollysys’ chances of
      winning the contract. The planning includes defining client business
      requirements, developing appropriate hardware and software and selecting
      preferred technology.




22




·
            Solution
      design  – We detail the industry specifications and
      implementation tactics necessary to achieve our customer’s objectives.
      Hollysys also considers how the new technology will integrate hardware and
      software integrated in the solution with the customer’s existing hardware
      and software and how it will be managed on an ongoing basis. Examples of
      these services include defining functional requirements for the system and
      our components, developing integration plans and designing of
      customer-specific system and services
  applications.





·
            Solution implementation
      – We install the recommended systems to meet our customers' specific
      requirements. Key activities include project management, hardware
      procurement and production, software development, configuration and field
      installation and testing, and development of customized system and
      services management applications.





·
            Maintenance and support
      services – We emphasize creating value for our clients by providing
      high quality tailored services.  Our professional, prompt and
      long-term services include technical services, engineering services to
      specific industries, application development services and maintenance
      services.  We provide maintenance and technical support in connection
      with all of our systems integration projects. These services currently
      include assistance with the implementation of new system platforms,
      configuration and programming services for new business processes, and
      assistance with technology upgrading.   We believe that our
      policy of on-going maintenance and technical support will help foster
      long-term relationships with our customers and eventually create
      significant business opportunities.





·
            Training – We also
      incorporate customer training and an ongoing service component into our
      product offerings.  We provide technical training for our customers
      and strategic partners to increase their awareness and knowledge of DCS
      technologies in the Chinese industrial automation market and to support
      the operations of our customers' integrated automation systems. The
      training helps to ensure that customers derive the greatest amount of
      benefit possible from their new automation system.  As a result, this
      training leads to increased value, which in turn generates customer
      satisfaction and loyalty.





Our
integrated solutions based on our proprietary technology and products create
value for and improve the competitive strengths of our customers
by:





·
            Generating
      synergy and improving efficiency of our customers through integrating
      communications, marketing and service
functions;





·
            Utilizing
      our industry and process knowledge to develop customized solutions that
      improve the efficiency of our
customers;





·
            Providing
      a software platform for the optimization of management operations, which
      provides real-time automation and information solutions throughout a
      business; and





·
            Offering
      maintenance and training services to our customers, which help to cut
      costs and improve operating
efficiency.





We
customize our floor plans based on careful on-site studies, build
design-specific network systems using our advanced DCS technology and
proprietary software, and offer manufacturing execution system services to
ensure that real-time management control is available to our customers in a
streamlined and easy-to-use manner.





We
believe that our product design and applications that are integrated in the
solutions are unmatched among our domestic competitors.  We also believe
that the sophistication and quality of our products rival those of the
multi-national automation and control product suppliers, while our ability to
understand and meet the needs of our Chinese customers gives it a leading edge
over foreign competitors.  The value of this combination is reflected
in our strong revenue and profit growth over the years.





23


Market
for Automation and Controls Solutions




DCS
Market




According
to the ARC Advisory Group, or ARC, an industry research group, the DCS market in
China, as measured by revenue, exceeded $780 million in 2005 and will grow at a
compounded annual growth rate of approximately 12% through 2010. ARC further
projects that the DCS market, as measured by revenue, will exceed $1,400 million
by 2010.  The chart below shows the forecast of  the DCS market
size in China.








Source:
ARC Advisory Group





We agree
with ARC’s assessment that, “China, in contrast to most other countries,
provides robust growth prospects for the DCS suppliers. With new investments
continuing to take place in its core process industry sector, the market has
excellent growth potential in both the near and long-term. Almost a quarter of a
billion people with their growing disposable income are generating an exploding
demand for a wide range of products. Domestic and global manufacturers, lured by
this opportunity, have created new, world-class production facilities in almost
all vertical industries. They are going beyond the near term opportunity for
obtaining low cost labor. They are pursuing the best available control system
technology and attaining a sustainable competitive advantage.”





Currently,
the vast majority of the global automation market is still controlled by a
handful of multi-national companies, most of them with western roots. Our
competition includes some very recognizable names: Honeywell (US); Siemens
(Germany); General Electric (US); ABB (Sweden); Rockwell (US); Westinghouse
(US); and Hitachi (Japan). The western roots of automation are not surprising,
as that is also where industrialization began and progressed the farthest during
the 19th and 20th centuries.  However, a new focus of the automation
market is China, where the tremendous growth of industrialization is by now a
very familiar story. Manufacturing jobs in the US and other western economies
over the past two decades have steadily decreased, while China’s industrial base
has expanded at the rate of 8.5% annually since 1991. China’s shift from a
developing country to one of the world’s leading manufacturers of industrial
equipment and consumer goods has created a substantial and growing demand for
the automation systems that help to make those manufacturing processes more
efficient, reliable and safe.





From 2000
to 2008, the global automation industry grew, as measured by revenue, by about
4.5%, according to a research report by J.P.Morgan. We believe China’s
industrial automation growth rate is far greater than this world average growth
rate, in which we see PLC enjoying a more healthy growth rate than DCS given its
relative lower penetration rate and the rising cost of labor.  In the
industrial side of our business, our current market share is 10.6%, which was
measured by industrial customer brand name usage, from a third party report. Up
to date we have implemented over 8,000 projects with over 1,700
customers.  Clientele base for this segment includes large state-owned
enterprises, multi-national companies, and other domestic companies. Our main
competitors in this field are global players such as ABB, Siemens, and Emerson,
as well as Supcon from China.  We believe that the Hollysys brand
recognition and market reputation and our strong research and development
capabilities will enable us to enter and penetrate high-margin market segments
currently dominated by foreign companies, and will ensure our revenue from this
industrial market to grow at a rate continuously exceeding the industry
average.





24


High-Speed
Rail and Subway Market





Another
promising end-market for Hollysys is high-speed rail market in China, where we
command a leading position in providing high-speed rail signaling systems to
ensure the safety of passenger train movement. High-speed rail is a relatively
new development in China.  The Ministry of Rail of China developed
China national high-speed rail signaling technological standard, the China Train
Control System, or the CTCS. Under the CTCS, the standard governing
200-250km/hour speed category is called C2, while C3 is governing the
300-350km/hour category.  There are more than 7,000km of high-speed
rail tracks in operation in China, with more than 10,000km high-speed rail
tracks in construction, according to the Ministry of Rail. Majority of
operational high-speed lines are in 200-250km/hour, with only 4 operational
lines in 300-350km/hour, which include Wuhan-Guangzhou line, Zhengzhou-Xian
line,  Shanghai-Nanjing line, and Shanghai-Hangzhou line, of which
Zhengzhou-Xian line was commissioned by us. We are also contracted to provide
signaling system for another line in C3 category: Guangzhou-Shenzhen line which
is under construction.





According
to the official announcement from the Ministry of Rail, China is planning to
have 13,000 kilometers of high-speed railways in operation in the year of 2012
and 20,000 kilometers of high-speed railways in operation in the year of 2020,
far exceeding the current capacity of total high-speed railway kilometers of
11,345 kilometers in operation in 16 countries in the
world.  According to China’s Ministry of Rail, there are 54 high-speed
rail lines planned to be built in China till 2012, among which 16 lines are
in  the C3 category and 38 lines in the C2 category.  The
lines are generally described as “4 Horizontals and 4 Verticals,” referring to
their positions on the map of China.  The Four Vertical lines include
the Beijing-Guangzhou line, Beijing–Shanghai line,
Harbin-Dalian-Shenyang-Beijing line, and Shanghai-Hangzhou-Shenzhen
line.  The Four Horizontal lines include the
Lanzhou-Xian-Zhengzhou-Lianyungang line, Shanghai-Wuhan-Chongqing-Chengdu line,
Hangzhou-Changsha-Kunming line, and Taiyuan-Shijiazhuang-Qingdao
line.  The high-speed rail build-out plan also includes inter-city
high-speed lines for three regions of Zhu Jiang River Delta, Yangtze River
Delta, and Beijing-Tianjin-Tangshan.  The Ministry of Rail further
proposed to have 40,000km of high-speed rail tracks in operation by the end of
2015, for China’s 12th
five-year plan. As one of the five automation products providers in C2 category,
and one of the only two automation products providers to C3 segment, we believe
that we are well positioned to benefit from this unprecedented high-speed
railway build-out in the world.





We also
provide our proprietary software platform and solutions of SCADA to subway
market. China subway market is expected to receive significant government
investment due to urbanization and environmental concerns. According to China’s
Ministry of Housing and Urban-Rural Development, China subway market will grow
from 776 kilometers in 2008 to 4,189 kilometers in 2015, with government
estimated investment amounting to $129 billion in the period. With our more than
8 years of experience in this market and well-recognized brand name, we are
adopting a strategy to capture this fast-growing market.




Nuclear
Market





We are
well-positioned to benefit from China’s nuclear build-out. At present, China’s
nuclear power sector is relatively underdeveloped, with the vast majority of
power generated by coal-fired power plants. There are currently 11 nuclear
stations in operation, providing approximately 9 GW of power, in comparison to
the total electricity-generating capacity in China of approximately 700
GW.  This represents a meager 1.3% of the total electricity generated
by nuclear energy, lagging far behind the world average of 15% power generated
from the nuclear energy, with France being the highest with 70% of its power
generated from nuclear.





Driven by
clean energy initiatives and China’s commitment of reducing its carbon emission
by 45% per GDP unit by 2020, China’s installed nuclear power generating capacity
is expected to reach 100 GW by 2020. Approximately, it is believed that one
nuclear reactor generates 1GW electricity. During the fiscal year 2010, we
formed a 50/50 joint venture, China Techenergy Co., Ltd., with China’s leading
nuclear station operator, China Guangdong Nuclear Power Holdings Co., Ltd., to
provide its proprietary non-safety automation and control products to the
nuclear stations constructed by China Guangdong Nuclear Power Holdings
Corporation.  We believe this strategic alliance position us to be the
dominant nuclear automation system provider in China. China Guangdong Nuclear
Power Holdings Co., Ltd. currently owns approximately 60% of China’s nuclear
market share.





25


Integrated
Contracts





The main
channel through which we get our automation system business is the bidding
process.  Customers seeking bids propose their requirements and
specifications in legal bidding documents and those companies that are
interested in obtaining these contracts make a bid in written
form.  If we win the bidding, we get the integrated
contract.  We derive over 90% of our total consolidated revenues,
mainly from the integrated contracts that we win through the bidding
process.  In addition, we gain another revenue stream through the sale
of spare parts and component products to customers for maintenance and
replacement purposes after the completion of the integrated solution
contract, which is in essence a recurring revenue stream to us, even though it
is not in the form of multiple-year contract.





The
purpose of an integrated contract is to furnish an automation system that
provides the customer with a total solution for the automation or process
control requirement being addressed.  The automation system and total
solution that we offer consists of hardware, software and services, all of which
are customized to meet the particular needs and technical specifications of our
customers.  None of hardware, software and service has independent
functionality, and therefore cannot be sold separately to
customers.





The major
terms of an integrated solution contract include solution planning and design,
system installation, customer acceptance, payment milestones and
warranty.  The process of fulfilling an integrated contract consists
of the following four stages:





·
            Solution planning and
      design - We provide customers with a customized plan for achieving
      the required solution by establishing a project group for each
      contract.  The project group includes system engineers who
      propose and discuss and agree on the system design and implementation plan
      with the technical personnel of the
customers.





·
            System manufacturing and
      installation - Based on the design and implementation plan, and in
      accordance with the project schedule, we enter into the process of
      purchasing the necessary hardware, manufacturing components for the
      hardware, developing software platform, re-configuring the software
      embedded in the hardware, and fabricating the integrated hardware into
      cabinets, on-site installation and testing, and training customer’s
      personnel about how to use the automation and total
    solution.





·
            Customer acceptance -
      The procedures for customer inspection and acceptance of the system are
      typically contained in the contracts. The initial inspection usually
      occurs when the hardware is delivered to the customer’s site for the
      purpose of detecting any obvious physical damage during shipping and to
      confirm that the entire order was delivered.  A final acceptance
      will be performed upon the satisfaction of integrated solution
      testing





·
            Warranty period - The
      integrated solution contracts customarily provide our customers with a
      one-year warranty (although sometimes the warranty period may be two years
      per the customers’ requests), which runs from the date of the final
      customer acceptance. The end of warranty period represents fulfillment of
      the entire contract.





Because
of the nature of customized integrated contracts, a customer does not have the
right to return the products that we deliver, so long as such products conform
and perform to the customer’s specification.  Prior to delivering our
products to a customer’s site, we perform an internal test to ensure that the
automation system works as intended. After installing the products on a
customer’s site, any problems are solved during trial runs.  Once the
testing requirements have been satisfied, a customer will sign and date a
customer acceptance document, which begins the warranty period.  Due
to the nature of this process, many companies in the automation systems business
generally do not carry product liability insurance.





26


The size
of an integrated contract is determined by a customer’s needs in terms of the
amount of equipment needed and the complexity of integrated
solution.  The size of an integrated contract drives the revenues
generated by the contract.  Because certain contracts will require
working periods longer than one year, the best way to measure the contract
revenue realized is to use the percentage-of-completion
method.  Ultimately, our revenue stream will be driven by the average
price of an integrated contract and how many integrated contracts have started
in each reporting period.





Our
backlog of contracts presents the amount of unrealized revenue to be earned from
the contracts that we have won.  Accordingly, any increase or decrease
in new contracts won by us, or any change of scheduled delivery dates will have
a future impact on our future revenue streams.  In the event of a
delay of delivery schedule, then the time of inspection, installation, trial run
and customer acceptance will be delayed accordingly, all of which will affect
our revenue recognition.  If the delay of delivering the specified
automation systems was a result of our inability to deliver the system on a
timely basis, then will be held responsible for this delay, in accordance with
the terms specified in respective integrated contracts.





Competition





We
compete with various domestic and international producers offering automation
systems to the Chinese market.  We believe that our proprietary
technology and products provide us with a strong competitive advantage over our
domestic Chinese competitors. However, a number of multinational companies, some
of whom have substantially greater financial and other resources than we
currently have, have been offering first rate automation systems to Chinese
customers before us.  We believe that our primary competitors in the
market for our products are ABB, Honeywell, Emerson and Siemens.





When
compared to our competitors, we believe that we have the following competitive
advantages:





·
            Emphasis on
      Engineering.  Engineers are a critical element of
      effective design of both hardware and software components of automation
      equipment and systems.  For western companies, they are also a
      very costly element of the process.  Even the largest western
      companies face constraints in the size of their engineering staff due to
      the high salaries and attendant costs.  One of our competitive
      advantages has been the low cost of engineers in China relative to those
      in the west to increase the sophistication of its products and to
      accelerate their development.  Applying high levels of
      engineering effort to each product enables us to provide a solution that
      is tailored not only to the industry in which the customer operates, but
      also to the customer’s specific needs. That custom solution is provided at
      a cost that is typically lower than the generic products of its
      competitors.





·
            Industry Process
      Knowledge.  We devote substantial time and effort to
      understanding our customers and their business. This knowledge helps to
      ensure that the systems we design will provide the optimum in benefits for
      the customers.  We maintain this information in an extensive
      “library” of
      industry process information that we utilize to speed up the system design
      process and to maximize the quality of the result, while at the same time
      minimizing costs.  As a result, we were able to take into
      account the widely varying degrees of sophistication and resources that
      our Chinese customers possess.  The result of this strategy is
      to broaden our potential customer base and to consistently deliver
      products that are of value to these
customers.





·
            Integration
      Services.  Western automation system companies are
      principally system platform suppliers and the role of integrating the
      systems into the customer’s overall management information system is
      generally left to independent firms.  While such firms are
      widespread in western countries, China does not have a large number of
      systems integration companies to perform this work, as these companies
      have been historically unprofitable in China.  We have bridged
      this gap by providing a vertically integrated solution to our customers
      that include integration of our hardware into the customers’ overall
      manufacturing and information systems.  This combination of the
      two aspects of system design and installation take further advantage of
      the low cost of engineering services in China and provides another
      benefit, as the design and integration teams can work together to produce
      the best result more quickly and efficiently, again lowering
      costs.




27




·
            Core Technologies.
      Although we deliver tailored systems, our systems are based on basic
      modules of automation technology that are common across a broad array of
      industries and applications.  Using these modules as a starting
      point, development of an industry and customer-specific product is both
      more efficient and produces a better result than starting from scratch
      each time.  That means that, with our labor cost advantages, we
      can provide a highly customized automation product at a very favorable
      cost.





·
            Use of Engineering Sales
      Personnel. The use of trained engineers in product and system
      design is complemented by the use of engineers in the sales process as
      well.  The advantages of doing so are
      substantial.  They include the ability to understand from the
      beginning the needs of the customer and how to address them and the
      ability to convey that information to the team that will ultimately
      develop the system to be installed





·
            Accounting for the Broad Array
      of Chinese Customers’ Capabilities.  China’s rapid growth and
      industrialization distinguish it from other manufacturing nations in some
      ways.  There are many “established” Chinese
      companies that operate in facilities that are decades old, many companies
      that operate in new or recently upgraded facilities, and the largest
      number that fall somewhere in between.  We understand, to a
      greater extent than our western competitors, the full range of needs and
      capabilities that Chinese customers possess, and we have designed our
      business to meet them.  As a result, we are able to offer even
      the most basic control systems solution while also providing the most
      sophisticated systems available to applications that meet the rigorous
      requirement of the highly complex and demanding nuclear power
      industry.





·
            Pace of Product
      Development.  Another way that we keep ahead of our
      competitors is by our pace of development.  HOLLiAS is the
      fourth generation of controller systems developed by us, and it took us
      only a little more than a decade after our first operational system to
      achieve this breakthrough.  We believe that our competitors are
      frequently hampered by institutional factors that slow the product
      development process, and as a result, their products cannot incorporate
      the latest advances in electronics.





·
            Maintenance Services.
      Automation systems require regular maintenance to operate within customer
      guidelines.  Older analog systems were well within the
      capability of many customers to maintain on their own.  However, as
      automation systems shift to electronic components utilizing custom
      software and digital signaling, their complexity has increased and have
      made it less easy for customers to maintain their systems
      independently.  To meet this growing customer need we offer our
      customers maintenance services along with our products.  Our
      regional sales and services offices place us within easy reach of a very
      high proportion of our customer and potential customer base, which makes
      it possible for a single maintenance technician to cover maintenance calls
      for several different customers each week.  An added advantage
      to offering maintenance services is the benefits derived from the
      strengthened relationship with our customers.  Effective
      maintenance services, leads to increased customer satisfaction, customer
      loyalty, and increased business opportunities.  Offering ongoing
      services, which not only create the opportunity to generate additional
      revenue, but enable us to troubleshoot installations effectively, help to
      ensure that maximum benefit is derived from the system, and gives us the
      ability to identify the need for new products and services that will
      benefit the customer and generate additional business for
    us.





Manufacturing
and Raw Materials





We
assemble our products from subcomponents provided by others or we outsource the
production to qualified vendors.  We acquire advanced printed circuit
board components from high quality suppliers.  We rely on our
manufacturing management department to coordinate the procurement of raw
materials and outsourced processing, including the procurement of components and
standard parts (such as cables and connectors), and outsourced processing of
Polyvinyl Chloride (PVC) coating, shells, and printed circuit boards.  Our
products are subjected to rigorous testing in our facilities prior to
shipment.





In 1997,
Beijing Hollysys passed the ISO9001 international quality assurance system
certification.  In 2002, Beijing Hollysys obtained the ISO9001:2000
certificate, which covers all the processes including research and development,
sales and distribution, manufacturing, engineering, technical support and repair
service.





28


Seasonality





Our
operating results and operating cash flows historically have not been subject to
seasonal variations. This pattern may change, however, as a result of new market
opportunities or new product introductions.  Revenues of our business
as a whole do not fluctuate significantly by season, although compared to other
quarters, like most of the Chinese companies, our third quarter which falls in
January to March is relatively slow due to the Chinese New Year
holidays.





Regulation





We
operate our business in China under a legal regime that consists, at the
national level, of the State Council, which is the highest authority of the
executive branch of the PRC central government, and several ministries and
agencies under its leadership, including: the Ministry of Agriculture and its
local authorities; the Ministry of Commerce and its local authorities; SAFE and
its local authorities; the State Administration of Industry and Commence and its
local authorities; and the State Administration of Taxation, and the Local
Taxation Bureau.  The following sets forth a summary of significant
regulations or requirements that affect our business activities in China and our
shareholders’ right to receive dividends and other distributions from
us.





·
            Foreign Currency
      Regulations. We are subject to the PRC’s foreign currency
      regulations.  The PRC government has control over RMB reserves
      through, among other things, direct regulation of the conversion of RMB
      into other foreign currencies.  Although foreign currencies
      which are required for “current account” transactions can be bought freely
      at authorized Chinese banks, the proper procedural requirements prescribed
      by Chinese law must be met.  At the same time, Chinese companies
      are also required to sell their foreign exchange earnings to authorized
      Chinese banks and the purchase of foreign currencies for capital account
      transactions still requires prior approval of the Chinese
      government.





·
            Taxation.On March 16, 2007, the National
      People’s Congress, the Chinese legislature, passed the new Enterprise
      Income Tax Law, or New EIT Law, which became effective on January 1, 2008.
      The New EIT Law applies a unified enterprise income tax, or EIT, rate at
      25% to both FIEs and domestic invested enterprises. According to a
      grandfathering provision of the Notice on Transitional Preferential
      Policies of Enterprise Income Tax published by the State Council,
      enterprises that are subject to an EIT rate below 25% may continue to
      enjoy such lower rate which will be gradually transitioned to the new EIT
      rate within five years of the effective date of the New EIT Law, and
      enterprises that are currently entitled to exemptions from, or reductions
      in, applicable EIT for a fixed term may continue to enjoy such treatment
      until the fixed term expires.  Under the New EIT Law, companies
      designated as High- and New-Technology Enterprises may enjoy a reduced
      national enterprise income tax of 15%.  “Administrative Measures
      for Assessment of High-New Tech Enterprises,” or Measures, and “Catalogue
      of High/New Tech Domains Strongly Supported by the State,” or Catalogue
      (2008), jointly issued by the Ministry of Science and Technology and the
      Ministry of Finance and State Administration of Taxation set forth general
      guidelines regarding criteria as well as application procedures for
      qualification as a High- and New-Tech Enterprise under the New EIT
      Law.  Both Beijing Hollysys and Hangzhou Hollysys have met the
      qualifications for the High- and New-Technology Enterprise designation and
      are accordingly subject to a reduced national enterprise income tax of
      15%.





·
            Dividend
      Distribution.  Under PRC law, FIEs in China, including
      Hangzhou Hollysys, may pay dividends only out of their accumulated
      profits, if any, determined in accordance with PRC accounting principles.
      In addition, FIEs in China are required to set aside at least 10% of their
      after-tax profit based on PRC accounting standards each year for their
      general reserves until the accumulative amount of such reserves reaches
      50% of registered capital.  These reserves are not distributable
      as cash dividends.  The board of directors of a FIE has the
      discretion to allocate a portion of its after-tax profits to staff welfare
      and bonus funds, and expansion (development) funds which may not be
      distributed to equity owners except in the event of
      liquidation.  In addition, under the new EIT Law, effective as
      of January 2008, dividends from Beijing Hollysys to us are subject to a
      withholding tax of 5%, whereas those from Hangzhou Hollysys are subject to
      a withholding tax of 10%.


29


The
foregoing summary does not purport to be complete and is qualified by reference
to the relevant provisions of applicable law in the jurisdictions in which we
operate.  We believe that we are currently in compliance with all
applicable laws and regulations relating to our business.





Marketing,
Sales and Customer Support





Our
marketing and sales activities are focused on the Chinese domestic market where
there is a growing demand for automation and control products, systems and
services.  Because our market strategy is to tailor products to specific
customer needs, our sales teams consist of a complementary group of sales
personnel and hardware and software engineers from a variety of disciplines.
 Employing a pool of skilled personnel at this early stage accelerates the
design and the subsequent production of a particular customized solution,
typically exceeding that of our competitors. Our sales teams possess significant
hands-on, industry-specific experience which permit them to do on-site process
analyses, which in turn, makes the design and implementation of upgrades
simpler.  The result is a system that is more effective, efficient and
reliable, which in turn leads to a truly satisfied customer.





Our
direct sales force is organized into three groups, as follows:





·
            Department
      of Region Sales: there are 10 geographic sales regions covering 30
      provinces in China. The direct sales professionals provide business
      consulting, promote pre-sale activity and serve as customer
      contacts.


·
            Department
      of Customer Service is in charge of managing relations with all contracted
      customers, and improving customer satisfaction by coordinating responses
      to the client’s information request, sale of supplemental parts or
      components, and customer visits.


·
            Department
      of Marketing Plan has been established to facilitate strategic cooperation
      with certain specialized manufacturers, in order to expand the specific
      fields, such as Digital Electro-Hydraulic Control Systems, air separation
      and desulphurization.





We
identify and target market segments and select target sales opportunities on a
national level, and we also conduct sales opportunity studies to ensure that
adequate regional sales resources are available.  Sales quotas are assigned
to all sales personnel according to annual sales plans.  We classify market
segments and target opportunities on national and regional
levels.  This classification helps us to determine our primary sales
targets and to prepare monthly and quarterly sales forecasts.  Then, the
sales team approves target projects, develops detailed sales promotion
strategies and prepares reports on order forecasts, technical evaluation, sales
budgeting expense, schedules and competition analysis.  After the report
has been approved, a sales team is appointed consisting of sales personnel and
technicians.





Our
market strategy focuses on building strategic cooperative relationships with its
customers, educating them about technological developments and reflecting their
interests in our products and services.  We employ marketing personnel to
conduct market research, to analyze user requirements and to organize marketing
communications.  Our marketing team engages in a variety of marketing
activities, including:





·
            publishing
      internal research reports and customer
  newsletters;




·
            conducting
      seminars and conferences;




·
            conducting
      ongoing public relations programs;
and




·
            creating
      and placing advertisements.




We
actively participate in technology-related conferences and demonstrate our
products at trade shows or at exhibitions targeted at our existing and potential
customers.  We also evaluate a range of joint-marketing strategies and
programs with our business partners in order to take advantage of their
strategic relationships and resources.  We also support our customers
by offering field services such as maintenance and training services, which help
customers to cut cost and improve operating efficiency.


30





As of
June 30, 2010, we employed 352 direct sales personnel who were assigned to three
business areas: industrial automation, high-speed rail, and subway. Sales
activities are coordinated from our offices in Beijing and Hangzhou.  All
sales staff are responsible for implementing the sales policies established at
our headquarters.





C.
Property, Plants and Equipment





Our
principal executive offices are located at No. 2 Disheng Middle Road, Beijing
Economic-Technological Development Area, Beijing, 100176, China.  We
own the land use rights to the properties at the following principal locations,
each of which contains principal administrative offices, sales and marketing
offices, research and development facilities, and manufacturing
facilities:




Location
              
              Approximate Sq. MetersBeijing
              
              90,000Hangzhou
              
              25,000





We leased
a 4,937 square meter space in Beijing, pursuant to a five-year factory lease
agreement, dated May 22, 2006, between Beijing Hollysys and Beijing Lighting
Fixture Co., Ltd., for a monthly rent of approximately RMB100,000. The lease
expired in August 2010.  We moved into our newly constructed facility in
the Beijing Yizhuang Exonomic Development Zone at the end of August 2010, where
our dispersed personnel in Beijing have been relocated to the same campus
location with production capacity doubled.  At the new facility, we
expect to have sufficient space to quadruple our production capacity if the
production demand warrants it.





The
manufacturing facilities at the above locations are used for the system
integration production, including hardware testing instruments, auxiliary
material processing, packaging and shipping, and for self-made product
integration production, including inspection and testing.


31


D.
Organizational Structure





The
following diagram illustrates our corporate structure as of the date of this
annual report.  We are a holding company with no operations of our
own.  We conduct our operations in China mainly through our Chinese
operating companies, Beijing Hollysys, Hangzhou Hollysys and Beijing Hollysys
Automation & Drive Co., Ltd.











Our
corporate headquarters are located at No. 2 Disheng Middle Road, Beijing
Economic-Technological Development Area, Beijing, 100176 , China.  Our
telephone number is (+86) 10 58981386.  We maintain a website at http://www.Hollysys.com,
that contains information about our company, but that information is not a part
of this annual report.





ITEM
      4A.
            UNRESOLVED
      STAFF COMMENTS




Not
Applicable


32


ITEM
      5.
            OPERATING
      AND FINANCIAL REVIEW AND PROSPECTS




You
should read the following discussion and analysis of our financial condition and
results of operations in conjunction with our consolidated financial statements
and the related notes included elsewhere in this annual report on Form
20-F.  This discussion may contain forward-looking statements based
upon current expectations that involve risks and uncertainties.  Our
actual results may differ materially from those anticipated in these
forward-looking statements as a result of various factors, including those set
forth under “Item 3. Key Information—D. Risk Factors” or in other parts of
this annual report on Form 20-F.





Overview





Through
our Chinese operating subsidiaries, we are one of the leading automation systems
providers in China, developing a number of core technologies and completing
numerous projects utilizing a wide array of automation products.  With
our philosophy of sincere concern for customers and our technical innovation
capabilities, we specialize in the research, development, production, sale and
distribution of industrial automation for digital railway signals and
information systems, e-government, motor drive transmissions and safety controls
for nuclear power reactors.





The main
channel through which we obtain our automation system business is the bidding
process.  Customers seeking bids propose their requirements and
specifications in legal bidding documents and companies that are interested in
obtaining these contracts make a bid in a written form.  If we win the
bidding, we get the integrated contract.





We derive
our revenue mainly from the integrated contracts we have won through the bidding
process, which accounts for over 90% of the total consolidated
revenue.  In addition, we sell spare parts and component products to
customers for maintenance and replacement purposes after the completion of
the integrated solution contract.  Product sales are not part of
the integrated contracts.  Therefore, it is another stream of revenue
but minor in volume.





The
purpose of an integrated contract is to furnish an automation system that
provides the customer with a total solution for the automation or process
control requirement being addressed.  The automation system and total
solution we offer consist of hardware, software and services, all of which are
customized to meet the customer’s particular needs and technical
specifications.  None of hardware, software and service has
independent functionality, and therefore cannot be sold separately to
customers.  The following table sets forth the information regarding
the contracts we won during the last three fiscal years and backlog at the dates
indicated:





Years Ended June 30,2008
                      
                      2009
                      
                      2010Number
      of new contracts won during the year
                      
                      
                      1,293
                      
                      
                      
                      1,194
                      
                      
                      
                      1,800Total
      amount of new contracts (mm)
                      
                      $
                      216.40
                      
                      
                      $
                      201.66
                      
                      
                      $
                      267.17Average
      price per contract
                      
                      $
                      167,364
                      
                      
                      $
                      168,892
                      
                      
                      $
                      148,428





As of June 30,Backlog Situation:
                      
                      2008
                      
                      
                      2009
                      
                      
                      2010Contracts
      newly entered and unfinished (mm)
                      
                      $
                      124.42
                      
                      
                      $
                      115.52
                      
                      
                      $
                      145.91Contracts
      started in the prior year and unfinished (mm)
                      
                      $
                      54.03
                      
                      
                      $
                      73.42
                      
                      
                      $
                      106.95Total
      amount of backlog (mm)
                      
                      $
                      178.45
                      
                      
                      $
                      188.94
                      
                      
                      $
                      252.86





As
indicated above, both the amount of new contracts won and the amount of backlog
have been increasing steadily during the past three years.





As a
growing company, we have achieved significant progress in the past three
years.  Our total consolidated revenues for the fiscal year ended June
30, 2010 was approximately $174.1 million, compared to approximately $157.50
million for the prior fiscal year, representing an increase of 10.5%, followed
by a growth of 29.6% from approximately $121.50 million in fiscal
2008.


33


Recent
Developments





On August
27, 2010, our Board of Directors adopted a Rights Plan, or the 2010 Rights
Plan.  In connection with the 2010 Rights Plan, the Board of Directors
declared a dividend distribution of one “Right” for each outstanding ordinary
share to shareholders of record at the close of business on August 27, 2010,
effective as of September 27, 2010.  Each Right entitles the
shareholder to buy one share of the our Class A Preferred Stock at a price of
$160.





The
Rights will become exercisable if a person or group announces an acquisition of
20% or more of our outstanding ordinary shares, or announces commencement of a
tender offer for 20% or more of the ordinary shares.  In that event,
the Rights permit shareholders, other than the acquiring person, to purchase our
ordinary shares having a market value of twice the exercise price of the Rights,
in lieu of the Class A Preferred Stock.  In addition, in the event of
certain business combinations, the Rights permit the purchase of the ordinary
shares of an acquiring person at a 50% discount.  Rights held by the
acquiring person become null and void in each case.  Unless terminated
earlier by our Board of Directors, the 2010 Rights Plan will expire on September
27, 2020.





Key
Factors Affecting Our Growth, Operating Results and Financial
Condition





Our
future growth, operating results and financial condition will be affected by a
number of factors including:





·
            The
      ability in developing new products and systems in order to improve
      competitiveness, which can increase both in sales revenue and
      margins.  The success of our business depends in great measure
      on our ability to keep pace with or even lead changes that occur in our
      industry.





·
            The
      success in expanding our business in targeted emerging markets and
      overseas market, which may require us to overcome domestic competitions
      and any trade barriers.





·
            Our
      ability to retain our existing customers and to explore additional
      business opportunities.  Since we do not have long-term purchase
      commitments from customers, our customers can shift to other competitors
      for future projects.  It is important to maintain our customer
      base in order to sustain and expand our
  business.





·
            The
      success of our business also depends on securing a steady stream of new
      customers.  In order for our business to continue to succeed and
      grow, it is vital to secure contracts with new customers on a regular
      basis.





·
            The
      ability to secure adequate engineering resources and relatively low cost
      engineering staff can increase our profitability and potential business
      prospects.  One of the competitive advantages that we enjoy is
      the access to lower cost engineering staff as compare to those of our
      Western and Japan-based competitors.  The plentiful supply of
      affordable engineering talent in China is a key element of our overall
      business strategy.





·
            Further
      improvement in product design and maintaining high standard of quality
      control, which can reduce or avoid product defects.  Any product
      defects will incur additional costs and cause damage to business
      reputation.





·
            The
      ability in securing and protecting our intellectual property rights will
      be critical, as our business is based on a number of proprietary products
      and systems, and we strive to strengthen and differentiate our product
      portfolio by developing new and innovative products and product
      improvements.





·
            The
      success in penetrating into the railway and nuclear power market sectors
      can bring in revenues and margins.  In addition to the
      traditional industrial automation business, our plan for future growth
      includes an increasing emphasis on rail control systems and nuclear power
      generation control systems.


34


·
            The
      ability to obtain greater financial resources to match or even exceed our
      major competitors, in order to compete effectively with them, and to
      weather any extended weaknesses in the automation and control
      market.





·
            The
      continued growth in Chinese industry and Chinese economy in
      general.  This continued growth will create more business
      opportunities for us, as industrial companies in China are our principal
      source of revenues.





·
            The
      ability to maintain key personnel and senior management, who will have
      significant impact and contribution to our future business.  The
      ability to attract and retain additional qualified management, technical,
      sales and marketing personnel will be
vital.





·
            The
      continuation of the preferential tax treatment and subsidies currently
      available to our PRC subsidiaries will be critical to our future operating
      results.  If governmental subsidies were reduced or eliminated,
      our after-tax income would be adversely
  affected.





·
            The
      continued appreciation in RMB against US dollars will result in future
      translation gain as most of our assets are denominated in
      RMB.  In addition, some of our raw materials, components and
      major equipment are imported from overseas.  In the event that
      the RMB appreciate against other foreign currencies, our costs will
      decrease and it will increase our
profitability.





Critical
Accounting Policies





Principles
of Consolidation and Basis of Presentation





The
completion of the Share Exchange Transaction enabled the shareholders of GTH to
obtain a majority voting interest in Hollysys. Generally accepted accounting
principles in the United States require that the company whose shareholders
retain the majority interest in a combined business be treated as the acquirer
for accounting purposes. Accordingly, the aforementioned Share Exchange
Transaction was accounted for as a reverse acquisition of a private operating
company (GTH) with a non-operating public company (Chardan) with significant
amount of cash. The reverse acquisition process utilizes the capital structure
of Hollysys and the assets and liabilities of GTH are recorded at historical
cost. Although GTH is deemed to be the accounting acquirer for financial
accounting and reporting purposes, the legal status of Hollysys as the surviving
company do not change. Under the reverse acquisition accounting, the historical
consolidated financial statements of Hollysys for the periods prior to September
20, 2007 are those of GTH and its subsidiaries. Since GTH is deemed as
accounting acquirer, GTH’s fiscal year replaced Hollysys’ fiscal
year.





The
consolidated financial statements include the financial statements of the
Company and its subsidiaries.  All significant inter-company
transactions and balances are eliminated during the process of consolidation.
These consolidated financial statements have been prepared in accordance with
the accounting principles generally accepted in the United States of America
(“U.S. GAAP”).





Non-controlling
interest





Effective
July 1, 2009 the Company adopted an authoritative pronouncement issued by the
Financial Accounting Standards Board (the “FASB”) regarding non-controlling
interests in consolidated financial statements. The pronouncement requires
non-controlling interests to be separately presented as a component of equity in
the consolidated financial statements. The presentation regarding
non-controlling interest was retroactively applied for all the presented
periods.





Foreign
Currency Translations and Transactions





The
Renminbi (“RMB”), the national currency of PRC, is the primary currency of the
economic environment in which the operations of the Company are conducted and is
determined the functional currency of all PRC subsidiaries.  The
Company uses the United States dollar for financial reporting
purposes.


35


The
Company translates the assets and liabilities into U.S. dollars using the rate
of exchange prevailing at the balance sheet date, and the statements of income
are translated at average rates during the reporting
period.  Adjustments resulting from the translation of financial
statements from RMB into U.S. dollars are recorded in stockholders’ equity as
part of accumulated comprehensive income - translation
adjustments.  Gains or losses resulting from transactions in
currencies other than RMB are reflected in consolidated statement of income for
the reporting period.





Cash
and Cash Equivalents





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





Revenue
Recognition





Revenues
generated from designing, building, and delivering customized integrated
industrial automation systems and providing relevant solutions are recognized
over the contractual terms based on the percentage of completion
method.  The contracts for designing, building, and delivering
customized integrated industrial automation systems are legally enforceable
binding agreements between the Company and customers.  Performance of
these contracts will often extend over long periods, and the Company’s right to
receive payments depends on its performance in accordance with these contractual
agreements.  The duration of contracts the Company performs is
depending on the contract size in terms of dollar amounts.  In
general, the bigger the contract size is, the longer the duration of that
contract is.  The duration of a small contract is less than one year
without including warranty period.  The duration of a large contract
is longer than one year without including warranty period.  Including
the warranty period, all of contracts have their duration longer than one year,
ranging from 16 months to 61 months.   The operating cycle of the
Company is determined by a composite of many individual contracts in various
stage of completion and is measured by the duration of the average time
intervening between the acquisition of materials or service entering the
construction process and the substantial completion of
contracts.  Based on the historical experience, the operating cycle of
the Company exceeds one year.





In
accordance with Accounting Standards Codification (“ASC”) 605-305 Revenue Recognition -
Construction-Type and Production-Type Contracts recognition is based on
an estimate of the income earned to date, less income recognized in earlier
periods.  Estimates of the degree of completion are based on the costs
incurred to date comparing to the expected total costs for the
contracts.  Revisions in the estimated profits are made in the period
in which the circumstances requiring the revision become
known.  Provisions, if any, are made currently for anticipated loss on
the uncompleted contracts.  Revenue in excess of billings on the
contracts is recorded as costs and estimated earnings in excess of
billings.  Billings in excess of revenues recognized on the contracts
are recorded as deferred revenue until the above revenue recognition criteria
are met.  Billings are rendered based on agreed milestones included in
the contracts with customers.  There are different milestones among
the contracts the Company has won.  In general, there are four
milestones: 1) system manufacturing, 2) system delivery, 3) installation,
trial-run, and customer acceptance, and 4) expiration of a warranty
period.  The amount to be billed when each of the specified milestones
is reached has been specified in a contract.  All contracts have the
first milestone, but not all contracts have a prepayment.





The
Company recognizes 100% of the contractual revenue at the end of customer
acceptance stage as the Company estimates that no further major costs will incur
under a contract, a signed customer acceptance document has been obtained, and a
warranty period starts to count.  Revenues are presented net of taxes
collected on behalf of government.





Revenue
generated from sales of electronic equipment is recognized when persuasive
evidence of an arrangement exists, delivery of the products has occurred,
customer acceptance has been obtained, which means the significant risks and
rewards of the ownership have been transferred to the customer, the price is
fixed or determinable and collectability is reasonably assured.





Inventories





Inventories
are composed of raw materials and low value consumables, work in progress, and
purchased and manufactured finished goods.  Inventories are stated at
the lower of cost or the market value.


36


On
January 1, 2009, the Company elected to change the “costing method” for
purchased inventories previously accounted for on the “weighted average basis”
to the “first-in, first-out basis”.  The percentage of purchased
inventories accounted for under the weighted average method shared approximately
64% of the closing inventories at December 31, 2008.  The Company
believe that purchased inventories measured based on first-in first-out basis
can better reflect the current value of purchased inventories on the
Consolidated Balance Sheet and enhances the matching of future cost of sales
with revenues. Since the change of the inventories costing method did not result
in a material cumulative difference or a material difference in any one
reporting period, and consequently the prior periods figures have not been
restated.  The cumulative effect of the accounting change, which was
immaterial, was reflected in the results of operations in the year ended June
30, 2009.





The
Company makes provisions for estimated excess and obsolete inventory based on
its regular reviews of inventory quantities on hand and the latest forecasts of
product demand and production requirements from its customers.  The
Company writes down inventories for not saleable, excess or obsolete raw
materials, work-in-process and finished goods by charging such write-downs to
cost of sales.  In addition to write-downs based on newly introduced
parts, statistics and judgments are used for assessing a provision on the
remaining inventory based on salability and obsolescence.





Warranty





Warranty
is a major term under an integrated contract, which will last, in general, for
twelve months or be specified under a contract. The Company estimates a warranty
liability under a contract using a percentage of revenue recognized, which is
derived from its historical experience, in order to recognize a warranty cost
for a contract in the proper period of time.  In addition, at the end
of each reporting period, the Company estimates whether or not the accrued
warranty liabilities are adequate based on 1) the outstanding warranty time
period of a contract which has entered into the warranty period, 2) the total
revenue has recognized on a contract which has been under the warranty period,
and 3) all contracts which have been under the warranty period.  The
Company adjusts the accrued warranty liabilities in line with the result of its
assessment.





Accounts
Receivable and Cost and estimated earnings in excess of billings





Performance
of the contracts often will extend over long periods and the Company’s right to
receive payments depends on its performance in accordance with these contractual
agreements.  The Company bills a customer in accordance with the
amount specified under the contract from the cost and estimated earnings in
excess of billings when the Company’s performance has reached a
milestone.  In general, among four milestones, each interval of two
contiguous billings under a contract is within one year (under certain railway
control system contracts, the interval of two contiguous billings is longer than
one year) and the last billing to be issued for a contract is at the end of the
warranty period.  When a customer makes a prepayment at the start of a
contract, the amount received will be recorded as deferred
revenue.  The deferred revenue would be recognized as revenue under
the percentage of completion method along with the progress of a
contract.  If no prepayment is received by the Company, revenue would
be recognized through cost and estimated earnings in excess of
billings.  Accordingly, when a particular milestone is reached, a
particular amount of cost and estimated earnings in excess of billings will be
transferred into accounts receivable.  Cost and estimated earnings in
excess of billings are usually billed within one year.  The Company
does not specify credit terms in its invoices and expect that its customers will
make their payments upon receipt even though the contract terms say that a
specific amount is due when a milestone is reached.  The Company does
not require collateral from its customers.  Based on the prevailing
collection practice in China, it is a reasonable expectation for the enterprises
in automation industry to take over one year to collect accounts
receivable.





As of
June 30, 2009 and 2010, balance of $6,772,812 and $7,065,816 were related to
contracts which have been completed but are still within the warranty period
respectively.





The
Company issues invoices to its customers without specifying credit terms and
consequential interests charge for late payments by its
customers.  The Company reviews the status of contracts periodically
and decided how much allowance for doubtful accounts should be made based on
factors surrounding the credit risk of customers, as well as its historical
experience.  The Company set up bad debt allowance for an individual
customer if there is a deterioration of the customer’s creditability and the
assessed probability of default is higher than the historical
experience.


37


Based on
the information available to management, the Company believes that its allowance
for doubtful accounts as of June 30, 2009 and 2010 were adequate,
respectively.





The
allowance for doubtful debts for the years ended June 30, 2008, 2009 and 2010
were $3,439,486, $1,145,770, and $2,790,078
respectively.





Property,
Plant and Equipment





Property,
plant and equipment are recorded at cost and are stated net of accumulated
depreciation.  Depreciation expense is determined using the
straight-line method over the estimated useful lives of the assets as
follows:





Land
      use right
                  
                  49
      yearsBuildings
                  
                  30
      yearsMachinery
                  
                  5 -
      10 yearsSoftware
                  
                  5
      yearsVehicles
      and other equipment
                  
                  5
      years





Construction
in progress represents construction of certain facilities which construction
work has not been completed and which, upon completion, management intends to
hold for production purpose. In addition to costs under construction contracts,
external costs directly related to the construction of such facilities,
including duty and tariff, equipment installation and shipping costs, and
borrowing costs are capitalized. Depreciation is recorded at the time assets are
placed in service.





Maintenance
and repairs are charged directly to expense as incurred, whereas betterment and
renewals are capitalized in their respective property accounts.  When
an item is retired or otherwise disposed of, the cost and applicable accumulated
depreciation are removed and the resulting gain or loss is recognized for the
reporting period.





Impairment
of Long-Lived Assets





The
Company adopts the provisions of ASC Topic 360 Property, Plant and
Equipment, which requires that long-lived assets be reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable through the estimated
undiscounted cash flows expected to result from the use and eventual disposition
of the assets.  Whenever any such impairment exists, an impairment
loss will be recognized for the amount by which the carrying value exceeds the
fair value.  Losses on long-lived assets to be disposed of are
determined in a similar manner, except that fair market values are reduced for
the cost to dispose.





The
impairment loss on  long-lived assets for the years ended June 30,
2008, 2009 and 2010 were nil, nil, and $715,246 respectively, which represented
impairment loss on property, plant and equipment.





Shipping
and Handling Cost





All
shipping and handling fees charged to customers are included in net revenue, and
shipping and handling costs for goods shipped by the Company to customers are
included in cost of integrated contract and/or cost of goods sold.





Goodwill
and Impairment Test





Goodwill
resulting from an acquisition is measured at the excess of the cost of the
business combination over the fair value of the assets acquired and liabilities
assumed.  Goodwill will not be amortized, instead be tested for
impairment at least annually as prescribed by ASC Topic 350 Intangibles -  Goodwill
and Other.  If the fair value is less than its carrying value,
an indication of goodwill impairment exists, then the carrying value of goodwill
is written down, and an impairment loss is recognized for any excess of the
carrying amount over the implied fair value of the goodwill. The implied fair
value of goodwill is determined by allocating the fair value of the reporting
unit in a manner similar to a purchase price allocation and the residual fair
value after this allocation is the implied fair value of the reporting unit
goodwill. Fair value of the reporting unit is determined using a discounted cash
flow analysis. For the year ended June 30, 2008, 2009 and 2010, there was an
impairment loss of $99,439, nil, and $286,610 respectively. The carrying value
of goodwill was written down to $0 as of June 30, 2009 and
2010.


38


Income
Taxes





The
Company accounts for income taxes in accordance with ASC Topic 740 Income Taxes, which requires
an entity to recognize deferred tax liabilities and assets.  Deferred
tax assets and liabilities are recognized for the future tax consequence
attributable to the difference between the tax bases of assets and liabilities
and their reported amounts in the financial statements.  Deferred tax
assets and liabilities are measured using the enacted tax rate 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 income in the period that
included the enactment date.  Deferred tax assets are reduced by a
valuation allowance when, in the opinion of management, it is more likely than
not that some portion or all of the deferred tax assets will not be realized.
Current income taxes are provided for in accordance with the laws of the
relevant tax authorities.





The
Company adopted the “Accounting for Uncertainty in Income Taxes” which included
in ASC Topic 740 Income
Taxes. It clarifies the accounting for uncertainty in income taxes
recognized in an enterprise’s financial statements. It prescribes a recognition
threshold and measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax return. It
also provides guidance on de-recognition of tax benefits, classification on the
balance sheet, interest and penalties, accounting in interim periods,
disclosure, and transition. The Company’s policy on classification of all
interest and penalties related to unrecognized tax benefits, if any, as a
component of income tax provisions.





Value
Added Tax





All the
PRC subsidiaries of the Company are subject to value added tax (“VAT”) imposed
by PRC government on its domestic product sales.  The output VAT is
charged to customers who purchase goods from the Company and the input VAT is
paid when the Company purchases goods from its vendors.  VAT rate is
17%, in general, depending on the types of product purchased and
sold.  The input VAT can be offset against the output
VAT.  VAT payable or receivable balance presented on the Company’s
balance sheets represents either the input VAT less than or larger than the
output VAT.  The debit balance represents a credit against future
collection of output VAT instead of a receivable.





Research
and Development





Research
and development costs consist primarily of staff costs, which include salaries,
bonuses and benefits for research and development personnel.  Research
and development costs also include travel expenses of our research and
development personnel as well as depreciation of hardware equipment and software
tools and other materials used in our research and development activities.
Research and development costs are expensed as incurred.





VAT
Refunds and Government Subsidies





Pursuant
to the laws and regulations of the PRC, the Company remits 17% of its sales as
VAT to the government, and then is entitled to a refund of the 14% VAT levied on
all sales containing our internally developed software products. The Company
recognizes the VAT refunds upon the completion of government approval process.
Certain subsidiaries of the Company located in PRC have, respectively, received
certain government subsidies from local PRC government
agencies.  Government subsidies are recognized when received and the
conditions prescribed by the government have been fulfilled. VAT refunds and
government subsidies are included as a credit in the operating expense in the
consolidated statement of income, which is largely research and development tax
credit in essence.





Appropriations
to Statutory Reserve





Under the
corporate law and relevant regulations in PRC, all of the subsidiaries of the
Company located in PRC are required to appropriate a portion of its retained
earnings to statutory reserve.  All subsidiaries located in PRC are
required to appropriate 10% of its annual after-tax income each year to the
statutory reserve until the statutory reserve balance reaches 50% of the
registered capital.  In general, the statutory reserve shall not be
used for dividend distribution purpose.


39


Use
of Estimates





The
preparation of financial statements in conformity with US GAAP 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 financial statements and the reported amounts of revenues and
expenses during the reporting period.  Actual results could differ
materially from those estimates.





Comprehensive
Income





The
Company adopted ASC Topic 220 Comprehensive Income, which establishes standards
for reporting and presentation of comprehensive income and its components in a
full set of general-purpose financial statements.  Accumulated other
comprehensive income represents foreign currency translation adjustments and is
included in the consolidated statement of income and comprehensive
income.





Long
Term Investments





The
Company accounted for its long-term investments under either equity method or
cost method in accordance with equity interest holding percentage. The
investments in entities over which the Company has the ability to exercise
significant influence are accounted for using the equity method. Significant
influence is generally considered to exist when the Company has an ownership
interest in the voting stock of the investee between 20% and 50%. Other factors,
such as representation on the investee’s Board of Directors and the impact of
commercial arrangements, are also considered in determining whether the equity
method of accounting is appropriate.





Under the
equity method, original investments are recorded at cost and adjusted by the
Company's share of undistributed earnings or losses of these entities, by the
amortization of any difference between the amount of the Company's investment
and its share of the net assets of the investee, and by dividend distributions
or subsequent investments. All unrealized inter-company profits and losses are
eliminated under the equity method. When the estimated amount to be realized
from the investments falls below its carrying value, an impairment charge is
recognized in the consolidated statements of income when the decline in value is
considered other than temporary.





The
impairment loss on long term investments for the years ended June 30, 2008, 2009
and 2010 were nil, nil, and $152,732 respectively.





Earnings
(Loss) Per Share





The
Company presents earnings per share in accordance with the ASC Topic 260 Earnings Per Share, which
defines that basic earnings (loss) per share include no dilution and are
computed by dividing income (loss) available to common stockholders by the
weighted average number of common shares outstanding during the period whereas
diluted earnings (loss) per share reflect the potential dilution of securities
that could share in the earnings of an entity.





Share-based
Compensation





The
Company adopted ASC Topic 718 Compensation - Stock
Compensation, which requires that share-based payment transactions with
employees, such as share options, be measured based on the grant-date fair value
of the equity instrument issued and recognized as compensation expense over the
requisite service period, with a corresponding addition to equity. Under this
method, compensation cost related to employee share options or similar equity
instruments is measured at the grant date based on the fair value of the award
and is recognized over the period during which an employee is required to
provide service in exchange for the award, which is generally the vesting
period.


40


Fair
Value Measurements





The
Company has adopted ASC Topic 820  Fair Value Measurements and
Disclosures, which defines fair value, establishes a framework for
measuring fair value in GAAP, and expands disclosures about fair value
measurements. It does not require any new fair value measurements, but provides
guidance on how to measure fair value by providing a fair value hierarchy used
to classify the source of the information. Its establishes a three-level
valuation hierarchy of valuation techniques based on observable and unobservable
inputs, which may be used to measure fair value and include the
following:





Level 1 -
            Quoted
      prices in active markets for identical assets or
    liabilities.


Level 2 -
              Inputs
      other than Level 1 that are observable, either directly or indirectly,
      such as quoted prices for similar assets or liabilities; quoted prices in
      markets that are not active; or other inputs that are observable or can be
      corroborated by observable market data for substantially the full term of
      the assets or liabilities.


Level 3 -
              Unobservable
      inputs that are supported by little or no market activity and that are
      significant to the fair value of the assets or
  liabilities.





Classification
within the hierarchy is determined based on the lowest level of input that is
significant to the fair value measurement.





Recent
Accounting Pronouncements





In June
2009, the FASB issued “Accounting for Transfers of Financial Assets” included in
ASC 860 Transfer and
Servicing. This pronouncement is intended to improve the relevance,
representational faithfulness, and comparability of the information that a
reporting entity provides in its financial reports about a transfer of financial
assets; the effects of a transfer on its financial position, financial
performance, and cash flows; and a transferor’s continuing involvement in
transferred financial assets. This pronouncement must be applied as of the
beginning of each reporting entity’s first annual reporting period that begins
after November 15, 2009. Earlier application is prohibited. This pronouncement
must be applied to transfers occurring on or after the effective date. The
Company does not expect the adoption of this pronouncement would have a
significant effect on the Company’s financial position, result of operations and
cash flow.





In June
2009, the FASB issued “Amendments to FASB Interpretation No.
46(R)”  included in ASC 810 Consolidation. This
pronouncement seeks to improve financial reporting by enterprises involved with
variable interest entities. This pronouncement is applicable for annual periods
that begins after November 15, 2009 and interim periods therein and
thereafter. The Company does not expect the adoption of the adoption of
this pronouncement would have a significant effect on the Company’s financial
position, result of operations and cash flow.





In July
2009, the FASB issued ASU 2009-13 Revenue Recognition (Topic 605)
Multiple-Deliverable Revenue Arrangements (“ASU 2009-13”). This pronouncement
was issued in response to practice concerns related to the accounting for
revenue arrangements with multiple deliverables under existing
pronouncement.  Although the new pronouncement retains the criteria
from exiting pronouncement for when delivered items in a multiple-deliverable
arrangement should be considered separate units of accounting, it removes the
previous separation criterion under existing pronouncement that objective and
reliable evidence of the fair value of any undelivered items must exist for the
delivered items to be considered a separate unit or separate units of
accounting.  ASU 2009-13 is effective for fiscal years beginning on or
after June 15, 2010. The Company is currently evaluating the potential impact on
the adoption of ASU 2009-13 may have on the Company’s financial position, result
of operations and cash flow.





In
October 2009, the FASB issued ASU No. 2009-14 Software (Topic 985) Certain
Revenue Arrangements That Include Software Elements (“ASU
No.  209-14”). The pronouncement provides that products containing
both software and non-software components that function together to deliver the
product’s essential functionality are excluded from the scope of current revenue
recognition guidance for software products. The pronouncement includes factors
that entities should consider when determining whether the software and
non-software components function together to deliver the product’s essential
functionality. ASU No.  209-14 is effective for fiscal years beginning
on or after June 15, 2010. The Company is currently evaluating the potential
impact on the adoption of ASU 2009-14 may have on the Company’s financial
position, result of operations and cash flow.


41


In
January 2010, the FASB issued ASU No. 2010-02  Consolidation (Topic
810) Accounting and Reporting for Decreases in Ownership of a Subsidiary (“ASU
No. 2010-02”). This pronouncement is an authoritative guidance to clarify the
scope of accounting and reporting for decreases in ownership of a
subsidiary.  The objective of this guidance is to address
implementation issues related to changes in ownership
provisions.  This guidance clarifies certain conditions, which need to
apply to this guidance, and it also expands disclosure requirements for the
deconsolidation of a subsidiary or derecognition of a group of assets. ASU No.
2010-02 is effective beginning in the first interim or annual reporting period
ending on or after December 15, 2009. The Company does not expect the adoption
of ASU No. 2010-02 would have a significant effect on the Company’s financial
position, result of operations and cash flow.





In
January 2010, the FASB issued ASU No. 2010-06 Fair Value Measurements and
Disclosures (Topic 820) Improving Disclosures about Fair Value Measurements
(“ASU No. 2010-06”). This pronouncement is an authoritative guidance to improve
disclosures about fair value measurements. This guidance amends previous
guidance on fair value measurements to add new requirements for disclosures
about transfers into and out of Levels 1 and 2 and separate disclosures about
purchases, sales, issuances, and settlements relating to Level 3 measurement on
a gross basis rather than on a net basis as currently required. This guidance
also clarifies existing fair value disclosures about the level of disaggregation
and about inputs and valuation techniques used to measure fair value. ASU No.
2010-06 is effective for interim and annual reporting periods beginning after
December 15, 2009, except for the disclosures about purchases, sales, issuances,
and settlements in the roll forward of activity in Level 3 fair value
measurements. Those disclosures are effective for fiscal years beginning after
December 15, 2010, and for interim periods within those fiscal years. The
Company is currently evaluating the impact of ASU No. 2010-06 on the Company’s
consolidated financial statements, but does not expect it to have a material
impact.





Financial
Position





The
following are some financial highlights for the fiscal year ended June 30,
2010:





·
            Total
      assets increased by approximately $39.29 million, from approximately
      $345.44 million as of June 30, 2009 to approximately $384.73 million as of
      June 30, 2010.  The increase was mainly due to an increase of
      approximately $18.24 million in property, plant and
      equipment,  an increase of approximately $9.83 million in cost
      and estimated earnings in excess of billings, an increase of approximately
      $7.84 million in accounts receivable, and an increase of approximately
      $4.72 million in inventories.





·
            Accounts
      receivable at June 30, 2010 was approximately $64.38 million, an increase
      of approximately $7.84 million, or 13.9%, compared to approximately $56.55
      million at June 30, 2009.  The increase was mainly due to
      our increased revenues.





·
            Cost
      and estimated earnings in excess of billings as of June 30, 2010 were
      approximately $60.93 million compared to approximately $51.10 million as
      of June 30, 2009, representing an increase of approximately $9.83 million,
      or 19.2%. The increase was mainly attributable to the increase in total
      revenues.





·
            Inventory
      as of June 30, 2010 was approximately $23.55 million, an increase of
      approximately $4.72 million, or 25.0%, compared to approximately $18.84
      million at June 30, 2009.





·
            Property,
      plant and equipment increased by approximately $18.24 million, or 38.7%,
      from approximately $47.10 million at June 30, 2009, to approximately
      $65.35 million at June 30, 2010, mainly due to significant input in
      construction of the new facility, which has been substantially completed
      by the end of fiscal year 2010, and completed in August
    2010.





·
            Long-term
      investment at June 30, 2010 was approximately $17.35 million, an increase
      of approximately $3.77 million, or 27.8%, compared to approximately $13.57
      million at June 30, 2009. The increase in long-term investment was mainly
      due to approximately $2.9 million of net gains of our nuclear joint
      venture, China Techenergy Co., Ltd., for this fiscal
  year.





·
            Total
      liabilities at June 30, 2010 were approximately $171.26 million, increased
      by approximately $21.83 million, or 14.6%, compared to approximately
      $149.42 million at June 30, 2009. The increase in liabilities was
      mainly due to an increase of approximately $12.48 million in deferred
      revenue, an increase of $5.44 million in accrued liabilities, and an
      increase of approximately $4.57 million in income tax
    payable.


42


·
            Deferred
      revenue increased by approximately $12.48 million, or 59.2%, from
      approximately $21.07 million at June 30, 2010, to approximately $33.55
      million at June 30, 2010, mainly due to the increased advances received
      related to our subway automation contracts we signed during fiscal
      2010.





·
            Accrued
      liabilities amounted to $8.08 million and $2.63 million as of June 30,
      2010 and 2009, respectively, representing an increase of $5.44 million, of
      206.7%, mainly due to the RMB 27 million (approximately equivalent to
      $3.98 million) subsidy, related to the new facility construction. The
      subsidy was offset to the cost of the new facility when the construction
      was completed in August 2010.





·
            Income
      tax payable at June 30, 2010 was approximately $5.97 million, representing
      an increase of  approximately $4.57 million, or 327.2%, compared
      to approximately $1.40 million at June 30, 2009. The increase was mainly
      due to a one-time recognition of a $4.47 million tax liability related to
      Hollysys group re-organization, which we included a detail description in
      the following comparison of income tax expenses of fiscal years Ended June
      30, 2010 and 2009.





Operating
Results





Comparison
of Fiscal Years Ended June 30, 2010 and 2009





Operating
Revenues:  For the fiscal year ended June 30, 2010, total
revenues amounted to approximately $174.09 million, an increase of approximately
$16.59 million, compared to approximately $157.50 million for the prior fiscal
year, representing a significant increase of 10.5%.





Integrated
contract revenue accounted for approximately $164.12 million of total revenues,
an increase of approximately $14.81 million, or 9.9%, compared to approximately
$149.30 million for the prior fiscal year.  The increase in revenues
was mainly attributable to an increase of approximately $12.71 million of
revenues generated from the sale of our industrial automation
products.





Approximately
$9.97 million of total revenues related to product revenue, an increase of
approximately $1.77 million, or 21.6%, compared to approximately $8.20 million
in product revenue for the prior year.  Product revenue depends on
overall demand for the Company’s spare parts for customers’ maintenance and
replacement purposesduring the 2010 fiscal
year.





Revenue
Backlog:  An important measure of the stability and growth of
the Company’s business is the size of its backlog, which represents the total
amount of unrecognized revenue associated with existing
contracts.  Any deferral of revenue recognition is reflected in an
increase in backlog as of the end of current period.  Our backlog as
of June 30, 2010, amounted to approximately $252.86 million, representing an
increase of approximately $63.92 million, or 33.83%, compared to approximately
$188.94 million as of June 30, 2009.





Of the
total backlog as of June 30, 2010, the unrecognized revenue associated with new
contracts signed in the fiscal 2010 period was approximately $145.91 million and
the carry forward amount of the outstanding contracts from the prior year was
approximately $106.95 million.  The total backlog as of June 30, 2009
comprised of approximately $115.52 million from new contracts signed in fiscal
year 2009, and approximately $73.42 million from contracts carried forward from
prior year.





Cost of
Revenues:  Cost of revenues can be divided into cost of
integrated contracts and cost of products sold, in line with the categories of
revenues.  For the fiscal year ended June 30, 2010, the total cost of
revenues amounted to approximately $113.94 million, an increase of approximately
$11.01 million, or 10.70%, compared to approximately $102.92 million for the
prior fiscal year.  The increase was due to an approximately $10.84
million increase in the cost of integrated contracts, and an approximately $0.17
million year over year increase in the cost of products sold.


43


The cost
of integrated contract revenue consists primarily of three components: cost of
equipment and materials, labor costs and other manufacturing expenses incurred
from designing, building and delivering customized automation solutions to
customers. The total cost of integrated contracts was approximately $110.27
million for the fiscal year ended June 30, 2010, compared to approximately
$99.42 million for the prior fiscal year, representing an increase of
approximately $10.84 million, or 10.9%.  The increase was primarily
due to an increase of approximately $5.50 million in the cost of equipment and
materials, and approximately $4.94 million in other manufacturing expenses.
Labor cost accounted for 5.1% of the cost of integrated contract revenue for the
fiscal 2010 period, compared to 4.8% for the prior fiscal year; cost of
equipment and materials accounted for 76.0%, compared to 78.7% for the prior
fiscal year; and other manufacturing expenses accounted for 18.9%, compared to
16.4% for the prior fiscal year. Labor cost accounted for 3.4%of the integrated
contract revenue for the 2010 period, compared to 3.2% for the prior fiscal
year.Cost of
equipment and materials accounted for 51.0%, compared to 52.4% for the prior
fiscal year.  Other manufacturing expenses accounted for 12.7%,
compared to 10.9% for the prior fiscal year. The cost components of integrated
contracts were determined and varied according to requirements of different
customers.





Sales of
products represent sales of spare parts (either self-made or purchased from
outside vendors) to customers for maintenance and replacement
purposes.  The products purchased from outside vendors have different
functions and capabilities from our self-made products.  We decide
whether or not to purchase from outside vendors or make the necessary products
ourselves, based on the needs and preferences of different customers and
efficiency considerations.  Therefore, as a percentage of the cost of
products sold, the self-made products and outsourced products have varied
significantly from time to time.  As our self-made products generally
contribute higher margins than products purchased from outside vendors, sales of
a greater portion of self-made products generally result in lower costs of
products sold.  The cost of products sold for fiscal year ended June
30, 2010 was approximately $3.67 million, an increase of approximately $0.17
million, compared to approximately $3.50 million for the prior fiscal
year.





Gross Margin:  For
the fiscal year ended June 30, 2010, as a percentage of total revenues, the
overall gross margin was 34.6%, compared 34.7% for the prior fiscal
year.  The gross margin for integrated contracts was 32.8% for the
year ended June 30, 2010, compared to 33.4% for the prior year.  The
decrease in gross margin for integrated contracts was due mainly to our
different sales mix during the fiscal 2010 period.  The gross margin
for products sold was 63.2% for the fiscal year ended June 30, 2010, compared to
57.3% for the prior fiscal year.





Selling
Expenses:  Selling expenses mainly consist of compensation,
traveling and administrative expenses related to marketing and sales and
promotion activities of the Company’s marketing and credit
departments.  Selling expenses were approximately $12.15 million for
the fiscal year ended June 30, 2010, an increase of 21.3%, or approximately
$2.13 million, compared to approximately $10.02 million for the prior fiscal
year, mainly due to the Company’s increased marketing activities.  As
a percentage of total revenues, selling expenses accounted for 7.0% and 6.4% for
the fiscal year ended June 30, 2010 and 2009, respectively.  The
Company has established guidelines to monitor and evaluate sales performance for
its products to customers in different industries and regions to control selling
expenses.





General and administrative
expenses:  General and administrative expenses mainly include
compensation, traveling and other administrative expenses of non-sales-related
departments, such as the planning and finance department, information systems
department and human resources department.  General and administrative
expenses amounted to approximately $13.91 million for the fiscal year ended June
30, 2010, representing an decrease of approximately $35.07 million, or 71.6%,
compared to approximately $48.98 million for the prior fiscal
year.  The decrease in general and administrative expenses was mainly
due to a decrease of approximately $39.03 million in the stock compensation
expense on the modification of earn-out shares and granted options, an increase
of approximately $1.6 million in bad debt allowance, an increase of
approximately $1.2 million in staff salaries and bonus, and an increase of
approximately $0.7 million in provision for fixed assets. Excluding stock
compensation expenses and option expenses, general and administrative expenses
should be approximately $13.39 million and approximately $9.42 million, or 7.7%
and 6.0% as a percentage to total revenues, for the fiscal years ended June 30,
2010 and 2009, respectively.


44


Pursuant
to the stock purchase agreement under the re-domestication merger, the Company
agreed to issue 2 million shares to the original stockholders of Gifted Time if
the Company achieves or exceeds an after-tax profit of $32 million for the 12
months ended December 31, 2008.  After-tax profit was computed using
US GAAP and referred to comprehensive income, excluding (i) any after-tax
profits from any acquisition by the Company or its subsidiaries that involved
the issuance of securities that had a dilutive effect on the holders of ordinary
shares of the Company, and (ii) any expenses related to the issue of the
aforesaid shares.  Management determined that the Company achieved
such earn-out target for the abovementioned period and the board approved the
issuance of the earn-out shares.  The Company has accounted for the
fair value of the aforesaid shares to be issued for the year ended June 30, 2009
as stock compensation expenses and $17.0 million was recorded in the statement
of income. On June 15, 2009, the Company and the original stockholders of Gifted
Time agreed to amend the stock purchase agreement to cancel the remaining 7
million incentive shares issuable to the original Gifted Time stockholders under
the stock purchase agreement for the calendar years ended December 31, 2009,
2010, and 2011, in exchange for the immediate issuance of 4 million shares to
the original Gifted Time stockholders. The Company has accounted for the fair
value of the aforesaid 4 million shares as stock compensation expenses and
approximately $22.24 million was recorded in the statement of income
for  the fiscal years ended June 30, 2009.





Research and Development
Expenses: Research and development expenses comprise mostly employee
compensation, materials consumed and experiment expenses for specific new
product research and development, and any expenses incurred for basic research
on advanced technologies. For the fiscal year ended June 30, 2010, research and
development expenses were approximately $13.07 million, compared to
approximately $8.83 million for the prior fiscal year. The approximately $4.24
million, or 48.0%, increase was mainly due to increased research and development
activities during the 2010 period.  As a percentage of total revenues,
research and development expenses was 7.5% and 5.6% for the fiscal years ended
June 30, 2010 and 2009, respectively.





VAT Refunds and Government
Subsidies:  The local governments in Beijing and Hangzhou
provide financial subsidies out of the value added tax they collect in order to
encourage the research and development efforts of certain
enterprises.  Beijing HollySys and Hangzhou HollySys both received
such refunds.  All VAT refunds were accounted for based on hard
evidence that the operations of those companies were entitled to receive these
refunds or that cash had been received.  For the fiscal year ended
June 30, 2010, VAT refunds were approximately $8.97 million, compared to
approximately $5.94 million for the prior fiscal year, increased by
approximately $3.03 million, or 51.0%.  As a percentage of total
revenues, VAT refunds were 5.2% and 3.8% for the fiscal years ended June 30,
2010 and 2009, respectively.





The local
governments in Beijing and Hangzhou also provide financial subsidies to
encourage development of certain enterprises.  Beijing HollySys and
Hangzhou HollySys both received such subsidies.  All subsidies were
accounted for based on hard evidence that the operations of those companies were
entitled to receive these subsidies or that cash had been received.Gross subsidy income
received from the government amounted to approximately $2.56 million and
approximately $1.76 million for the fiscal year ended June 30, 2010 and 2009,
respectively, an increase of approximately $0.80 million, or 45.3%.





Income (loss) from
Operations:  Income from operations increased by approximately
$38.10 million, from a loss of approximately $5.55 million for the fiscal year
ended June 30, 2009, to an income of approximately $27.60 million for the fiscal
year ended June 30, 2010.  The increase in income from operations was
primarily due to the decrease in stock compensation expenses related to 2009
incentive share issuance and option grants.  Excluding stock
compensation expenses, operating income as a percentage of total revenues for
the fiscal year ended June 30, 2010 was approximately $33.07 million, or 19.0%,
as compared to approximately $34.01 million, or 21.6% as a percentage of total
revenues for the prior year, an decrease that was mainly due to the increase in
research and development expenses.





Interest Expenses,
Net:  For the year ended June 30, 2010, net interest expenses
increased by approximately $0.12 million, or 12.2%, from approximately $0.95
million for the prior year, to approximately $1.07 million for the current
period.  As a percentage of total revenue, net interest expense
accounted for 0.6% and 0.6% for the fiscal years ended June 30, 2010 and 2009,
respectively.





Income Tax
Expenses:  For the year ended June 30, 2010, the Company’s
income tax expense was approximately $7.66 million for financial reporting
purposes, an increase of approximately $4.60 million, as compared to a income
tax expense of approximately $3.06 million for the prior year.  The
increase was mainly due to a one-time tax expense of $4.45 million related to
Hollysys group re-organization as the follows:





·
            In
      February 2010, Hollysys re-organized the group structure of its wholly
      owned PRC subsidiaries, or the Reorganization.  Before the
      Reorganization, Hangzhou Hollysys was 60% owned by Gifted Time and 40% by
      Beijing Hollysys. To minimize the tax expenses arising from the
      Reorganization, Hangzhou Hollysys declared dividends pay-out for all the
      retained earnings of Hangzhou Hollysys as of December 31, 2009 to reduce
      its fair market value, and then conducted the ownership transfer within
      Hollysys group, as illustrated in the diagram below. The one-time
      re-organization related tax expense of $4.45 million is consisted of $3.08
      million of dividend pay-out withholding tax and $1.37 million of
      investment income tax;


45


·
            On
      February 1, 2010, the board of directors of Hangzhou Hollysys adopted a
      resolution of declaring dividends of $75.25 million, among which $30.10
      million was to be paid to Beijing Hollysys, and the reaming $45.15 million
      to Gifted Time.  Pursuant to China’s Corporate Income Tax Laws,
      domestic companies are required to withhold income tax on dividends
      pay-out to non-resident companies based on the earnings after January 1,
      2008, $30.82 million out of $45.15 million dividends to Gifted Time falls
      into this category. According to the tax treaty between China and the BVI,
      10% of $30.82 million was withheld by Hangzhou
  Hollysys;





·
            On
      February 3, 2010, Beijing Hollysys S&T entered into a stock purchase
      agreement to purchase 20% and 40% ownership of Hangzhou Hollysys from
      Gifted Time and Beijing Hollysys, for RMB 24 million and RMB 48 million,
      respectively.  Hangzhou Hollysys’ fair market value was
      appraised at US$109.99 million by Hangzhou Lixin Assets Appraisal Company,
      which rendered investment taxable income of $3.43 million and $6.86
      million for Gifted Time and Beijing Hollysys, respectively, among which
      $0.34 million was withheld as investment income tax for Gifted Time, and
      $1.03 million was accrued as investment income tax by Beijing Hollysys
      based on a 15% tax rate.  After the Reorganization, Hangzhou
      Hollysys has been 60% owned by Beijing Hollysys S&T and 40% owned by
      Gifted Time.











Net income attributable to
non-controlling interest:  The non-controlling interest of the
Company includes other parties’ interests in each subsidiaries.  For
fiscal 2010, the non-controlling interest is an ownership interests of 49% in
Beijing WodeWeiYe and Hollycon, respectively, as compared to 25.89%, 10.36% and
31.45% in Beijing Hollysys, Hangzhou Hollysys, and Beijing Haotong,
respectively, for fiscal 2009. The decrease in non-controlling interest s mainly
due to the acquisition of the remaining 24.11% interest of Beijing HollySys by
the Company during the year. The net income attributable to non-controlling
interest for the fiscal year ended June 30, 2010 was $1.85 million, a decrease
of $3.34 million, or 64.3%, from $5.19 million for the prior year, primarily due
to the decrease in non-controlling interests.





Net income (loss) and Earnings
(loss) per share attributable to Hollysys:  For the fiscal year
ended June 30, 2010,net income attributable to Hollysys amounted to
approximately $25.70 million or $0.50 per diluted share, an increase of
approximately $39.56 million, or $0.80 per diluted share, as compared to a net
loss of approximately $13.85 million, or $(0.31) per diluted share, for the
prior year.  Such increase was primarily due to an increase of
approximately $5.60 million in gross profit, a decrease of approximately $39.56
million in stock compensation expenses related to incentive shares and granted
options, and an increase of $4.60 million in income tax
expenses..


46


Comparison
of Fiscal Years Ended June 30, 2009 and 2008





Operating
Revenues:  For the year ended June 30, 2009, total revenues
amounted to $157.50 million, an increase of $36.00 million, compared to $121.50
million for the prior fiscal year, representing a significant increase of
29.6%.





Integrated
contract revenue accounted for $149.30 million of total revenues, an increase of
$36.95 million, or 32.9%, compared to $112.36 million for the prior fiscal
year.  The increase in revenues was mainly attributable to a
significant increase of $30.47 million in railway automation and control and
system integration projects for subway systems. Such contracts were for larger
contract amounts and at a higher gross profit rate.





Approximately
$8.20 million of total revenues related to product revenue, a decrease of $0.94
million, or 10.3%, compared to $9.14 million in product revenue for the prior
year.  Product revenue depends on overall demand for the Company’s
spare parts for customers’ maintenance and replacement purposesduring the 2009 fiscal
year.





Revenue
Backlog:  An important measure of the stability and growth of
the Company’s business is the size of its backlog, which represents the total
amount of unrecognized revenue associated with existing
contracts.  Any deferral of revenue recognition is reflected in an
increase in backlog as of the end of current period.  Our backlog as
of June 30, 2009, amounted to $188.94 million, representing an increase of
$10.49 million, or 5.9%, compared to $178.45 million as of June 30,
2008.





Of the
total backlog as of June 30, 2009, the unrecognized revenue associated with new
contracts signed in the 2009 period was $115.52 million and the carry forward
amount of the outstanding contracts from the prior year was $73.42
million.  The total backlog as of June 30, 2008 comprised of $124.42
million from new contracts signed in fiscal year 2008, and $54.03 million from
contracts carried forward from prior year.





Cost of
Revenues:  Cost of revenues can be divided into cost of
integrated contracts and cost of products sold, in line with the categories of
revenues.  For the year ended June 30, 2009, the total cost of
revenues amounted to $102.92 million, an increase of $18.05 million, or 21.3%,
compared to $84.87 million for the prior fiscal year.  The increase
was due to an $18.01 million increase in the cost of integrated contracts, and a
$0.04 million year over year increase in the cost of products sold.





The cost
of integrated contract revenue consists primarily of three components: cost of
equipment and materials, labor costs and other manufacturing expenses incurred
from designing, building and delivering customized automation solutions to
customers. The total cost of integrated contracts was $99.42 million for the
fiscal year ended June 30, 2009, compared to $81.41 million for the prior fiscal
year, representing an increase of $18.01 million, or 22.1%.  The
increase was primarily due to an increase of $18.08 million in the cost of
equipment and materials related to the higher cost of equipment imported for the
railway automation and control projects and system integration projects for
subway systems during the 2009 period. Labor cost accounted for 4.8% of the cost
of integrated contract revenue for the 2009 period, compared to 7.5% for the
prior fiscal year; cost of equipment and materials accounted for 78.7%, compared
to 73.9% for the prior fiscal year; and other manufacturing expenses accounted
for 16.4%, compared to 18.5% for the prior fiscal year. Labor cost accounted for
3.2%of the
integrated contract revenue for the 2009 period, compared to 5.5% for the prior
fiscal year, which the change was caused by the components of cost of integrated
contracts which varied in accordance with customer specifications in the 2009
period.Cost of
equipment and materials accounted for 52.4%, compared to 53.6% for the prior
fiscal year.  Other manufacturing expenses accounted for 10.9%, which
decreased from 13.4% for the prior fiscal year, mainly due to the Company’s
efficiency improved during the 2009 fiscal year. The cost components of
integrated contracts were determined and varied according to requirements of
different customers.





Sales of
products represent sales of spare parts (either self-made or purchased from
outside vendors) to customers for maintenance and replacement
purposes.  The products purchased from outside vendors have different
functions and capabilities from our self-made products.  We decide
whether or not to purchase from outside vendors or make the necessary products
ourselves, based on the needs and preferences of different customers and
efficiency considerations.  Therefore, as a percentage of the cost of
products sold, the self-made products and outsourced products have varied
significantly from time to time.  As our self-made products generally
contribute higher margins than products purchased from outside vendors, sales of
a greater portion of self-made products generally result in lower costs of
products sold.  The cost of products sold for fiscal year ended June
30, 2009 was $3.50 million, an increase of $0.04 million, compared to $3.46
million for the prior fiscal year.


47


Gross Margin:  For
the year ended June 30, 2009, as a percentage of total revenues, the overall
gross margin was 34.7%, compared 30.1% for the prior fiscal year, primarily
because of the increase in gross margin for integrated contracts.  The
gross margin for integrated contracts was 33.4% for the year ended June 30,
2009, compared to 27.5% for the prior year.  The increase in gross
margin for integrated contracts was due mainly to our different sales mix during
the 2009 period, as a higher proportion of railway automation and control
projects generated a higher margin.  The gross margin for products
sold was 57.3% for the fiscal year ended June 30, 2009, compared to 62.2% for
the prior fiscal year.





Selling
Expenses:  Selling expenses mainly consist of compensation,
traveling and administrative expenses related to marketing and sales and
promotion activities of the Company’s marketing and credit
departments.  Selling expenses were approximately $10.02 million for
the fiscal year ended June 30, 2009, an increase of 3.5%, or $0.34 million,
compared to $9.68 million for the prior fiscal year, mainly due to increase in
payroll expense for sales personnel during the 2009 period.  As a
percentage of total revenues, selling expenses accounted for 6.4% and 8.0% for
the fiscal year ended June 30, 2009 and 2008, respectively.  The
Company has established guidelines to monitor and evaluate sales performance for
its products to customers in different industries and regions to control selling
expenses.





General and administrative
expenses:  General and administrative expenses mainly include
compensation, traveling and other administrative expenses of non-sales-related
departments, such as the planning and finance department, information systems
department and human resources department.  General and administrative
expenses amounted to $48.98 million for the fiscal year ended June 30, 2009,
representing an increase of $22.39 million, or 84.2%, compared to $26.59 million
for the prior fiscal year.  The increase in general and administrative
expenses was mainly due to the increase of $22.24 million in the stock
compensation expense on the modification of earn-out shares and granted options.
Excluding stock compensation expenses and option expenses, general and
administrative expenses should be $9.42 million and $9.50 million, or 6.0% and
7.8% as a percentage to total revenues, for the fiscal years ended June 30, 2009
and 2008, respectively.





Pursuant
to the stock purchase agreement under the re-domestication merger, the Company
agreed to issue 2 million shares to the original stockholders of Gifted Time if
the Company could achieve or exceed an after-tax profit of $32 million for the
12 months ended December 31, 2008.  After-tax profit was computed
using US GAAP and referred to comprehensive income, excluding (i) any after-tax
profits from any acquisition by the Company or its subsidiaries that involved
the issuance of securities that had a dilutive effect on the holders of ordinary
shares of the Company, and (ii) any expenses related to the issue of the
aforesaid shares.  Management determined that the Company achieved
such earn-out target for the abovementioned period and the board approved the
issuance of the earn-out shares.  The Company has accounted for the
fair value of the aforesaid shares to be issued for the year ended June 30, 2009
as stock compensation expenses and $17.0 million was recorded in the statement
of income. On June 15, 2009, the Company and the original stockholders of Gifted
Time agreed to amend the stock purchase agreement to cancel the remaining 7
million incentive shares issuable to the original Gifted Time stockholders under
the stock purchase agreement for the calendar years ended December 31, 2009,
2010, and 2011, in exchange for the immediate issuance of 4 million shares to
the original Gifted Time stockholders. The Company has accounted for the fair
value of the aforesaid 4 million shares as stock compensation expenses and
$22.24 million was recorded in the statement of income for the fiscal year ended
June 30, 2009..





Research and Development
Expenses: Research and development expenses comprise mostly employee
compensation, materials consumed and experiment expenses for specific new
product research and development, and any expenses incurred for basic research
on advanced technologies. For the fiscal year ended June 30, 2009, research and
development expenses were $8.83 million, compared to $3.83 million for the prior
fiscal year. The $5.0 million, or 130.3%, increase was mainly due to increased
R&D activities during the 2009 period.  As a percentage of total
revenues, research and development expenses was 5.6% and 3.2% for the fiscal
years ended June 30, 2009 and 2008, respectively.


48


VAT Refunds and Government
Subsidies:  The local governments in Beijing and Hangzhou
provide financial subsidies out of the value added tax they collect in order to
encourage the research and development efforts of certain
enterprises.  Beijing HollySys and Hangzhou HollySys both received
such refunds.  All VAT refunds were accounted for based on hard
evidence that the operations of those companies were entitled to receive these
refunds or that cash had been received.  For the fiscal year ended
June 30, 2009, VAT refunds were $5.94 million, compared to $6.16 million for the
prior fiscal year, decreased by $0.22 million, or 3.5%.  As a
percentage of total revenues, VAT refunds were 3.8% and 5.1% for the fiscal
years ended June 30, 2009 and 2008, respectively.





The local
governments in Beijing and Hangzhou provide financial subsidies to encourage
development of certain enterprises.  Beijing HollySys and Hangzhou
HollySys both received such subsidies.  All subsidies were accounted
for based on hard evidence that the operations of those companies were entitled
to receive these subsidies or that cash had been received.Gross subsidy income
received from the government amounted to $1.76 million and $3.16 million for the
fiscal year ended June 30, 2009 and 2008, respectively, a decrease of $1.40
million, or 44.3%.





Income (loss) from
Operations:  Income from operations decreased by $11.40
million, or 195.0%, from $5.84 million for the fiscal year ended June 30, 2008,
to a loss of $5.55 million for the fiscal year ended June 30,
2009.  The decrease in income from operations was primarily due to the
increase in stock compensation expenses related to 2009 incentive share issuance
and option grants.  Excluding stock compensation expenses, operating
income as a percentage of total revenues for the fiscal year ended June 30, 2009
was $34.0 million, or 21.6%, as compared to $26.17 million, or 21.5% as a
percentage of total revenues for the prior year.





Interest Expenses,
Net:  For the year ended June 30, 2009, net interest expenses
decreased by $3.35 million, or 77.8%, from $4.30 million for the prior year, to
$0.95 million for the current period.  The decrease was primarily due
to the recognition of $3.24 million in the amortization of discounts and
interests on notes payable related to a bridge loan for prior fiscal year, as
compared to nil for the current year.  Excluding the interests and
amortization of discounts on notes payable related to a bridge loan, net
interest expense as a percentage of total revenue would be 0.6% and 0.9% for the
fiscal year ended June 30, 2009 and 2008, respectively.





Income Tax
Expenses:  For the year ended June 30, 2009, the Company’s
income tax expense was $3.06 million for financial reporting purposes, an
increase of $1.97 million, as compared to a income tax expense of $1.09 million
for the prior year.  Such increase of income tax expenses was mainly
due to a deferred tax adjustments recorded in the prior year.





Net income attributable to
non-controlling interest:  The non-controlling interests of the
Company includes other parties’ interests in Beijing HollySys, Hangzhou HollySys
and Beijing Haotong.  The ownership interests of non-controlling
interests in these operating entities were 25.89%, 10.36% and 31.45%,
respectively, for fiscal 2009, as compared to 25.89%, 10.36% and 48.12%,
respectively, for fiscal 2008. The decrease in non-controlling interest in
Beijing Haotong is mainly due to the acquisition of the remaining 30% share
capital of Beijing Haotong by the Company during the year. The net income
attributable to non-controlling interests for the fiscal year ended June 30,
2009 was $5.19 million, an increase of $2.35 million, or 83.1%, from $2.83
million for the prior year. Such increase was primarily due to more profit
contributed by Beijing HollySys and Hangzhou Hollysys for the current
year.





Net income (loss) and Earnings
(loss) per share attributable to Hollysys:  For the fiscal year
ended June 30, 2009, net loss attributable to Hollysys amounted to $(13.85)
million or $(0.31) per diluted share, a decrease of $12.17 million, or $0.27 per
diluted share, as compared to a net loss of $(1.68) million, or $(0.04) per
diluted share, for the prior year.  Such decrease was primarily due to
the increase of $22.47 million in stock compensation expenses related to
incentive shares and granted options, offset by the decrease of $3.24 million in
amortization of discounts and interests on notes payable related to the bridge
loan during the 2008 period.




Liquidity
and Capital Resources




We
believe our working capital is sufficient to meet our present requirements. We
may, however, require additional cash due to changing business conditions or
other future developments, including any investments or acquisitions we may
decide to pursue. In the long-term, we intend to rely primarily on cash flow
from operations and additional borrowings from banks to meet our anticipated
cash needs. If our anticipated cash flow is insufficient to meet our
requirements, we may also seek to sell additional equity, debt or equity-linked
securities. We cannot assure you that any financing will be available in the
amounts we need or on terms acceptable to us, if at all.


49


In line
with the industry practice, we typically have a long receivable collection
cycle. As a result, our cash provided by our operation in any given year may not
be sufficient to fully meet our operating cash requirements in that year. We
will use available financing means, including bank loans, to provide sufficient
cash inflows to balance such timing differences in our cash flows.





We
estimate our liquidity needs for 2011 will be approximately $200 million, which
will be primarily related to the repayment of long-term bonds payable, and
repayment of bank borrowings. Our future working capital requirements will
depend on many factors, including, among others, the rate of our revenue growth,
the timing and extent of expansion of our sales and marketing activities, the
timing of introductions of new products and/or enhancements to existing
products, and the timing and extent of expansion of our manufacturing
capacity.





Our
long-term liquidity needs will relate primarily to working capital to pay our
suppliers, and third-party manufacturers, as well as any increases in
manufacturing capacity or acquisitions of third party businesses that we may
seek in the future. We expect to meet these requirements primarily through our
current cash holdings, revolving short-term bank borrowings, as well as our cash
flow from operations. We currently do not have any plan to incur significant
capital expenditures in 2011 and for the foreseeable future beyond
2011.





Cash
Flow and Working Capital





As of
June 30, 2008, 2009 and 2010, we had approximately $64.25 million, $128.89
million and $119.50 million, respectively, in cash and cash
equivalents.  As of June 30, 2010, we had total assets of $384.73
million, of which cash amounted to $119.50 million, accounts receivable amounted
to $64.38 million and inventories amounted to $23.55 million. While working
capital was approximately $165.44 million, equity amounted to $213.47 million
and our current ratio was approximately 2.22.




The
following table shows our cash flows with respect to operating activities,
investing activities and financing activities for the 12-month periods ended
June 30, 2008, 2009 and 2010:




Cash Flow Item
                        
                        Fiscal Years Ended June 30,2008
                        
                        
                        2009
                        
                        
                        2010Net
      cash (used in) provided by Operating activities
                        
                        $
                        (3,931,073
                        )
                        
                        $
                        40,127,458
                        
                        
                        $
                        30,145,816Net
      cash used in investing activities
                        
                        $
                        (11,865,752
                        )
                        
                        $
                        (11,940,293
                        )
                        
                        $
                        (21,478,441
                        )Net
      cash provided by (used in) financing activities
                        
                        $
                        59,208,327
                        
                        
                        $
                        35,882,189
                        
                        
                        $
                        (19,184,238
                        )Effect
      of exchange rate changes on cash and cash 
equivalents
                        
                        $
                        9,170,295
                        
                        
                        $
                        562,754
                        
                        
                        $
                        1,136,142Net
      increase(decrease) in cash andcash
      equivalents
                        
                        $
                        52,581,797
                        
                        
                        $
                        64,632,108
                        
                        
                        $
                        (9,380,721
                        )Cash
      and cash equivalents,  beginning of year
                        
                        $
                        11,668,761
                        
                        
                        $
                        64,250,558
                        
                        
                        $
                        128,882,666Cash
      and cash equivalents, end of year
                        
                        $
                        64,250,558
                        
                        
                        $
                        128,882,666
                        
                        
                        $
                        119,501,945





Operating
Activities





For the
fiscal year ended June 30, 2010, net cash provided by operating activities
was approximately $30.15 million, compared to approximately $40.13
million for prior fiscal year 2009.  The net cash inflow from
operating activities in fiscal year 2010 was primarily due to the net income of
approximately $32.01 million, an increase in deferred revenue of approximately
$12.48 million, an increase in accruals and other payables of approximately
$5.95 million, an increase of accounts payable of approximately $5.03
million, and an increase of $4.97 million in income tax payable, all of
which were partially offset by an increase in cost and estimated earnings in
excess of billings of approximately $10.19 million, an increase in accounts
receivable of approximately $10.13 million, and an increase of inventories of
approximately $6.0 million.


50


For the
fiscal year ended June 30, 2009, net cash provided by operating activities
was approximately $40.13 million, compared to net cash used in operating
activities of approximately $3.93 million for prior fiscal year
2008.  The net cash inflow from operating activities in fiscal year
2009 was primarily due to a decrease in inventories of approximately $5.31
million, an increase in accounts payable of approximately $13.06 million,
an increase in tax payable of approximately $3.02 million, and the
reconciling item in net income of approximately $39.56 million in stock
compensation expenses, all of which were partially offset by an increase in cost
and estimated earnings in excess of billings of approximately $8.3 million,
an increase in amount due from related parties of approximately $4.58
million. The decrease in inventories was mainly due to increase in revenues and
costs, the increase in accounts payable was primarily due to better credit terms
provided by suppliers. The increase in accounts receivable was consistent with
the increase in revenues.





For the
year ended June 30, 2008 net cash used in operating activities was $3.93
million, compared to net cash provided by operating activities of $3.77 million
for prior fiscal year 2007.  The net cash outflow from operating
activities in fiscal year 2008 was primarily due to an increase in accounts
receivables of $18.56 million, an increase in inventories of $11.0 million,
which were partially offset by an increase in advance from customers of $9.05
million, and the reconciling item in net income of $17.0 million in stock
compensation expenses.  The increase in accounts receivables was
primarily due to the increase in revenues, the increase in inventories was
primarily due to higher products demand expected in future and the increase in
procurement for imported equipment for subway projects.  The increase
in advance from customers was consistent with a higher revenue backlog at the
fiscal year end.





Investing
Activities





For the
fiscal years ended June 30, 2010 and 2009, net cash used in investing
activities was approximately $21.48 million and approximately
$11.94 million, respectively.  The net cash used in investing
activities for the fiscal year 2010 consisted mainly of a cash outflow of
approximately $20.92 million for the construction of our new
facility.





The net
cash used in investing activities for the fiscal year 2009 consisted mainly of a
cash outflow of approximately $8.73 million in the purchase of fixed assets, a
cash outflow of approximately $3.90 million in the acquisition of long term
investments, a cash outflow of approximately $2.20 million prepaid for
minority interest, and cash proceeds of approximately $2.10 million from
disposal of an equity investee.





The net
cash used in investing activities for the fiscal year 2008 consisted mainly of a
cash outflow of $10.03 million in purchase of fixed assets and an increase in
amounts due from related parties of $2.34 million in connection with an advance
payment for the sourcing of construction materials for our new
headquarters.





Financing
Activities





For
fiscal year ended June 30, 2010, net cash used in financing activities was
approximately $19.18 million, as compared to approximately $35.88
million cash provided by financing activities for the prior year. The net cash
outflow for fiscal year 2010 is composed of a cash outflow of $10.37 million in
the acquisition of equity interest from non-controlling interest, an repayment
of short-term bank loans of approximately $4.40 million, an repayment of
long-term bank loans of approximately $5.13 million, and an capital
injection from non-controlling interest of $0.72 million.





On March
31, 2009, the Company borrowed a seven-year bank loan of RMB 250 million
(approximately $36,813,972) from Industrial and Commercial Bank of China,
which matures on March 30, 2016, with an annual interest rate of 6.44%. The loan
was secured by a security interest in our new facility in construction, with a
building area of about 150,000 square meters. Principals of $736,280 and
$736,279 will be due on March 31, 2011 and June 30, 2011,
respectively.


51


The net
cash inflow from financing activities in fiscal year 2009 primarily comprised
proceeds from the above long-term bank loan relating to the ongoing
construction of our new facility, with interest subsidized by the
government.





The cash
generated by financing activities in fiscal year 2008 consisted mainly
of:





·
            A
      cash inflow of $57.21 million raised from warrants exercised during the
      period from October 17 to December 17, 2007, in connection with the
      Company’s call of warrants issued by Chardan during the Chardan IPO
      process and the subsequent exercise of warrants to purchase 11,442,614
      shares at $5.0 per share and the redemption of warrants to 57,386 shares
      at $0.01 per share, and the Company’s collection of cash proceeds of
      $57.21 million and paid $573.86 to the holders of 57,386 shares of
      warrants for redemption purposes;




·
            A
      net cash inflow of $32.06 million related to proceeds from reorganization
      and recapitalization, as we completed our re-domestication merger with
      Hollysys on September 20, 2007, and Hollysys acquired the net assets of
      Chardan as of the acquisition date, which amounted to $32.06 million in
      cash.




·
            A
      net cash inflow of $11.48 million raised from issuing bonds in connection
      with a RMB80 million three-year, 6.68% (payable semiannually) corporate
      bond issuance by Beijing HollySys on December 25,
      2007, with maturity on December 28, 2010.  In
      connection with the bond issuance, Beijing Zhongguancun Science and
      Technology Guaranty Co., Ltd. undertook joint and several guarantee
      liabilities in full in favor of Beijing HollySys. Concurrently, the
      China Development Bank has authorized its business department to undertake
      joint and several guarantee liability in respect of the guarantee
      liabilities of Beijing Zhongguancun Science and Technology Guaranty Co.,
      Ltd. Beijing HollySys also pledged its property located in Beijing with a
      net book value of $5.4 million, as at June 30, 2008, to Beijing
      Zhongguancun Science and Technology Guaranty Co., Ltd. as a
      collateral;




·
            A
      cash outflow of $29.987 million used to pay off the principal and related
      interest of the bridge loan, which was incurred prior to fiscal year
      2007;




·
            A
      net cash outflow of $12.92 million in repayments to short-term bank loans;
      and




·
            A
      cash proceed of $4.76 million and repayments of $3.40 million from / to
      long-term bank loans.




Research
and Development, Patents and Licenses, Etc.





Research
and Development Efforts





As a
high-technology company, our business and long-term development rely highly on
our research and development capabilities.  Our research and
development process is based on Capability Maturity Model Integration Level
2&3 and can be classified into the following seven phases:





·
            Study
      phase




·
            Requirement
      phase




·
            Designing
      phase




·
            Implementation
      phase




·
            Testing
      Phase




·
            Inspection
      Phase




·
            Maintaining
      phase




We use
standard project development life cycle models, including the waterfall model,
increment model, iterative model and prototype. As a technology leader we
continually develop and patent new automation technologies.  We also
continually review and evaluate technological changes affecting the automation
and integrated system industries and invest substantially in application-based
research and development. We currently employ over 660 staff in the research and
development department or engaged in research and development
work.


52


Our core
technologies achieved from our research and development efforts
include:





1.
            Large
      scale software platform architecture
design;




2.
            Proprietary
      network design and development
technologies;




3.
            Safety
      computer platform design and
manufacturing;




4.
            Efficient
      I/O (Input/Output) signal processing design technology;
  and




5.
            Embedded
      system design and manufacturing.




We are
committed to incorporating the latest advances in electronics and information
system technology into its products and, whenever possible, developing
state-of-the-art proprietary products based on its extensive internal expertise
and research efforts.  We currently spend approximately 3-6% of our
annual revenues on research and development. Because part of our research and
development efforts are paid for by government subsidies that aim to encourage
research and development efforts of certain enterprises, the amount of our
research and development spending shown on our financial statements (the total
amount of spending less the amount of these subsidies) is only a portion of our
total spending on research and development.  Our recent major research
and development focuses include:





·
            Process
      Control;




·
            Nuclear
      Power Automation System;




·
            Transportation
      Automation; and




·
            Manufacturing
      Automation.




Our
research and development efforts have led to the invention of several
proprietary systems in the fields of DCS and transportation automation
systems.  Our core technologies provide a platform that is designed to
enable the rapid and efficient development of our technologies for specific
applications that are quickly, efficiently and affordably tailored to particular
industries and to the needs of our customers. Our software development tools
enable us to custom program our systems rapidly, allowing us to apply digital
technologies that take advantage of the tremendous advances in electronics and
information technology to improve quality and reliability while reducing cost.
The market for our products includes, not only the large number of factories
that are continually under construction in China’s rapidly expanding industrial
base, but also extends to the replacement and upgrading of outdated legacy
systems to bring a higher degree of control and efficiency to the automation of
processes, delivering increasing benefits to customers as they meet increased
competition.





Intellectual
Property Rights





We rely
on a combination of copyright, patent, trademark and other intellectual property
laws, nondisclosure agreements and other protective measures to protect our
proprietary rights.  We also utilize unpatented proprietary know-how
and trade secrets and employ various methods to protect our trade secrets and
know-how. As of June 30, 2010, we held 103 software copyrights, 111 authorized
patents, 11 patent applications and 26 registered trademarks.  Our
earliest software copyrights will expire in 2048.  Our invention
patents have terms of 20 years (with the first issued patent expiring in 2010),
and our utility patents and design patents have terms of 10 years (with the
first issued patent expiring in 2010).





Although
we employ a variety of intellectual property in the development and
manufacturing of products, we believe that only a few of our intellectual
property rights are critical to our current operations. However, when taken as a
whole, we believe that our intellectual property rights are significant and that
the loss of all or a substantial portion of such rights could have a material
adverse effect on our results of operations.  Also, from time to time,
we may desire or be required to renew or to obtain licenses from others in order
to further develop and manufacture commercially viable products
effectively.


53


We market
our DCS products mainly under the brand name of “HOLLiAS.”  Our brand
name is well-established and is recognized an associated with high quality and
reliable products by industry participants and customers. We have obtained
trademark protection for our brand name “HOLLiAS” in the PRC. In addition, we
have also registered or applied for a series of trademarks including brand names
for us and our products. The trademarks are issued for 10-year periods (and may
be renewed prior to expiration).





Market
Trends





Other
than as disclosed in the foregoing disclosures and elsewhere in this annual
report, we are not aware of any trends, uncertainties, demands, commitments or
events for the fiscal year 2011 that are reasonably likely to have a material
adverse effect on our net revenues, income, profitability, liquidity or capital
resources, or that caused the disclosed financial information to be not
necessarily indicative of future operating results or financial
conditions.





Off-Balance
Sheet Arrangements





We do not
believe that there are any off-balance sheet arrangements that have or are
reasonably likely to have a material effect on our financial condition, changes
in financial condition, revenues or expenses, results of operations, liquidity,
capital expenditures or capital resources.





Tabular
Disclosure of Contractual Obligations





The
following table sets forth our contractual obligations, including long-term and
short-term loans and operating leases and capital and operational commitments as
of June 30, 2010.





Total
                      
                      
                      Less than 1 year
                      
                      
                      1-3 years
                      
                      
                      3-5 years
                      
                      
                      5-7 yearsShort-Term
      Bank Loans
                      
                      
                      1,488,784
                      
                      
                      
                      1,488,784
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -Long-Term
      Bank Loans
                      
                      
                      44,861,211
                      
                      
                      
                      3,648,375
                      
                      
                      
                      16,163,156
                      
                      
                      
                      16,671,796
                      
                      
                      
                      8,377,884Long-Term
      Bonds Payable and Related Interests
                      
                      
                      12,134,592
                      
                      
                      
                      12,134,592
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -Operating
      Lease Obligations
                      
                      
                      534,111
                      
                      
                      
                      351,836
                      
                      
                      
                      182,275
                      
                      
                      
                      -
                      
                      
                      
                      -Purchase
      Obligations
                      
                      
                      114,457,834
                      
                      
                      
                      114,457,834
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -Construction
      cost payable
                      
                      
                      12,562,565
                      
                      
                      
                      12,562,565
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -Total
                      
                      
                      186,039,097
                      
                      
                      
                      144,643,986
                      
                      
                      
                      16,345,431
                      
                      
                      
                      16,671,796
                      
                      
                      
                      8,377,884





Other
than the contractual obligations and commercial commitments set forth above, we
did not have any other long-term debt obligations, operating lease obligations,
capital commitments, purchase obligations or other long-term liabilities as of
June 30, 2010.





Operating
Lease Commitment





The
Company leases premises under various operating leases.  Rental
expenses under operating leases included in the consolidated statement of income
were $545,796, $1,105,473, and $1,002,666 for the years ended June 30, 2008,
2009 and 2010, respectively.





At June 30, 2010, the Company was
obligated under operating leases requiring minimum rentals as
follows:





Years Ending June 30,2011
                  
                  $
                  351,8362012
                  
                  
                  119,0502013
                  
                  
                  63,225Total
      minimum lease payments
                  
                  $
                  534,111


54


Purchase
Commitment





As of
June 30, 2010, the Company had approximately $114.5 million in purchase
obligations for the coming fiscal year, for purchases of equipment, mainly for
fulfillment of in-process or newly entered contracts resulting from the
expansion of our operations.  Other than the contractual obligation
and commercial commitments set forth above, we do not have any other long-term
debt obligations, operating lease obligations, purchase obligations or other
long-term liabilities.





Safe
Harbor





All
information included in Item 5.E of this Item is deemed to be a “forward looking
statement” as that term is defined in the statutory safe harbors, except for
historical facts.  The safe harbor provided in Section 27A of the
Securities Act and Section 21E of the Exchange Act shall apply to all
forward-looking information provided in Item 5.E and F of this
Item.





ITEM
6.                      DIRECTORS,
SENIOR MANAGEMENT AND EMPLOYEES




A.
Directors and Senior Management





The
following table sets forth certain information regarding our directors and
senior management as of the date of this annual report.





Name
              
              Age
              
              PositionChangli
      Wang
              
              46
              
              Chief
      Executive Officer and ChairmanPeter
      Li
              
              45
              
              Chief
      Financial OfficerColin
      Sung
              
              43
              
              DirectorJerry
      Zhang
              
              38
              
              DirectorJianyun
      Chai
              
              48
              
              DirectorQingtai
      Chen
              
              72
              
              Director





Dr. Changli Wang has been our director and
Chief Executive Officer since September 2007 and has been our Chairman since May
2010.  Since 1999, Dr. Wang has also been the Chief Executive Officer
and Vice Chairman of our subsidiary, Beijing Hollysys.  Prior to
founding Beijing Hollysys in 1993, Dr. Wang worked for the No. 6 Institute of
Electronic Industry Department, the predecessor of Beijing
Hollysys.  Dr. Wang also has been the Vice Chairman of the Chinese
Automation Association since 2003.  Dr. Wang received his Bachelor’s degree
in Automation from Tianjin University in 1984 and his PhD in Automation from
Lancaster University in 1988.





Mr. Peter Li has been our
Chief Financial Officer since February 1, 2009.   Mr. Li has
served since November 2008, as an independent director and audit committee
chairman for China Valves Technology, Inc. (NASDAQ: CVVT), a NASDAQ listed
company of manufacturing metal valves in China; and has served since June 2008,
as an independent director and audit committee chairman for Yuhe International
Inc., a NASDAQ listed company (NASDAQ: YUII) in the day-old broiler breeding
business in China.  Prior to joining us, Mr. Li served Yucheng
Technologies Ltd. ("Yucheng") (NASDAQ: YTEC), a leading IT service provider to
banking industry in China as a Senior Advisor, from February 2008 to February
28, 2009, and as CFO from October 2004 through February 2008.  Prior
to his tenure at Yucheng, Mr. Li worked in corporate financial management with
various companies, including as Internal Controller at Lenovo, one of the
world’s largest makers of personal computers.  Mr. Li graduated from
Beijing Foreign Studies University with a B.A. and received a Master of
Education from the University of Toronto.  Mr. Li is a Certified
General Accountant in Ontario, Canada, and is fluent in English and
Mandarin.





Mr. Colin Sung has been our
director and the Chair of our Audit Committee since February 2008.  Mr.
Sung is currently the Deputy Chief Executive Officer and Chief Financial Officer
of Linktone Ltd., the leading provider of wireless media, entertainment and
communications services in China, since June 2009. Mr. Sung served as the
President and CFO of China Cablecom, a U.S. public company that provides
provider cable television services in China, between April 2008 and May 2009.
 He previously served as Chief Financial Officer of Linktone Ltd. from June
2005 to January 2008.  He also served as the acting Chief Executive Officer
of Linktone from February 2006 to April 2006.  From June 2004 until April
2005, Mr. Sung served as Corporate Controller of UTi United States, Inc., a
subsidiary of UTi Worldwide Inc., a global integrated logistics company.
 From August 2001 until May 2004, he was the Vice President of Finance and
Corporate Controller of USF Worldwide, Inc., a subsidiary of USF Corporation, a
transportation industry leader, which was acquired by GPS Logistics in October
2002.  Prior to that, he was Vice President and Corporate Controller of the
US operations of Panalpina Inc.  Mr. Sung is a Certified Public Accountant
and has a Bachelor of Science degree from William Paterson University and a
Master of Business Administration degree from American Intercontinental
University.


55


Ms. Jerry Zhanghas been our
director since September 2007.  Ms. Zhang is currently the China Business
Director of FIL Investment Management (Hong Kong) Limited under Fidelity
International since September 2008.  She previously served as the Head of
Investors & Intermediaries, Financial Institutions for the Standard
Chartered Bank in China.  In that role, she is responsible for relationship
management of broker dealers, insurance companies, fund managers, development
organizations, finance/trust companies and professional firms throughout China.
 Prior to that, Ms. Zhang was a senior relationship manager at Standard
Chartered Bank, specializing in financial institution clients and regulators in
China.  She also worked to develop Standard Chartered Bank’s custody
products in China from 2000 up to 2008.  Over the years, Ms. Zhang has
established an extensive network with both regulators and market players.
 Ms. Zhang received her Bachelor’s degree in electronic and mechanical
engineering and obtained an MBA from Lancaster University in the United Kingdom
in 2000.





Dr. Jianyun Chaihas been our director
since June 2, 2008.  Dr. Chai is currently a professor and the head of the
Institute of Power Electronic and Electrical Machine System at Tsinghua
University in China. Before he joined Tsinghua University as an Associate
Professor in 1999, Dr. Chai spent eight years working in the motor and
information industries in Japan. Dr. Chai is also a member of various societies
and organizations, including the China Renewable Energy Society, the Chinese
Society for Electrical Engineering, and the Chinese Wind Energy Association. Dr.
Chai received a Bachelors degree and a PhD in Electrical Engineering from
Tsinghua University in 1984 and 1989, respectively.





Mr. Qingtai Chenhas been our director
since June 2, 2008.  Mr. Chen has worked for the Dong Feng Motor Group for
over 22 years and served as its General Manager prior to joining the Company.
While employed by the Dong Feng Motor Group, Mr. Chen also served in various
positions, including as a member of the First Session of the Monetary Policy
Committee of the People’s Bank of China, as a deputy director of the State
Council Economic and Trade Office, as a deputy director of the State Economic
and Trade Commission, and as a deputy director of the Development Research
Center of the State Council. Mr. Chen also served from 2000 to 2006 as an
independent director of Sinopec Corp. Mr. Chen received his Bachelors of Science
degree in power and dynamics engineering from Tsinghua University and has been
recognized as a National Excellent Entrepreneur and National Economic Reform
Talent in China. Mr. Chen currently serves as a standing member of National
Committee of the Chinese People’s Political Consultative Conference and as the
Dean of the School of Public Policy and Management at Tsinghua University.
 He also serves as an independent director for the Bank of Communications,
which is listed on both Shanghai Stock Exchange and Hong Kong Stock Exchange,
and as an independent director of Mindray Medical International Limited, which
is listed on New York Stock Exchange.





B.
Compensation





Executive
Compensation





The
aggregate cash compensation paid to our executive officers as a group was
$480,000 for the fiscal year ended June 30, 2010.  We did not grant
any stock options or stock appreciation rights, any awards under long-term
incentive plans, or any other non-cash compensation to any of our executive
officers during this period.





Director
Compensation





We pay
each of our independent directors who are not employees a monthly fee as
compensation for the services to be provided by them as independent
directors.  We pay $4,000 a month to Colin Sung, $3,000 to Jerry Zhang
and $2,000 to each of other independent directors.  We also reimburse
our independent directors for out-of-pocket expenses incurred in attending
meetings.  As additional consideration, we grant to each of the
independent directors an option to purchase a certain amount of shares of the
Company’s ordinary shares, which vest in equal installments on a quarterly basis
over a three-year period beginning on the grant date.  Specifically,
we granted a stock option to Colin Sun for the purchase of 45,000 shares of our
ordinary shares, Jerry Zhang for the purchase of 36,000 shares of our ordinary
shares and each of Dr. Jianyun Chai and Mr. Qingtai Chen for the purchase of
30,000 shares of our ordinary shares.


56


For the
fiscal year ended June 30, 2010, the aggregate cash compensation paid to our
directors as a group was approximately $198,000.





2006
Stock Plan





On
September 7, 2007, our stockholders approved the 2006 Stock Plan, or the
Plan.  The Plan was assumed by us as of the closing of the merger of
Chardan with and into us.  The Plan reserves 3,000,000 ordinary shares
for issuance in accordance with the Plan’s terms.  A description of
the Equity Plan is set forth in the Proxy Statement/Prospectus of our
Registration Statement on Form S-4 (No. 333-132826), under the heading “Chardan
2006 Equity Plan”, and is incorporated herein by reference.  The table
below sets forth the options granted to our current and former directors and
executive officers pursuant to the Plan:





Name
                      
                      Number of Ordinary Shares
                        Issuable upon Exercise of
                        Options
                      
                      
                      Exercise Price
                        per Ordinary Share
                      
                      
                      Date of Grant
                      
                      Date of
                        ExpirationLeonard
      Hafetz
                      
                      
                      30,000
                      
                      
                      $
                      7.9
                      
                      
                      1/1/2008
                      
                      1/1/2018Jerry
      Zhang
                      
                      
                      36,000
                      
                      
                      $
                      7.9
                      
                      
                      1/1/2008
                      
                      1/1/2018Yau
      Kiam Fee
                      
                      
                      30,000
                      
                      
                      $
                      7.9
                      
                      
                      1/1/2008
                      
                      1/1/2018Kerry
      Propper
                      
                      
                      30,000
                      
                      
                      $
                      7.9
                      
                      
                      1/1/2008
                      
                      1/1/2018Colin
      Sung
                      
                      
                      45,000
                      
                      
                      $
                      7.9
                      
                      
                      1/1/2008
                      
                      1/1/2018Jianyun
      Chai
                      
                      
                      30,000
                      
                      
                      $
                      5.85
                      
                      
                      6/2/2008
                      
                      6/2/2018Qingtai
      Chen
                      
                      
                      30,000
                      
                      
                      $
                      5.85
                      
                      
                      6/2/2008
                      
                      6/2/2018Peter
      Li
                      
                      
                      450,000
                      
                      
                      $
                      2.24
                      
                      
                      1/20/2009
                      
                      1/20/2019





The
options vest quarterly over a period of 3 years from their respective grant
date.





Employment
Agreements





We have
entered into a three-year employment agreement with our Chief Executive Officer,
Dr. Changli Wang on June 6, 2010.  Dr. Wang is entitled to insurance
benefits, five weeks vacation, a car and reimbursement of business expenses and,
if necessary, relocation expenses.  The agreement is terminable by us
for death, disability and cause.  Dr. Wang may terminate the
employment agreement for good reason, which includes our breach, the executive’s
not being a member of the board of directors, and change of
control.  The agreements contain provisions for the protection of
confidential information and a three-year-after employment non-competition
period within China.





On
January 20, 2009, we also entered into a three-year employment agreement with
Mr. Peter Li, pursuant to which Mr. Li agreed to serve as our Chief Financial
Officer, effective as of February 1, 2009.  In addition to management
of our corporate finances, Mr. Li’s duties include oversight of our corporate
strategy, investor relationship management and acquisitions.  His
compensation includes salaries, options, benefits, and bonuses.





C.
Board Practices





Terms
of Directors and Executive Officers





Our board
consists of five directors.  Our directors are not subject to a term
of office limitation, and hold office until the next annual meeting of members
or until such director’s earlier resignation, removal from office, death or
incapacity.  Any vacancy on our board resulting from death,
resignation, removal or other cause, and any newly created directorship
resulting from any increase in the authorized number of directors between
meetings of members, may be filled either by the affirmative vote of a majority
of all the directors then in office (even if less than a quorum) or by a
resolution of members.


57


Our
executive officers are appointed by our board.  The executive officers
shall hold office until their successors are duly elected and qualified, but any
officer elected or appointed by the directors may be removed at any time, with
or without cause, by resolution of directors.  Any vacancy occurring in any
office may be filled by resolution of directors.





Independence
of Directors





We have
elected to follow the rules of NASDAQ to determine whether a director is
independent.  Our board will also consult with counsel to ensure that
our board’s determinations are consistent with those rules and all relevant
securities and other laws and regulations regarding the independence of
directors.  Rule 5605(a)(2) of Listing Rules of The Nasdaq Stock
Market, Inc., or the Nasdaq Listing Rules, defines an “independent director”
generally as a person, other than an officer of the Company, who does not have a
relationship with the Company that would interfere with the director’s exercise
of independent judgment.  Consistent with these considerations, our
board has affirmatively determined that, Messrs. Colin Sung, Jerry Zhang,
Jianyun Chai and Qingtai Chen are our independent directors.





Board
Committees




Our board
has established an audit committee, a compensation committee and a corporate
governance and nominating committee.  Each committee is comprised
solely of independent directors within the meaning of Rule 5605(a)(2) of the
Nasdaq Listing Rules, and meet the criteria for independence set forth in Rule
10A-3(b)(1) of the Exchange Act.





Audit
Committee





Our audit
committee consists of Messrs. Colin Sung, Qingtai Chen and Jerry Zhang with Mr.
Sung serving as the Chair.  Our board has determined that all of our
audit committee members are independent directors within the meaning of
applicable NASDAQ listing rules, and meet the criteria for independence set
forth in Rule 10A-3(b)(1) of the Exchange Act.





Our board
has determined that each of Messrs. Sung, Chen and Zhang has an understanding of
generally accepted accounting principles and financial statements, the ability
to assess the general application of such principles in connection with our
financial statements, including estimates, accruals and reserves, experience in
analyzing or evaluating financial statements of similar breadth and complexity
as our financial statements, an understanding of internal controls and
procedures for financial reporting, and an understanding of audit committee
functions.





Our board
believes that Mr. Sung qualifies as an “audit committee financial expert” within
the meaning of all applicable rules.  Our board believes that Mr. Sung has
financial expertise from his degrees in business, his activities as a chief
executive officer and chief financial officer of various companies, and his
consulting activities in the areas of accounting, corporate finance, capital
formation and corporate financial analysis.





We
adopted an audit committee charter under which the committee is responsible for
reviewing the scope, planning and staffing of the audit and preparation of the
financial statements.  This includes consultation with management, the
auditors and other consultants and professionals involved in the preparation of
the financial statements and reports.  The committee is responsible for
performing oversight of relationship with our independent auditors.  The
committee also has a general compliance oversight role in assuring that our
directors, officers and management comply with our code of ethics, reviewing and
approving of related party transactions, dealing with complaints regarding
accounting, internal controls and auditing matters, and complying with
accounting and legal requirements applicable to us.




Pursuant
to the terms of its charter, the audit committee’s responsibilities include,
among other things:




·
            selecting
      our independent auditors and pre-approving all auditing and non-auditing
      services permitted to be performed by our independent
      auditors;




·
            reviewing
      with our independent auditors any audit problems or difficulties and
      management’s response;


58




·
            reviewing
      and approving all proposed related-party
  transactions;




·
            discussing
      the annual audited financial statements with management and our
      independent auditors;




·
            reviewing
      major issues as to the adequacy of our internal controls and any special
      audit steps adopted in light of significant internal control
      deficiencies;




·
            annually
      reviewing and reassessing the adequacy of our audit committee
      charter;




·
            such
      other matters that are specifically delegated to our audit committee by
      our board of directors from time to
time;




·
            meeting
      separately and periodically with management and our internal and
      independent auditors; and




·
            reporting
      regularly to the full board of
directors.




Compensation
Committee





Our
compensation committee consists of Messrs. Jerry Zhang, Jianyun Chai and Colin
Sung, with Jerry Zhang serving as its Chair.  Our board has determined
that all of our compensation committee members are independent directors within
the meaning of applicable NASDAQ listing rules, and meet the criteria for
independence set forth in Rule 10A-3(b)(1) of the Exchange Act.





Our
compensation committee assists the board in reviewing and approving the
compensation structure of our executive officers, including all forms of
compensation to be provided to our executive officers.  Our chief executive
officer may not be present at any committee meeting during which his
compensation is deliberated.  The Compensation Committee is responsible
for, among other things:





·
            approving
      and overseeing the compensation package for our executive
      officers;





·
            reviewing
      and approving corporate goals and objectives relevant to the compensation
      of our chief executive officer, evaluating the performance of our chief
      executive officer in light of those goals and objectives, and setting the
      compensation level of our chief executive officer based on this
      evaluation;





·
            reviewing
      periodically and making recommendations to the Board regarding any
      long-term incentive compensation or equity plans, programs or similar
      arrangements, annual bonuses, employee pension and welfare benefit plans;
      and





·
            reviewing
      and making recommendations to the Board regarding succession plans for the
      chief executive officer and other senior
  officers.





Corporate Governance and
Nominating Committee





Our
corporate governance and nominating committee consists of Messrs. Jerry Zhang,
Jianyun Chai and Colin Sun, each of whom is “independent” as that term is
defined under the Nasdaq listing standards.  The corporate governance
and nominating committee assists the board of directors in identifying
individuals qualified to become our directors and in determining the composition
of the board and its committees.  The corporate governance and
nominating committee is responsible for, among other things:





·
            identifying
      and recommending to the Board nominees for election or re-election to the
      board, or for appointment to fill any
vacancy;





·
            reviewing
      annually with the board the current composition of the board in light of
      the characteristics of independence, age, skills, experience and
      availability of service to us;





·
            identifying
      and recommending to the board the directors to serve as members of the
      board’s committees; and


59


·
            monitoring
      compliance with our Corporate Governance
  Guidelines.





D.
Employees





We had
2,185, 1,736 and 1,689 employees as of June 30, 2010, 2009 and 2008,
respectively.  Substantially all of our employees are located in
China.  The following table sets forth our employees as of June 30,
2010 based on their functional area within the Company:





Category
                  
                  Number of EmployeesSales
      & Marketing
                  
                  
                  352Research
      and development
                  
                  
                  660Engineering
                  
                  
                  547Production
                  
                  
                  338Management
                  
                  
                  288Total
                  
                  
                  2,185





We
believe that our relationship with our employees is good.  The
remuneration payable to employees includes basic salaries and
bonuses.  We have not experienced any significant problems or
disruption to our operations due to labor disputes, nor have we experienced any
difficulties in recruitment and retention of experienced staff. As required by
applicable Chinese laws, we have entered into employment contracts with all of
our officers, managers and employees.





Our
employees in China participate in a state pension scheme organized by Chinese
municipal and provincial governments.  We also contribute to social
insurance for our employees each month, which includes pension, medical
insurance, unemployment insurance, occupational injuries insurance and housing
providence fund in accordance with PRC regulations.





E.
Share Ownership





The
following table sets forth information, as of December 20, 2010, with respect to
the beneficial ownership of our ordinary shares by (i) each person who is known
by us to beneficially own more than 5% of our ordinary shares; (ii) by each of
our officers and directors; and (iii) by all of our officers and directors as a
group.  The address of each of the persons set forth below is in care
of Hollysys Automation Technologies Ltd., No. 2 Disheng Middle Road, Beijing
Economic-Technological Development Area, Beijing, P. R. China
100176.





Name & Address of
                            Beneficial Owner
                          
                          Office, if Any
                          
                          Title of Class
                          
                          Amount & Nature of
                            Beneficial
                            Ownership (1)
                          
                          
                          Percent of Class
      (2)Officers
      and DirectorsChangli
      Wang
                          
                          CEO
      and Chairman
                          
                          Ordinary
      Shares
                          
                          
                          8,935,840
                          (3)
                          
                          
                          16.44
                          %Peter
      Li
                          
                          Chief
      Financial Officer
                          
                          Ordinary
      Shares
                          
                          
                          300,000
                          (4)
                          
                          
                          *Colin
      Sung
                          
                          Director
                          
                          Ordinary
      Shares
                          
                          
                          45,000
                          (5)
                          
                          
                          *Jerry
      Zhang
                          
                          Director
                          
                          Ordinary
      Shares
                          
                          
                          36,000
                          (6)
                          
                          
                          *Qingtai
      Chen
                          
                          Director
                          
                          Ordinary
      Shares
                          
                          
                          25,000
                          (7)
                          
                          
                          *Jianyun
      Chai
                          
                          Director
                          
                          Ordinary
      Shares
                          
                          
                          25,000
                          (8)
                          
                          
                          *An
      Luo
                          
                          Vice
      President
                          
                          Ordinary
      Shares
                          
                          
                          6,057,303
                          (9)
                          
                          
                          11.14
                          %All
      officers and directors as a group (6 persons named above)
                          
                          
                          
                          Ordinary
      Shares
                          
                          
                          15,424,143
                          
                          
                          
                          28.38
                          %(12)5%
      Securities HolderChangli
      Wang
                          
                          CEO
      and Chairman
                          
                          Ordinary
      Shares
                          
                          
                          8,935,840
                          (3)
                          
                          
                          16.44
                          %Plus
      View Investments Limited
                          
                          
                          
                          Ordinary
      Shares
                          
                          
                          6,057,303
                          (9)
                          
                          
                          11.14
                          %Li
      Qiao
                          
                          
                          
                          Ordinary
      Shares
                          
                          
                          3,807,516
                          (10)
                          
                          
                          7.00
                          %Unionway
      Resources Limited
                          
                          
                          
                          Ordinary
      Shares
                          
                          
                          4,113,948
                          (11)
                          
                          
                          7.57
                          %Wenfu
      Wang
                          
                          
                          
                          Ordinary
      Shares
                          
                          
                          4,113,948
                          (11)
                          
                          
                          7.57
                          %All
      persons named above as a group
                          
                          
                          
                          Ordinary
      Shares
                          
                          
                          27,200,483
                          
                          
                          
                          50,04
                          %


60


* Less
than 1%.





(1)
            Beneficial
      Ownership is determined in accordance with the rules of the Securities and
      Exchange Commission and generally includes voting or investment power with
      respect to securities.  Except as otherwise indicated, each of
      the beneficial owners listed above has direct ownership of and sole voting
      power and investment power with respect to our ordinary
      shares.





(2)
            A
      total of 54,356,562 shares of our ordinary shares as of December 20, 2010
      are outstanding pursuant to SEC Rule 13d-3(d)(1).  For each
      beneficial owner above, any options or warrants exercisable within 60 days
      have been included in the
denominator.





(3)
            The
      securities reported as held by Dr. Wang represent 4,144,223 shares of our
      ordinary shares held indirectly through Ace Lead Profits Limited, 681,471
      shares held indirectly through Billion Bright International Limited,
      1,362,942 shares held indirectly through Excellent Link Enterprises
      Limited, 681,471 held indirectly through Golden Result Enterprises
      Limited, 1,000,000 held indirectly through Long Result Limited and
      1,063,733 held indirectly through Sure Grow Profits Limited.  The
      foregoing entities are all BVI entities that are wholly-owned and
      controlled by Dr. Wang therefore he may be deemed to be the beneficial
      owner of the ordinary shares held by
them.





(4)
            The
      securities reported as held by Mr. Li include options to purchase 300,000
      ordinary shares that are vested or are to be vested within 60 days from
      the date hereof.





(5)
            The
      securities reported as held by Mr. Sung include options to purchase 45,000
      ordinary shares that are vested or are to be vested within 60 days from
      the date hereof.





(6)
            The
      securities reported as held by Mr. Zhang include options to purchase
      36,000 ordinary shares that are vested or are to be vested within 60 days
      from the date hereof.





(7)
            The
      securities reported as held by Mr. Chen include options to purchase 25,000
      ordinary shares that are vested or are to be vested within 60 days from
      the date hereof.





(8)
            The
      securities reported as held by Mr. Chai include options to purchase 25,000
      ordinary shares that are vested or are to be vested within 60 days from
      the date hereof.





(9)
            The
      securities reported as held by An Luo represent 6,057,303 ordinary shares
      held by Plus View Investments Limited, a BVI company owned and controlled
      by An Luo; therefore An Luo may be deemed to be the beneficial owner of
      the ordinary shares beneficially owned by Plus View Investments
      Limited.





(10)
            The
      securities reported as held by Ms. Qiao represent 935,844 ordinary shares
      held by Faith Best Profits Limited, 717,918 shares held by OSCAF
      International Company Limited, 717,918 shares held by Glory Pearl
      International Limited, 717,918 shares held by Jumbo Growth International
      Limited, and 717,918 shares held by Pearl Success Investments Limited.
       The foregoing entities are all BVI entities that are wholly-owned
      and controlled by Ms. Qiao. Therefore Ms. Qiao may be deemed to be the
      beneficial owner of the ordinary shares held by
  them.


61


(11)
            Unionway
      Resources Limited is controlled by Mr. Wenfu Wang and therefore, Mr. Wang
      may be deemed to be the beneficial owner of the ordinary shares held by
      Unionway Resources Limited.





None of
our major shareholders have different voting rights from other
shareholders.  We are not aware of any arrangement that may, at a
subsequent date, result in a change of control of our company.





ITEM
      7.
            MAJOR
      SHAREHOLDERS AND RELATED PARTY
TRANSACTIONS




A.
Major Shareholders





Please
refer to Item 6.E “Directors, Senior Management and Employees — Share
Ownership.”





B.
Related Party Transactions





·
            Acquisition of Singapore
      Hollysys:On November 19, 2007, we entered into a sales and
      purchase agreement with Fulbond Systems, a Singapore based company
      partially owned by Mr. Yau Kiam Fee, a member of our Board of Directors,
      pursuant to which we agreed to acquire 100% interest of Fulbond Systems
      for a purchase price of SGD$1,066,234 (equivalent to $744,596).
       Pursuant to the sales and purchase agreement, the closing day of
      this acquisition was November 30, 2007 and after the ownership transfer,
      Fulbond System was renamed to Singapore Hollysys.  The purchase
      price of $744,596 was paid in cash on December 11, 2007.  Singapore
      Hollysys became our wholly owned subsidiary and its operating results were
      included in our  consolidated financial statements, effective from
      December 1, 2007.  We acquired Singapore Hollysys to establish an
      Asia Pacific headquarters from which to market our automation products
      within the region and other overseas
countries.





·
            Dismissal Agreement:On
      March 19, 2008, APH and Dr. Changli Wang, individually and on behalf of
      the parties which had previously been shareholders of Gifted Time, entered
      into a dismissal agreement, or Dismissal Agreement. The Dismissal
      Agreement resulted in: (i) the dismissal and termination of the agreement
      by which APH acquired the Gifted Time shares from the shareholders, (ii)
      the assignment to the former shareholders of Gifted Time of the shares of
      Hollysys stock held by APH and the rights to the earnout shares issuable
      under the stock purchase agreement, in the event specified after-tax
      operating profit goals are met, and (iii) the termination and cancellation
      of the $200 million note issued by APH in connection with its acquisition
      of the Gifted Time shares.  As a result, our 22,200,000 ordinary
      shares held by APH have been transferred to Shengheng Xu (4,898,652),
      Qinglin Mei (1,224,552), An Luo (2,016,648), Dr. Changli Wang (6,441,108),
      Li Qiao (3,536,904) and Xuesong Song
  (4,082,136).





·
            On
      June 5, 2009, the Company and the original shareholders of Gifted Time
      agreed to amend the amended and restated securities purchase agreement,
      dated February 9, 2007, between the Company and the original shareholders
      of Gifted Time, to terminate the Company’s obligation to issue up to 7
      million remaining shares in aggregate to the original shareholders, if the
      Company achieves certain pre-determined performance thresholds for fiscal
      years 2009, 2010, and 2011.  The original selling shareholders
      previously earned 4 million shares under this plan when the Company
      achieved the performance thresholds set for 2007 and 2008.  As a
      condition to and as consideration for such termination of the Company’s
      obligation, the Company agreed to enter into a side letter agreement,
      dated as of June 5, 2009, with the original shareholders, pursuant to
      which the Company agreed to immediately issue 4 million shares to the
      original shareholders.





Except as
set forth in our discussion above, none of our directors, director nominees or
executive officers has been involved in any transactions with us or any of our
directors, executive officers, affiliates or associates which are required to be
disclosed herein.





C.
Interests of Experts and Counsel





Not
applicable.


62


ITEM
      8.
            FINANCIAL
      INFORMATION




A.
Consolidated Statements and Other Financial Information





We have
appended consolidated financial statements filed as part of this Annual Report.
See Item 18 “Financial Statements.”





Legal
Proceedings





We are
currently not a party to any material legal or administrative proceedings, and
we are not aware of threatened material legal or administrative proceedings
against us.  We may from time to time become a party to various legal
or administrative proceedings arising in the ordinary course of our
business.





Dividend
Policy





We
anticipate that we will retain all of our future earnings, if any, for use in
the expansion and operation of our business and do not anticipate paying cash
dividends in the foreseeable future.  Any future determination
relating to our dividend policy will be made at the discretion of our board of
directors, based on our financial condition, results of operations, earnings,
contractual restrictions, capital requirements, business prospects and other
factors our board of directors may deem relevant.





B.
Significant Changes





We have
not experienced any significant changes since the date of our audited
consolidated financial statements included in this annual report.





ITEM
      9.
            THE
      OFFER AND LISTING




A.
Offer and Listing Details





The
common stock, warrants and units of Chardan, our predecessor, were quoted on the
Over-the-Counter Bulletin Board maintained by the National Association of
Securities Dealers, under the symbols of CNCA, CNCAW and CNCAU,
respectively.  Chardan units commenced public trading on August 3,
2005 and common stock and warrants commenced public trading on August 31,
2005.  On September 20, 2007, we merged with and into Chardan
simultaneously with our acquisition of Gifted Time.  From September
20, 2007 to July 31, 2008, our ordinary shares were quoted on the OTCBB under
the symbol “HLSYF.OB.”  On August 1, 2008, our ordinary shares were
approved to be listed on the Nasdaq Global Select Market, under the symbol
“HOLI”.


63


The
following table provides the high and low trading prices for our ordinary shares
and the historical prices for our common stock/ordinary shares, warrants and
units prior to the merger, for the periods indicated below.




The OTCBB
                      Price per
                      Common
                      Stock/Ordinary
                      Shares
                    
                    
                    The OTCBB
                      Price per
                      Warrant
                    
                    
                    The OTCBB
                      Price per Unit
                    
                    
                    Nasdaq (2)
                      Price per ShareHigh
                    
                    
                    Low
                    
                    
                    High
                    
                    
                    Low
                    
                    
                    High
                    
                    
                    Low
                    
                    
                    High
                    
                    
                    LowAnnual Market
      Prices(3)Year
      2006
                    
                    $
                    12.90
                    
                    
                    $
                    5.74
                    
                    
                    $
                    7.45
                    
                    
                    $
                    1.65
                    
                    
                    $
                    27.50
                    
                    
                    $
                    9.10
                    
                    
                    
                    N/A
                    
                    
                    
                    N/AYear
      2007 (until September 20, 2007)
                    
                    $
                    8.70
                    
                    
                    $
                    7.20
                    
                    
                    $
                    3.65
                    
                    
                    $
                    2.46
                    
                    
                    $
                    15.85
                    
                    
                    $
                    12.29
                    
                    
                    
                    N/A
                    
                    
                    
                    N/AYear 2008 (from
      September 21, 2007 through June 30, 2008)(1)
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/AYear
      2009
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    7.30
                    
                    
                    $
                    2.03Year
      2010
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    13.09
                    
                    
                    $
                    5.52Quarterly
      Market PricesFirst
      Quarter 2009 ended September 30, 2008
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    7.30
                    
                    
                    $
                    3.50Second
      Quarter 2009 ended December 31, 2008
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    4.24
                    
                    
                    $
                    2.03Third
      Quarter 2009 ended March 31, 2009
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    3.30
                    
                    
                    $
                    2.17Fourth
      Quarter 2009 ended June 30, 2009
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    6.78
                    
                    
                    $
                    3.08First
      Quarter 2010 ended September 30, 2009
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    9.97
                    
                    
                    $
                    5.52Second
      Quarter 2010 ended December 31, 2009
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    13.09
                    
                    
                    $
                    8.62Third
      Quarter 2010 ended March 31, 2010
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    12.54
                    
                    
                    $
                    9.69Fourth
      Quarter 2010 ended June 30, 2010
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    12.62
                    
                    
                    $
                    8.43First
      Quarter 2011 ended September 30, 2010
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    11.19
                    
                    
                    $
                    8.33Monthly
      Market PricesJune
      2010
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    9.92
                    
                    
                    $
                    8.76July
      2010
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    9.80
                    
                    
                    $
                    8.33August
      2010
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    10.26
                    
                    
                    $
                    9.35September
      2010
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    
                    N/A
                    
                    
                    $
                    11.19
                    
                    
                    $
                    9.80October
      2010
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    $
                    12.64
                    
                    
                    $
                    11.19November
      2010
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    $
                    14.40
                    
                    
                    $
                    12.87December
      2010 (through December 20, 2010)
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    
                    $
                    15.51
                    
                    
                    $
                    13.71





(1) On
September 20, 2007, we changed our fiscal year end from December 31 to June 30,
in connection with the acquisition of Gifted Time and our redomestication to the
BVI.




(2) Since
August 1, 2008, our ordinary shares have been traded on the NASDAQ Global Select
Market.  The above table sets forth the range of high and low closing
prices per share of our ordinary shares as reported by www.quotemedia.com
for the periods indicated.




(3) All
periods end June 30 of the stated year.




There
were originally 11,500,000 warrants issued in connection with our August 2005
initial public offering.  Each warrant entitled the holder to purchase
one of our ordinary share at an exercise price of $5.00.  Prior to
redemption, a total of 11,442,614 warrants were exercised, equal to
approximately 99.5% of all warrants originally issued.  The remaining
57,386 warrants were cancelled at redemption on December 17, 2007 and the
holders of those warrants were paid the sum of $0.01 per warrant.





In
addition, we issued a unit purchase option to the representative of the
underwriters of our August 2005 initial public offering, or the
UPO.  The UPO is exercisable for 250,000 units, comprised of 250,000
of our ordinary shares and 500,000 warrants, each warrant to purchase one
ordinary share.  The part of underlying warrants expired in 2009
pursuant to the terms of the UPO.  In April 2010, the holders of the
UPO exercised the UPO and we issued an aggregate of 92,567 ordinary shares to
them.





C.
Markets





See our
disclosures under “Item 9. A. Offer and Listing.”


64


ITEM
      10.
            ADDITIONAL
      INFORMATION




A.
Share Capital





Not
applicable





B.
Memorandum and Articles of Association





The
following represents a summary of certain key provisions of the Company’s
amended and restated memorandum and articles of association.  The
summary does not purport to be a summary of all of the provisions of our
memorandum and articles of association and of all relevant provisions of BVI law
governing the management and regulation of BVI companies.





Register





The
Company was incorporated in the BVI on February 6, 2006 under the BVI Business
Companies Act, 2004, or the 2004 Act.  The Company filed a Certificate
of Change of Name to change its name from HLS Systems International, Inc. to
Hollysys Automation Technologies Ltd. on July 17, 2009.  The Company’s
memorandum of association authorizes the issuance of up to 100,000,000 ordinary
shares of $0.001 par value, and (ii) 1,000,000 preferred shares of $0.001 par
value.





Objects
and Purposes





The
Company’s a memorandum of association grants the Company full power and capacity
to carry on or undertake any business or activity and do any act or enter into
any transaction not prohibited by the 2004 Act or any other BVI
legislation.





Directors





A
director must, immediately after becoming aware of the fact that he is
interested in a transaction entered into or to be entered into by us, disclose
such interest to the board of directors, unless (i) the transaction or proposed
transaction is between the director and (ii) the transaction or proposed
transaction is or is to be entered into in the ordinary course of our business
and on usual terms and conditions.  The director who is interested in
a transaction entered into or to be entered into by the Company may (i) vote on
a matter relating to the transaction; (ii) attend a meeting of directors at
which a matter relating to the transaction arises and be included in the quorum;
and (iii) sign a document on behalf of the company, or do any other thing in his
capacity as a director, that relates to the transaction.





The
directors may fix their compensation for services rendered to us.





By a
resolution of directors, the directors may exercise all our powers to borrow
money, mortgage or charge our undertakings and property, issue debentures,
denture stock and other securities whenever money is borrowed or as security for
any debt, liability or obligation occurred by us or of any third
party.





Each
director holds office until his successor takes office or until his earlier
death, resignation or removal by the members or a resolution passed by the
majority of the remaining directors.





A
director shall not require a share qualification.





To the
fullest extent permitted by the 2004 Act, none of our directors shall be
personally liable to the Company or its shareholders for or with respect to any
acts or omissions in the performance of his or her duties as a director of the
Company.


65


Rights
and Obligations of Shareholders





Dividends





Subject
to the 2004 Act, the directors may, by resolution of directors, declare
dividends and distributions by the Company to members and authorize payment on
the dividends or distributions so long as that immediately after the
distribution, the value of the Company’s assets exceeds its liabilities and the
Company is able to pay its debts as they fall due.  Any distribution
payable in respect of a share which has remained unclaimed for three years from
the date when it became due for payment shall, if the board of the directors so
resolves, be forfeited and cease to remain owing by the Company.  The
directors may, before authorizing any distribution, set aside out of the profits
of the Company such sum as they think proper as a reserve fund, and may invest
the sum so set apart as a reserve fund upon such securities as they may
select.





The
holder of each ordinary share has the right to an equal share in any
distribution paid by the Company.





Voting
Rights





Each
ordinary share confers on the shareholder the right to one vote at a meeting of
the members or on any resolution of members on all matters before the
shareholders of the Company.





Rights in the event of
winding up





The
holder of each ordinary share is entitled to an equal share in the distribution
of the surplus assets of the Company on a winding up.





Redemption





The
Company may purchase, redeem or otherwise acquire and hold its own shares with
the consent of members whose shares are to be purchased, redeemed or otherwise
acquired unless the Company is permitted by the 2004 Act or any provision of the
amended and restated memorandum of association or the amended and restated
articles of association to purchase, redeem or otherwise acquire the shares
without their consent.





The
Company may purchase, deem or otherwise acquire its shares at a price lower than
the fair value if permitted by, and then only in accordance with, the terms of
the amended and restated memorandum of association or the amended and restated
articles of association or a written agreement for the subscription for the
shares to be purchased, redeemed or otherwise acquired.





Changes
in the rights of shareholders





The
directors are authorized to issue new classes or series of shares and the rights
attached thereto.  However, the rights attached to any class or series
of shares (unless otherwise provided by the terms of issue of the shares of that
class or series), whether or not the Company is being wound-up, must be varied
with the consent in writing of all the holders of the issued shares of that
class or series or with the sanction of a resolution passed by a majority of the
votes cast at a separate meeting of the holders of the shares of the class or
series.





Meetings





An annual
meeting of members must be held each year at such date and time as may be
determined by the directors and if requested to do so by members holding at
least 30% of the voting rights in respect of the matter for which the meeting is
being held.  No less than ten days and not more than sixty days notice
of meetings is required to be given to members.





A meeting
of members is properly constituted if at the commencement of the meeting there
are two members present in person or by proxy or (in the case of a member being
a corporation) by its duly authorized representative representing not less than
one third of the votes of the shares or class or series of shares entitled to
vote on resolutions of members to be considered at the meeting.


66


A member
shall be deemed to be present at the meeting if he participates by telephone or
other electronic means and all members participating in the meeting are able to
hear each other.





An
ordinary resolution of members may be approved at a duly constituted meeting of
members by the affirmative vote of a simple majority of the votes of those
members entitled to vote and voting on the resolution.





A special
resolution of members may be approved at a duly constituted meeting of members
by a vote of not less than two-thirds of votes of those members entitled to
vote.





A meeting
of members convened to consider a special resolution (other than an annual
general meeting) may be called on short notice if members holding not less than
90% of the total number of shares entitled to attend the meeting and vote on all
matters to be considered at the meeting waive the required notice for the
meeting.  Attendance at the meeting is deemed to constitute
waiver.





The
inadvertent failure of the directors to give notice of a meeting to a member, or
the fact that a member has not received notice, does not invalidate the
meeting.





A member
may be represented at a meeting of members by a proxy who may speak and vote on
behalf of the member.  A written instrument giving the proxy such
authority must be produced at the place appointed for the meeting before the
time for holding the meeting at which such person proposes to vote.





Limitations
on Ownership of Securities





There are
no limitations on the right of non-residents or foreign persons to own the
Company’s securities imposed by BVI law or by the Company’s amended and restated
memorandum of association and articles of association.





Change
in Control of Company





While
directors of the Company may be appointed by the members or directors for such
terms as may be determined at the time of such appointment, and may be removed
by resolution of directors with or without cause, directors may not be removed
by the members except for cause.





A special
resolution of members is required for the Company to issue shares of the Company
or securities convertible into shares of the Company resulting in a change of
control of the Company.  Additionally, the board of directors has the
power to issue preferred shares with such rights attaching to them as they
decide and that this power could be used in a manner that would delay, defer of
prevent a change of control of our company.





Ownership
Threshold





There are
no provisions governing the ownership threshold above which shareholder
ownership must be disclosed.





Changes
in Capital





Subject
to the provisions of the 2004 Act, we may, by a resolution of directors or
members, amend the Company’s memorandum and articles of association to increase
or decrease the number of shares authorized to be issued.  The
directors of the Company may, by resolution, authorize a distribution (including
a capital distribution) by the Company at a time, of an amount, and to any
members they think fit if they are satisfied, on reasonable grounds, that the
Company will, immediately after the distribution, satisfy the solvency
test.  The solvency test is satisfied if the value of the Company’s
assets exceeds its liabilities, and the Company is able to pay its debts as they
fall due.


67


Differences
in Corporate Law





The
companies law of the BVI differs from laws applicable to U.S. corporations and
their shareholders.  Set forth below is a summary of the significant
differences between the provisions of the companies law applicable to us and the
laws applicable to companies incorporated in the United States and their
shareholders.





Protection for minority
shareholders





Under the
laws of most U.S. jurisdictions, majority and controlling shareholders of a
company generally have certain “fiduciary” responsibilities to the minority
shareholders.  Corporate actions taken by majority and controlling
shareholders which are unreasonable and materially detrimental to the interests
of minority shareholders may be declared null and void.  Minority
shareholders may have less protection for their rights under BVI law than they
would have under U.S. law.





Powers of
directors





Unlike
most U.S. jurisdictions, the directors of a BVI company, subject in certain
cases to court’s approvals but without shareholders’ approval, may implement the
sale, transfer, exchange or disposition of any asset, property, part of the
business, or securities of the company, with the exception that shareholder
approval is required for the disposition of over 50% in the value of the total
assets of the company.





Conflict of
interests





Similar
to the laws of most U.S. jurisdictions, when a director becomes aware of the
fact that he has an interest in a transaction which the company is to enter
into, he must disclose it to our board.  However, with sufficient
disclosure of interest in relation to that transaction, the director who is
interested in a transaction entered into or to be entered into by the Company
may (i) vote on a matter relating to the transaction; (ii) attend a meeting of
directors at which a matter relating to the transaction arises and be included
in the quorum; and (iii) sign a document on behalf of the company, or do any
other thing in his capacity as a director, that relates to the
transaction.





Written consent and
cumulative voting





Similar
to the laws of most U.S. jurisdictions, under the BVI law, shareholders are
permitted to approve matters by way of written resolution in place of a formal
meeting.  BVI law does not make a specific reference to cumulative
voting, and our current Memorandum and Articles of Association have no provision
authorizing cumulative voting.





Independent
directors





There is
no requirement for a majority of the directors of the company to be independent
as a matter of BVI law.





Redemption





Our
ordinary shares are not redeemable at a shareholder’s option.  We may
redeem our shares only with the consent of the shareholders whose shares are to
be redeemed, except that the consent from the shareholders is not needed under
the circumstances of compulsory redemption, which occurs at the request of the
shareholders holding 90% of the votes of the outstanding ordinary shares
entitled to vote, of the remaining issued shares.





Takeover
provisions





On August
27, 2010, our Board of Directors adopted the 2010 Rights Plan.  In
connection with the 2010 Rights Plan, the Board of Directors declared a dividend
distribution of one “Right” for each outstanding ordinary share to shareholders
of record at the close of business on August 27, 2010, effective as of September
27, 2010.  Each Right entitles the shareholder to buy one share of the
our Class A Preferred Stock at a price of $160.  Unless terminated
earlier by our Board of Directors, the 2010 Rights Plan will expire on September
27, 2020.


68


Initially,
the Rights will be attached to all certificates representing ordinary shares
then outstanding, and no separate Rights certificates or stock statements will
be distributed or provided.  The Rights will separate from the
ordinary shares and become exercisable if a person or group announces an
acquisition of 20% or more of our outstanding ordinary shares, or announces
commencement of a tender offer for 20% or more of the ordinary
shares.  In that event, the Rights permit shareholders, other than the
acquiring person, to purchase our ordinary shares having a market value of twice
the exercise price of the Rights, in lieu of the Class A Preferred
Stock.  In addition, in the event of certain business combinations,
the Rights permit the purchase of the ordinary shares of an acquiring person at
a 50% discount.  Rights held by the acquiring person become null and
void in each case.





The 2010
Rights Plan is designed to ensure that all of our shareholders receive fair and
equal treatment in the event of any proposed takeover of us and to guard against
partial tender offers, open market accumulations and other abusive or coercive
tactics to gain control of us without paying all shareholders a control
premium.  The Rights will cause substantial dilution to a person or
group that acquires 20% or more of our stock on terms not approved by the our
Board of Directors, but the Rights should not interfere with any merger or other
business combination approved by the Board of Directors at any time prior to the
first date that a person or group has become an acquiring person.





Shareholder’s access to
corporate records





A
shareholder is entitled, on giving written notice to the Company, to inspect the
Company’s (i) Memorandum and Articles of Association; (ii) register of members;
(iii) register of directors; and (iv) minutes of meetings and resolutions of
members and of those classes of members of which the shareholder is a
member.





The
directors may, if they are satisfied that it would be contrary to the company’s
interests to allow a member to inspect any document listed above (or any part
thereof), refuse the member to inspect the document or limit the inspection of
the document.  Our board may also authorize a member to review the
company account if requested.





Indemnification





Under our
Memorandum and Articles of Association, we must indemnify our directors or any
person who is or was, at the request of the Company, serving as a director of,
or in any other capacity is or was acting for, another body corporate or a
partnership, joint venture, trust or other enterprise against expenses
(including legal fees), judgments, fines and amounts paid in settlement actually
and reasonably incurred by such persons in connection with legal, administrative
or investigative proceedings to which they are a party or are threatened to be
made a party by reason of their acting as our directors or agents.  To
be entitled to indemnification, these persons must have acted honestly and in
good faith and in what he believes to be the best interest of the Company, and
they must have had no reasonable cause to believe their conduct was
unlawful.





Insofar
as indemnification for liabilities arising under the Securities Act may be
permitted to directors, officers or persons controlling us under the foregoing
provisions, we have been advised that in the opinion of the SEC, such
indemnification is against public policy as expressed in the Securities Act and
is therefore unenforceable.





Mergers and similar
arrangements





Under the
laws of the BVI, two or more companies may merge or consolidate in accordance
with Section 170 of the 2004 Act.  A merger means the merging of two
or more constituent companies into one of the constituent companies, and a
consolidation means the uniting of two or more constituent companies into a new
company.  In order to merge or consolidate, the directors of each
constituent company must approve a written plan of merger or consolidation which
must be authorized by a resolution of shareholders.


69


While a
director may vote on the plan even if he has a financial interest in the plan of
merger of consolidation, in order for the resolution to be valid, the interest
must have been disclosed to our board forthwith upon him becoming aware of such
interest.  The transaction will not be avoidable if the shareholders
approve or ratify it.





Shareholders
not otherwise entitled to vote on the merger or consolidation may still acquire
the right to vote if the plan of merger or consolidation contains any provision
which, if proposed as an amendment to the memorandum or articles of association,
would entitle them to vote as a class or series on the proposed
amendment.  In any event, all shareholders must be given a copy of the
plan of merger or consolidation irrespective of whether they are entitled to
vote at the meeting or consent to the written resolution to approve the plan of
merger or consolidation.





The
shareholders of the constituent companies are not required to receive shares of
the surviving or consolidated company, but may receive debt obligations or other
securities of the surviving or consolidated company, or other assets, or a
combination thereof.  Furthermore, some or all of the shares of a
class or series may be converted into a kind of asset while the other shares of
the same class or series may receive a different kind of asset.  As
such, not all the shares of a class or series must receive the same kind of
consideration.





After the
plan of merger or consolidation has been approved by the directors and
authorized by a resolution of the shareholders, articles of merger or
consolidation are executed by each company and filed with the Registrar of
Corporate Affairs in the BVI.





A
shareholder may dissent from a mandatory redemption of his shares, an
arrangement (if permitted by the court), a merger (unless the shareholder was a
shareholder of the surviving company prior to the merger and continues to hold
the same or similar shares after the merger) and a consolidation.  A
shareholder properly exercising his dissent rights is entitled to payment of the
fair value of their shares.





A
shareholder dissenting from a merger or consolidation must object in writing to
the merger or consolidation before the vote by the shareholders on the merger or
consolidation, unless notice of the meeting was not given to the
shareholder.  If the merger or consolidation is approved by the
shareholders, the company must within 20 days give notice of this fact to each
shareholder who gave written objection, and to each shareholder who did not
receive notice of the meeting.  Such shareholders then have 20 days to
give to the company their written election in the form specified by the BVI
Business Companies Act to dissent from the merger or consolidation, provided
that in the case of a merger, the 20 days starts when the plan of merger is
delivered to the shareholder.





Upon
giving notice of his election to dissent, a shareholder ceases to have any
rights of a shareholder except the right to be paid the fair value of his
shares.  As such, the merger or consolidation may proceed in the
ordinary course notwithstanding the dissent.





Within
seven days of the later of the delivery of the notice of election to dissent and
the effective date of the merger or consolidation, the company must make a
written offer to each dissenting shareholder to purchase his shares at a
specified price that the company determines to be their fair
value.  The company and the shareholders then have 30 days to agree
upon the price.  If the company and a shareholder fail to agree on the
price within the 30 days, then the company and the shareholder shall each
designate an appraiser and these two appraisers shall designate a third
appraiser.  These three appraisers shall fix the fair value of the
shares as of the close of business on the day before the shareholders approved
the transaction without taking into account any change in value as a result of
the transaction.





Shareholders’
suits





Similar
to the laws of most U.S. jurisdictions, BVI law permits derivative actions
against its directors.  However, the circumstances under which such
actions may be brought, and the procedures and defenses available may result in
the rights of shareholders of a BVI company being more limited than those of
shareholders of a company incorporated and/or existing in the United
States.


70


The court
of the BVI may, on the application of a shareholder of a company, grant leave to
that shareholder to bring proceedings in the name and on behalf of that company,
or intervene in proceedings to which the company is a party for the purpose of
continuing, defending or discontinuing the proceedings on behalf of the
company.  In determining whether to grant leave, the High Court of the
BVI must take into account (i) whether the shareholder is acting in good
faith; (ii) whether the derivative action is in the interests of the company
taking account of the views of the company’s directors on commercial matters;
(iii) whether the proceedings are likely to succeed; (iv) the costs of the
proceedings in relation to the relief likely to be obtained; and (v) whether an
alternative remedy to the derivative claim is available.





Leave to
bring or intervene in proceedings may be granted only if the High Court of the
BVI is satisfied that (i) the company does not intend to bring, diligently
continue or defend, or discontinue the proceedings, as the case may be; or (ii)
it is in the interests of the company that the conduct of the proceedings should
not be left to the directors or to the determination of the shareholders as a
whole.





In
determining whether to grant leave to a shareholder in these circumstances, the
BVI Court must take the following matters into account:





(a)
whether the member is acting in good faith;





(b)
whether the derivative action is in the interests of the company taking account
of the views of the company’s directors on commercial matters;





(c)
whether the proceedings are likely to succeed;





(d) the
costs of the proceedings  in relation to the relief likely to be
obtained; and





(e)
whether an alternative remedy to the derivative claim is available.





C.
Material Contracts





Except
for the following, we have not entered into any material contracts other than in
the ordinary course of business and other than those described in Item 4,
“Information on the Company,” Item 7, “Major Shareholders and Related Party
Transactions,” or Item 5. Operating And Financial Review And Prospects –
Contractual Obligations,” or elsewhere in this annual report.





On
December 23, 2009, we entered into the Share Purchase Agreement with Unionway
Resources Limited, a business company incorporated in the BVI, or the Seller,
pursuant to which, among other things, we acquired 100% equity interest in
Maypower Limited, a business company incorporated in the BVI and owned 24.11% of
Beijing Hollysys, from the Seller.  As the consideration for the
acquisition of the equity interest, we agreed to:





1)      issue
4,413,948 ordinary shares, or the Shares, to the Seller, and





2)      pay
cash US$9,917,062.5, or RMB 67,634,366.25 to the Seller.





The
Shares were issued to the Seller and its designeee on March 16,
2010.  As a result of the acquisition of the equity interest, we
indirectly owns 100% of Beijing Hollysys.





D.
Exchange Controls





BVI
Exchange Controls





There are
no material exchange controls restrictions on payment of dividends, interest or
other payments to the holders of our ordinary or preferred shares or on the
conduct of our operations in the BVI, where we were
incorporated.  There are no material BVI laws that impose any material
exchange controls on us or that affect the payment of dividends, interest or
other payments to nonresident holders of our ordinary or preferred
shares.  BVI law and our Amended and Restated Memorandum and Articles
of Association do not impose any material limitations on the right of
non-residents or foreign owners to hold or vote our ordinary or preferred
shares.


71


Exchange
Controls in China





Under the
Foreign Currency Administration Rules promulgated in 1996 and revised in 1997,
and various regulations issued by State Administration of Foreign Exchange, or
SAFE, and other relevant PRC government authorities, RMB is convertible into
other currencies without prior approval from SAFE only to the extent of current
account items, such as trade related receipts and payments, interest and
dividends and after complying with certain procedural
requirements.  The conversion of RMB into other currencies and
remittance of the converted foreign currency outside PRC for the purpose of
capital account items, such as direct equity investments, loans and repatriation
of investment, requires the prior approval from SAFE or its local
office.  Payments for transactions that take place within China must
be made in RMB.  Unless otherwise approved, PRC companies must
repatriate foreign currency payments received from
abroad.  Foreign-invested enterprises may retain foreign exchange in
accounts with designated foreign exchange banks subject to a cap set by SAFE or
its local office.  Unless otherwise approved, domestic enterprises
must convert all of their foreign currency proceeds into RMB.





On
October 21, 2005, SAFE issued the Notice on Issues Relating to the
Administration of Foreign Exchange in Fund-raising and Reverse Investment
Activities of Domestic Residents Conducted via Offshore Special Purpose
Companies, which became effective as of November 1, 2005.  According
to the notice, a special purpose company, or SPV, refers to an offshore company
established or indirectly controlled by PRC residents for the special purpose of
carrying out financing of their assets or equity interest in PRC domestic
enterprises.  Prior to establishing or assuming control of an SPV,
each PRC resident, whether a natural or legal person, must complete the overseas
investment foreign exchange registration procedures with the relevant local SAFE
branch.  The notice applies retroactively.  As a result, PRC
residents who have established or acquired control of these SPVs that previously
made onshore investments in China were required to complete the relevant
overseas investment foreign exchange registration procedures by March 31,
2006.  These PRC residents must also amend the registration with the
relevant SAFE branch in the following circumstances: (i) the PRC residents have
completed the injection of equity investment or assets of a domestic company
into the SPV; (ii) the overseas funding of the SPV has been completed; (iii)
there is a material change in the capital of the SPV.  Under the
rules, failure to comply with the foreign exchange registration procedures may
result in restrictions being imposed on the foreign exchange activities of the
violator, including restrictions on the payment of dividends and other
distributions to its offshore parent company, and may also subject the violators
to penalties under the PRC foreign exchange administration
regulations.





E.
Taxation





The following is a general summary
of certain material BVI, China and U.S. federal income tax
considerations.  The discussion is not intended to be, nor should it be construed as, legal
or tax advice to any particular prospective
shareholder.  The discussion is based on laws and relevant
interpretations thereof in
effect as of the date hereof, all of which are subject to change or different
interpretations, possibly with retroactive effect.





BVI
Taxation




The BVI
does not impose a withholding tax on dividends paid by us to holders of our
ordinary shares, nor does the BVI levy any capital gains or income taxes on
us.  Further, a holder of our ordinary shares who is not a resident of
the BVI is exempt from the BVI income tax on dividends paid with respect to the
ordinary shares.  Holders of ordinary shares are not subject to the
BVI income tax on gains realized on the sale or disposition of the ordinary
shares.





Our
ordinary shares are not subject to transfer taxes, stamp duties or similar
charges in the BVI.  However, as a business company, we are required
to pay the BVI government an annual license fee based on the number of shares we
are authorized to issue.





There is
no income tax treaty or convention currently in effect between the United States
and the BVI.


72


Taxation
in China





In 2007,
the PRC government promulgated the new Enterprise Income Tax Law, or EIT Law,
and the relevant implementation rules, which became effective on January 1,
2008. Under the EIT Law and its implementation rules, all domestic and foreign
investment companies will be subject to a uniform enterprise income tax at the
rate of 25% and dividends from PRC subsidiaries to their non-PRC shareholders
will be subject to a withholding tax at a rate of 20%, which is further reduced
to 10% by the implementation rules, if the non-PRC shareholder is considered to
be a non-PRC tax resident enterprise without any establishment or place within
China or if the dividends payable has no connection with the non-PRC
shareholder’s establishment or place within China, unless any such non-PRC
shareholder’s jurisdiction of incorporation has a tax treaty with China that
provides for a different withholding arrangement. In addition, pursuant to the
EIT Law, enterprises established under the laws of non-PRC jurisdictions, but
whose “de facto management body” is located in the PRC, should be treated as
resident enterprises for PRC tax purposes However, it is currently uncertain
whether we may be deemed a resident enterprise, or how to interpret whether any
income or gain is derived from sources within China.  See “Risk
Factors - Under the New EIT Law, we may be classified as a “resident enterprise”
of China. Such classification will likely result in unfavorable tax consequences
to us and our non-PRC shareholders.”  If we, as a BVI company with
substantially all of our management located in China, were treated as a resident
enterprise for PRC tax purposes, we will be subject to PRC tax on our worldwide
income at the 25% uniform tax rate, which would have an impact on our effective
tax rate.





United
States Federal Taxation





The
following is a discussion of the material U.S. federal tax consequences of the
ownership of our ordinary shares by U.S. Holders (as described
below).  It does not purport to be a comprehensive description of all
of the tax considerations that may be relevant to a particular person’s
situation.  The discussion applies to investors in shares that hold
the shares as capital assets for U.S. federal income tax purposes and it does
not describe all of the tax consequences that may be relevant to holders subject
to special rules, such as:




·
            certain
      financial institutions;


·
            insurance
      companies;


·
            dealers
      and traders in securities or foreign
currencies;




·
            persons
      holding shares as part of a hedge, “straddle,” integrated transaction or
      similar transaction;




·
            persons
      whose functional currency for U.S. federal income tax purposes is not the
      U.S. dollar;




·
            partnerships
      or other entities classified as partnerships for U.S. federal income tax
      purposes;




·
            persons
      liable for the alternative minimum
tax;




·
            tax-exempt
      organizations;




·
            persons
      holding shares that own or are deemed to own 10% or more of our voting
      stock;




·
            persons
      who hold the shares in connection with a trade or business outside the
      United States; or




·
            persons
      who acquired our shares pursuant to the exercise of any employee stock
      option or otherwise as
compensation.




PROSPECTIVE
PURCHASERS ARE URGED TO CONSULT THEIR TAX ADVISORS ABOUT THE APPLICATION OF THE
U.S. FEDERAL TAX RULES TO THEIR PARTICULAR CIRCUMSTANCES AS WELL AS THE STATE,
LOCAL AND FOREIGN TAX CONSEQUENCES TO THEM OF THE PURCHASE, OWNERSHIP AND
DISPOSITION OF ORDINARY SHARES.





This
discussion is based on the U.S. Internal Revenue Code of 1986, as amended, or
the Code, administrative pronouncements, judicial decisions and final, temporary
and proposed Treasury regulations, all as of the date hereof.  These
laws are subject to change, and can change on a retroactive
basis.  “U.S. Holder” means a beneficial owner of shares that, for
U.S. federal income tax purposes, is: a citizen or resident of the United
States; a corporation, or other entity taxable as a corporation, created or
organized in or under the laws of the United States or any political subdivision
thereof; or an estate or trust the income of which is subject to U.S. federal
income taxation, regardless of its source.  This discussion assumes
that we are not, and will not become, a passive foreign investment company, or a
PFIC, for U.S. federal income tax purposes, as described below.


73


Taxation of
Dividends





The gross
amount of any distributions paid with respect to shares, other than certain pro
rata distributions of shares, generally will be treated as foreign source
dividend income for U.S. federal income tax purposes.  U.S. Holders
will not be entitled to claim a dividends-received deduction with respect to
distributions paid by us.  Dividends will be included in a U.S.
Holder’s income on the date of such U.S. Holder’s receipt of the
dividend.





If you
are a non-corporate U.S. Holder, subject to applicable limitations, you may be
eligible to be taxed at a maximum rate of 15% in respect of dividends received
in taxable years beginning before January 1, 2011.  Please consult
your tax advisors to determine whether you are subject to any special rules that
limit your ability to be taxed at this favorable rate.





In the
event that we are deemed to be a Chinese “resident enterprise” under PRC tax
law, you may be subject to PRC withholding taxes on dividends paid to you with
respect to the ordinary shares.  In addition, subject to certain
conditions and limitations, PRC withholding taxes on dividends not in excess of
the rate allowed under the income tax treaty between the United States and the
PRC, or the Treaty, if applicable, may be treated as foreign taxes eligible for
credit against your U.S. federal income tax liability.  The rules
governing the foreign tax credit are complex.  You are urged to
consult your tax advisors regarding the availability of the foreign tax credit
in light of your particular circumstances.





Taxation of Capital
Gains





Upon sale
or other disposition of the ordinary shares, a U.S. Holder will generally
recognize capital gain or loss for U.S. federal income tax purposes in an amount
equal to the difference between such holder’s tax basis in the shares sold or
disposed of and the amount realized on the sale or other
disposition.  Such gain or loss will be long-term capital gain or loss
if the U.S. Holder has held the shares for more than one year and will generally
be U.S. source gain or loss for foreign tax credit purposes.  However,
if we are deemed to be a Chinese “resident enterprise” under PRC tax law, gains
on disposal may be subject to PRC tax.  In that event, a U.S. Holder
may be eligible for the benefits of the Treaty.  Under the Treaty, if
any PRC tax were to be imposed on any gain from the disposition of the shares,
the gain would be treated as PRC source income.  We urge you to
consult your tax advisors regarding the tax consequences if a foreign tax is
imposed on gain on a disposition of our shares, including the availability of
the foreign tax credit in light of your particular circumstances.





Passive Foreign Investment
Company Rules (PFIC)





We
believe that we were not a PFIC for United States federal income tax purposes
for our taxable year ended June 30, 2010.  However, since PFIC status
depends upon the composition of a company’s income and assets and the market
value of its assets (including goodwill) from time to time, there can be no
assurance that we will not be a PFIC for any taxable year.





In
general, if we were a PFIC for any taxable year during which a U.S. Holder held
shares, gain recognized by such U.S. Holder on a sale or other disposition
(including certain pledges) of the shares would be allocated ratably over the
U.S. Holder’s holding period for the shares.  The amounts allocated to
the taxable year of the sale or other disposition and to any year before we
became a PFIC would be taxed as ordinary income.  The amount allocated
to each other taxable year would be subject to tax at the highest rate in effect
for individuals or corporations, as appropriate, for such taxable year, and an
interest charge would be imposed on the amount allocated to such taxable
year.  Similar rules would apply to any distribution in respect of
shares in excess of 125% of the average of the annual distributions on shares
received by a U.S. Holder during the preceding three years or such holder’s
holding period, whichever is shorter.  Certain elections may be
available that would result in alternative treatments (such as a mark-to-market
treatment) of the shares.  U.S. Holders should consult their tax
advisers to determine whether such elections are available and, if so, what the
consequences of the alternative treatments would be in those holders' particular
circumstances.


74


Information Reporting and
Backup Withholding





Payment
of dividends and sales proceeds that are made within the United States or
through certain U.S.-related financial intermediaries generally are subject to
information reporting and to backup withholding unless (i) the U.S. Holder is a
corporation or other exempt recipient or (ii) in the case of backup withholding,
the U.S. Holder provides a correct taxpayer identification number and certifies
that backup withholding does not apply.





The
amount of any backup withholding from a payment to a U.S. Holder will be allowed
as a credit against the U.S. Holder’s U.S. federal income tax liability and may
entitle the U.S. Holder to a refund, provided that the required information is
furnished to the Internal Revenue Service.





F.
Dividends and Paying Agents





Not
applicable





G.
Statement by Expert





Not
applicable





H.
Documents on Display





We have
filed this Annual Report on Form 20-F with the SEC under the Exchange
Act.  Statements made in this Annual Report as to the contents of any
document referred to are not necessarily complete.  With respect to
each such document filed as an exhibit to this Annual Report, reference is made
to the exhibit for a more complete description of the matter involved, and each
such statement shall be deemed qualified in its entirety by such
reference.





We are
subject to the informational requirements of the Exchange Act as a foreign
private issuer and file reports and other information with the
SEC.  Reports and other information filed by us with the SEC,
including this Annual Report on Form 20-F, may be inspected and copied at the
public reference room of the SEC at 100 F. Street, N.E., Washington D.C.
20549.  You can also obtain copies of this Annual Report on Form 20-F
by mail from the Public Reference Section of the SEC, 100 F. Street, N.E.,
Washington D.C. 20549, at prescribed rates.  Additionally, copies of
this material may be obtained from the SEC’s Internet site at http://www.sec.gov.  The
SEC’s telephone number is 1-800-SEC-0330.





As a
foreign private issuer, we are exempt from the rules under the Exchange Act
prescribing the furnishing and content of quarterly reports and proxy
statements, and officers, directors and principal shareholders are exempt from
the reporting and short-swing profit recovery provisions contained in Section 16
of the Exchange Act.





I.
Subsidiary Information





Not
applicable.





ITEM
      11.
            QUANTITATIVE
      AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK




Interest
Rate Risk





We are
exposed to interest rate risk primarily with respect to our short-term bank
loans.  Although the interest rates, which are based on the banks’
prime rates with respect to our short-term loans are fixed for the terms of the
loans, the terms are typically three to twelve months for short-term bank loans
and interest rates are subject to change upon renewal.  There were no
material changes in interest rates for short-term bank loans renewed during the
fiscal year ended June 30, 2010.


75


A
hypothetical 1.0% increase in the annual interest rates for all of our credit
facilities under which we had outstanding borrowings as of June 30, 2010, would
decrease net income before provision for income taxes by approximately $0.38
million for the fiscal year ended June 30, 2010.  Management monitors
the banks’ prime rates in conjunction with our cash requirements to determine
the appropriate level of debt balances relative to other sources of
funds.  We have not entered into any hedging transactions in an effort
to reduce our exposure to interest rate risk.





Foreign
Exchange Risk





While our
reporting currency is the U.S. Dollar, substantially all of our consolidated
revenues and consolidated costs and expenses are denominated in
RMB.  All of our assets are denominated in RMB except for
cash.  As a result, we are exposed to foreign exchange risk as our
revenues and results of operations may be affected by fluctuations in the
exchange rate between U.S. Dollars and RMB.  If the RMB depreciates
against the U.S. Dollar, the value of our RMB revenues, earnings and assets as
expressed in our U.S. Dollar financial statements will
decline.  Assets and liabilities are translated at exchange rates at
the balance sheet dates and revenue and expenses are translated at the average
exchange rates and shareholders’ equity is translated at historical exchange
rates.  Any resulting translation adjustments are not included in
determining net income but are included in determining other comprehensive
income, a component of shareholders’ equity.  An average appreciation
(depreciation) of the RMB against the U.S. dollar of 5% would increase
(decrease) our comprehensive income by $0.8 million based on our outstanding
revenues, costs and expenses, assets, and liabilities denominated in RMB as of
June 30, 2010.





Very
limited hedging transactions are available in China to reduce our exposure to
exchange rate fluctuations.  To date, we have not entered into any
hedging transactions in an effort to reduce our exposure to foreign currency
exchange risk. While we may enter into hedging transactions in the future, the
availability and effectiveness of these transactions may be limited, and it may
not be able to successfully hedge our exposure at all. In addition, our foreign
currency exchange losses may be magnified by PRC exchange control regulations
that restrict its ability to convert RMB into foreign currencies.





Inflation





Inflationary
factors such as increases in the cost of our product and overhead costs may
adversely affect our operating results.  Although we do not believe
that inflation has had a material impact on our financial position or results of
operations to date, a high rate of inflation in the future may have an adverse
effect on our ability to maintain current levels of gross margin and selling,
general and administrative expenses as a percentage of net revenues if the
selling prices of our products do not increase with these increased
costs.





ITEM
      12.
            DESCRIPTION
      OF SECURITIES OTHER THAN EQUITY
SECURITIES




Not
applicable.





PART II




ITEM
      13.
            DEFAULTS,
      DIVIDEND ARREARAGES AND
DELINQUENCIES




None.





ITEM
14.             MATERIAL
MODIFICATIONS TO THE RIGHTS OF SECURITIES HOLDERS AND USE OF
PROCEEDS




In August
2010, our Board of Directors adopted the 2010 Rights Plan. The 2010 Rights Plan
provides for a dividend distribution of one preferred share purchase Right, for
each outstanding ordinary share.  Each Right entitles the shareholder
to buy 1 share of our Class A Preferred Stock at an exercise price of
$160.  The Rights will become exercisable if a person or group
announces an acquisition of 20% or more of our outstanding ordinary shares, or
announces commencement of a tender offer for 20% or more of the ordinary shares.
In that event, the Rights permit shareholders, other than the acquiring person,
to purchase our ordinary shares having a market value of twice the exercise
price of the Rights, in lieu of the Class A Preferred Stock. In addition, in the
event of certain business combinations, the Rights permit the purchase of the
ordinary shares of an acquiring person at a 50% discount.  Rights held
by the acquiring person become null and void in each case.  Unless
terminated earlier by our Board of Directors, the 2010 Rights Plan will expire
on September 27, 2020.


76




In
connection with the adoption of the 2010 Rights Plan, we amended our Memorandum
and Articles of Association to increase our authorized shares of Class A
Preferred Stock from 10,000,000 shares to 90,000,000 shares, and to provide that
directors may only be removed by shareholders for cause.





ITEM
      15.
            CONTROLS
      AND PROCEDURES




Disclosure
Controls and Procedures





As
required by Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act, our
management has carried out an evaluation, with the participation and under the
supervision of our chief executive officer and chief financial officer, of the
effectiveness of the design and operation of our disclosure controls and
procedures as of June 30, 2010.





Disclosure
controls and procedures refer to controls and other procedures designed to
ensure that information required to be disclosed in the reports we file or
submit under the Securities Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the rules and forms of the SEC and
that such information is accumulated and communicated to our management,
including our chief executive officer and chief financial officer, as
appropriate, to allow timely decisions regarding required
disclosure.  In designing and evaluating our disclosure controls and
procedures, management recognizes that any controls and procedures, no matter
how well designed and operated, can provide only reasonable assurance of
achieving the desired control objectives, and management is required to apply
its judgment in evaluating and implementing possible controls and
procedures.





Management
conducted its evaluation of disclosure controls and procedures under the
supervision of our chief executive officer and our chief financial
officer.  Based upon, and as of the date of this evaluation, our chief
executive officer and chief financial officer concluded that our disclosure
controls and procedures were effective as of June 30, 2010.





Management’s
Annual Report on Internal Control Over Financial Reporting




Our
management is responsible for establishing and maintaining adequate internal
control over financial reporting, as such term is defined in Rules 13a-15(f) and
15d-15(f) under the Exchange Act for our company. Internal control over
financial reporting is a process designed to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of
consolidated financial statements in accordance with generally accepted
accounting principles and includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately and
fairly reflect the transactions and dispositions of a company’s assets, (2)
provide reasonable assurance that transactions are recorded as necessary to
permit preparation of consolidated financial statements in accordance with
generally accepted accounting principles, and that a company’s receipts and
expenditures are being made only in accordance with authorizations of a
company’s management and directors and (3) provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition, use or
disposition of a company’s assets that could have a material effect on the
consolidated financial statements.




Because
of its inherent limitations, a system of internal control over financial
reporting can provide only reasonable assurance with respect to consolidated
financial statement preparation and presentation and may not prevent or detect
misstatements. Also, projections of any evaluation of effectiveness to future
periods are subject to the risk that controls may become inadequate because of
changes in conditions, or that the degree of compliance with the policies and
procedures may deteriorate.




Our
management assessed the effectiveness of our internal control over financial
reporting as of June 30, 2010. In making this assessment, our management used
the criteria set forth by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO) in Internal Control-Integrated Framework. Based on
our assessment, management believes that, as of June 30, 2010, our internal
control over financial reporting was effective based on those
criteria.


77


Our
independent registered public accounting firm has audited our internal control
over financial reporting as of June 30, 2010 and has issued an attestation
report set forth below.





REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To the
Board of Directors and Stockholders of


Hollysys
Automation Technologies Ltd





We have
audited internal control over financial reporting of Hollysys Automation
Technologies Ltd and its subsidiaries (the “Company”) as of June 30, 2010, based
on criteria established in Internal Control – Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission (the COSO
criteria). The Company’s management is responsible for maintaining effective
internal control over financial reporting and for its assessment of the
effectiveness of internal control over financial reporting, included in the
accompanying Item 15, Management’s Report on Internal Control Over Financial
Reporting. Our responsibility is to express an opinion on the Company’s internal
control over financial reporting based on our audit.





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





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





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





In our
opinion, Hollysys Automation Technologies Ltd and its subsidiaries maintained,
in all material respects, effective internal control over financial reporting as
of June 30, 2010, based on the COSO criteria.





We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the consolidated balance sheets of Hollysys
Automation Technologies Ltd and its subsidiaries as of June 30, 2009 and 2010,
and the related consolidated statements of income and comprehensive income,
stockholders’ equity, and cash flows for each of the three years in the period
ended June 30, 2010 and our report dated December 21, 2010 expressed an
unqualified opinion thereon.





BDO
Limited





Hong
Kong





December
21, 2010


78


Changes
in Internal Control over Financial Reporting





There has
been no change in our internal control over financial reporting during the year
ended June 30, 2010 that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.





ITEM
      16A.
            AUDIT
      COMMITTEE FINANCIAL EXPERT




Our board
of directors has determined that Mr. Colin Sung meets the criteria for an “audit
committee financial expert,” as established by the SEC. Mr. Sung will not be
deemed an “expert” for any other purpose, including, without limitation, for
purposes of Section 11 of the Securities Act, as a result of being designated or
identified as an audit committee financial expert.  The designation or
identification of Mr. Sung as an audit committee financial expert does not
impose on him any duties, obligations or liability that are greater than the
duties, obligations and liability imposed on him as a member of our Audit
Committee and board of directors in the absence of such designation or
identification.





ITEM
      16B.
            CODE
      OF ETHICS




In March
2006, our board of directors adopted a code of conduct, or Code of Conduct,
which applies to all of our directors, officers and employees, including our
principal executive officer, principal financial officer, and principal
accounting officer.   Our Code of Conduct addresses, among other things,
honesty and ethical conduct, conflicts of interest, compliance with laws,
regulations and policies, confidentiality, and reporting of violations of the
code.  A copy of the Code of Ethics was filed as Annex G to our
registration statement on Form S-4 filed with the SEC on March 30, 2006 and is
incorporated herein by reference.





ITEM
      16C.
            PRINCIPAL
      ACCOUNTANT FEES AND SERVICES




The
following table sets forth the aggregate fees by categories specified below in
connection with certain professional services rendered by BDO Limited, our
independent registered public accounting firm, for the fiscal years ended June
30, 2010 and 2009:





2010
                    
                    
                    2009Audit
      fees(1)
                    
                    $
                    581,000
                    
                    
                    $
                    475,000Audit-related
      fees
                    
                    
                    -
                    
                    
                    
                    -Tax
      fees
                    
                    
                    -
                    
                    
                    
                    -All
      other fees
                    
                    
                    -
                    
                    
                    
                    -Total
                    
                    
                    581,000
                    
                    
                    
                    475,000









(1) Consists of the aggregate fees billed
for each of the fiscal years ended June 30, 2010 and 2009 for professional
services rendered by the principal accountant, BDO limited, for the audit of our
annual financial statements or services that are normally provided by the
accountant in connection with statutory and regulatory filings or engagements
for the fiscal years ended June 30, 2010 and 2009 were $450,000 and $250,000,
respectively. And the fees for limited review procedures of our quarterly review
of our quarterly financial information in each of the fiscal years ended June
30, 2010 and 2009 were $[131,000] and $225,000,
respectively.





Audit
Committee Pre-Approval Policies and Procedures





Our Audit
Committee pre-approves all auditing services and permitted non-audit services to
be performed for us by our independent auditor, including the fees and terms
thereof (subject to the de minimums exceptions for non-audit services described
in Section 10A(i)(l)(B) of the Exchange Act that are approved by our Audit
Committee prior to the completion of the audit).


79


ITEM
      16D.
            EXEMPTIONS
      FROM THE LISTING STANDARDS FOR AUDIT
COMMITTEES




We have
not asked for nor have we been granted an exemption from the applicable listing
standards for our audit committee.





ITEM
      16E.
            PURCHASES
      OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED
    PURCHASERS




There
were no purchases of equity securities by us or by any of our affiliates during
the period covered by this Annual Report.





ITEM
      16F.
            CHANGE
      IN REGISTRANT’S CERTIFYING
ACCOUNTANT




None.





ITEM
      16G.
            CORPORATE
      GOVERNANCE




Our
corporate governance practices have generally followed the requirements of
NASDAQ listing rules with respect to corporate governance.




PART III




ITEM
      17.
            FINANCIAL
      STATEMENTS




We have
elected to provide financial statements pursuant to Item 18.





ITEM
      18.
            FINANCIAL
      STATEMENTS




Our
Audited Financial Statements for the Years Ended June 30, 2010, 2009 and 2008
are included in this annual report.




ITEM
      19.
            EXHIBITS




Number
              
              Description1.1
              
              Memorandum
      of Association of Registrant (Incorporated by reference to Annex B of the
      Proxy Statement/Prospectus contained in Registration Statement S-4 (file
      no. 333-132826) filed with the Securities and Exchange Commission on March
      30, 2006).1.2
              
              Articles
      of Association of Registrant (Incorporated by reference to Annex C of the
      Proxy Statement/Prospectus contained in Registration Statement S-4 (file
      no. 333-132826) filed with the Securities and Exchange Commission on March
      30, 2006).1.3
              
              Certificate
      of Change of Name (Incorporated by reference to Exhibit 1.3 of the Form
      20-F filed with the Securities and Exchange Commission on September 30,
      2009).1.4
              
              Amendment
      to Memorandum and Articles of Association of Hollysys Automation
      Technologies Ltd. (Incorporated by reference to Exhibit 1.1 of the Form
      6-K filed with the Securities and Exchange Commission on September 21,
      2010).2.1
              
              Rights
      Agreement, dated as of August 27, 2010, between Hollysys Automation
      Technologies Ltd. and Continental Stock Transfer & Trust Company,
      which includes the Form of Right Certificate as Exhibit A and the
      Summary of Rights to Purchase Preferred Shares as Exhibit B
      (Incorporated by reference to Exhibit 2.1 of the Form 6-K filed with the
      Securities and Exchange Commission on September 21,
  2010).


80





4.1
              
              Agreement
      and Plan of Merger between Chardan North China Acquisition Corporation and
      Registrant (Incorporated by reference to Exhibit 2.2 of the Registration
      Statement S-4 (file no. 333-132826) filed with the Securities and Exchange
      Commission on March 30, 2006).4.2
              
              Amended
      and Restated Stock Purchase Agreement, by and between Chardan North China
      Acquisition Corporation and Advance Pacific Holdings Limited,
      dated  February 9, 2007 (Incorporated by reference to Annex A of
      the Proxy Statement/Prospectus contained in Registration Statement S-4
      (file no. 333-132826) filed with the Securities and Exchange Commission on
      March 30, 2006).4.3
              
              Chardan
      North China Acquisition Corporation 2006 Stock Plan (Incorporated by
      reference to Exhibit 4.1 of the Registration Statement on Form S-8 (file
      no. 333-170811) filed with the Securities and Exchange Commission on
      November 24, 2010).4.4
              
              Form
      of Stock Consignment Agreement (Incorporated by reference to Exhibit 10.2
      of the Registration Statement S-4/A (file no. 333-132826) filed with the
      Securities and Exchange Commission on June 28, 2006).4.5
              
              Form
      of Employment Agreement (Incorporated by reference to Exhibit 10.3 of the
      Registration Statement S-4 (file no. 333-132826) filed with the Securities
      and Exchange Commission on March 30, 2006).4.6
              
              Sale
      and Purchase Agreement in Relation to the Ownership Interest of Hangzhou
      Hollysys Automation Co., Ltd. between Team Spirit Industrial Limited and
      Gifted Time Holdings Limited, dated July 12, 2006 (Incorporated by
      reference to Exhibit 10.6 of the Registration Statement S-4/A(file no.
      333-132826) filed with the Securities and Exchange Commission on July 2,
      2007).4.7
              
              Sale
      and Purchase Agreement in Relation to the Ownership Interest of Hangzhou
      Hollysys Automation Co., Ltd. between OSCAF International Co., Ltd. and
      Gifted Time Holdings Limited , dated January 12, 2006 (Incorporated by
      reference to Exhibit 10.7 of the Registration Statement S-4/A (file no.
      333-132826) filed with the Securities and Exchange Commission on July 2,
      2007).4.8
              
              Reorganization
      Agreement between Cheng Wusi, Wang Changli, Lou An, Shanghai Jingqiaotong
      Industrial Development Co., Ltd., Team Spirit Industrial Limited and OSCAF
      International Co., as amended (Incorporated by reference to Exhibit 10.12
      of the Registration Statement S-4/A (file no. 333-132826) filed with the
      Securities and Exchange Commission on July 2, 2007).4.9
              
              Financial
      Advisory Agreement by and among Beijing Hollysys Co., Ltd., Hangzhou
      Hollysys Automation Co., Ltd. and their shareholders and Upper Mix
      Investments Limited and Time Keep Investment Limited. (Incorporated by
      reference to Exhibit 10.14 of the Registration Statement S-4/A (file no.
      333-132826) filed with the Securities and Exchange Commission on February
      15, 2007).4.10
              
              Letter
      Agreement between Jianyun Chai and HLS Systems International Ltd., dated
      June 2, 2008 (Incorporated by reference to Exhibit 10.1 of the Form 6-K
      filed with the Securities and Exchange Commission on June 27,
      2008).4.11
              
              Letter
      Agreement between Qingtai Chen and HLS Systems International Ltd., dated
      June 2, 2008 (Incorporated by reference to Exhibit 10.2 of the Form 6-K
      filed with the Securities and Exchange Commission on June 27,
      2008).4.12
              
              Letter
      of Transmittal for Exchange Offer (Incorporated by reference to Exhibit
      10.15 of the Registration Statement S-4/A (file no. 333-132826) filed with
      the Securities and Exchange Commission on February 15,
    2007).4.13
              
              Form
      of promissory note used in bridge loan (Incorporated by reference to
      Exhibit 10.16 of the Registration Statement S-4/A (file no. 333-132826)
      filed with the Securities and Exchange Commission on May 11,
      2007).4.14
              
              Guarantee
      of Advance Pacific Holdings Limited (Incorporated by reference to Exhibit
      10.17 of the Registration Statement S-4/A (file no. 333-132826) filed with
      the Securities and Exchange Commission on May 11,
  2007).


81





4.15
              
              Voting
      Agreement between Advance Pacific Holdings, Ka Wa Cheng and Qiao Li, dated
      July 5, 2007 (Incorporated by reference to Exhibit 10.18 of the
      Registration Statement S-4/A (file no. 333-132826) filed with the
      Securities and Exchange Commission on July 23, 2007).4.20*
              
              Share
      Sale and Purchase Agreement, by Unionway Resources Limited and the
      Company, dated December 23, 2009.8.1*
              
              List
      of subsidiaries11.1
              
              Code
      of Ethics (included as Annex G to the Proxy Statement/Prospectus contained
      in Registration Statement 333-132826 and incorporated by reference
      herein)12.1*
              
              CEO
      Certification Pursuant to Rule 13a-14(a) (17 CFR 240.13a-14(a)) (17 CFR
      240.13a-14(a)) or Rule 15d-1(a) (17 CFR 240.15d-14(a))12.2*
              
              CFO
      Certification Pursuant to Rule 13a-14(a) (17 CFR 240.13a-14(a)) or Rule
      15d-1(a) (17 CFR 240.15d-14(a))13.1*
              
              CEO
      Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of
      200213.2*
              
              CFO
      Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of
      200215.1
              
              HLS
      Systems International, Ltd. Audit Committee Charter, adopted June 20, 2008
      (Incorporated by reference to Exhibit 99.1 of the Form 6-K filed with the
      Securities and Exchange Commission on June 27, 2008).15.2
              
              HLS
      Systems International, Ltd. Compensation Committee Charter, adopted June
      20, 2008 (Incorporated by reference to Exhibit 99.2 of the Form 6-K filed
      with the Securities and Exchange Commission on June 27,
    2008).15.3
              
              HLS
      Systems International, Ltd. Governance and Nominating Committee Charter,
      adopted June 20, 2008 (Incorporated by reference to Exhibit 99.3 of the
      Form 6-K filed with the Securities and Exchange Commission on June 27,
      2008).15.4
              
              Consent
      of BDO Limited*





* Filed
with this annual report on Form 20-F


82


SIGNATURE





The registrant hereby certifies that it
meets all of the requirements for filing on Form 20-F and that it has duly
caused and authorized the undersigned to sign this annual report on its
behalf.




HOLLYSYS
      AUTOMATION TECHNOLOGIES LTD./s/
      Changli WangChangli
      WangDecember
      21, 2010
                    Chief
      Executive
Officer


83




HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.




Index
to Consolidated Financial Statements





PageReports
      of Independent Registered Public Accounting Firms
                
                F-2Consolidated
      Balance Sheets as of June 30, 2009 and 2010
                
                F-3Consolidated
      Statements of Income and Comprehensive Income for years ended June 30,
      2008, 2009 and 2010
                
                F-5Consolidated
      Statements of Cash Flows for years ended June 30, 2008, 2009 and
      20010
                
                F-6Consolidated
      Statement of Stockholders’ Equity for years ended June 30, 2008, 2009 and
      2010
                
                F-8Notes
      to Consolidated Financial Statements
                
                F-10


F-1




REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM





To the
Board of Directors and Stockholders of


Hollysys
Automation Technologies Ltd





We have
audited the accompanying consolidated balance sheets of Hollysys Automation
Technologies Ltd and its subsidiaries (the “Company”) as of June 30, 2009 and
2010 and the related consolidated statements of income and comprehensive income,
stockholders’ equity, and cash flows for each of the three years in the period
ended June 30, 2010.  These financial statements are the
responsibility of the Company’s management.  Our responsibility is to
express an opinion on these financial statements based on our
audits.





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





In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of Hollysys Automation
Technologies Ltd and its subsidiaries at June 30, 2009 and 2010, and the results
of its operations and its cash flows for each of the three years in the period
ended June 30, 2010, in conformity with accounting principles generally accepted
in the United States of America.





We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the Company's internal control over financial
reporting as of June 30, 2010, based on criteria established in Internal Control
– Integrated Framework issued by the Committee of Sponsoring Organizations of
the Treadway Commission (COSO) and our report dated December 21, 2010 expressed
an unqualified opinion thereon.





BDO
Limited


Hong
Kong





December
21, 2010


F-2


HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.


CONSOLIDATED
BALANCE SHEETS


(In
US Dollars)





June 30,2009
                      
                      
                      2010ASSETSCurrent
      AssetsCash
      and cash equivalents
                      
                      $
                      128,882,666
                      
                      
                      $
                      119,501,945Contract
      commitment deposit in banks
                      
                      
                      5,504,375
                      
                      
                      
                      4,383,684Accounts
      receivable, net of allowance for doubtful accounts of $6,276,670 and
      $8,408,318
                      
                      
                      56,548,509
                      
                      
                      
                      64,384,519Cost
      and estimated earnings in excess of billings, net of allowance for
      doubtful accounts of $744,113 and $1,102,016 (note 5)
                      
                      
                      51,094,660
                      
                      
                      
                      60,928,056Other
      receivables, net of allowance for doubtful accounts of $178,532 and
      $214,789
                      
                      
                      4,148,842
                      
                      
                      
                      4,102,136Advance
      to suppliers
                      
                      
                      7,867,856
                      
                      
                      
                      10,676,175Amount
      due from related parties (note 18)
                      
                      
                      7,203,058
                      
                      
                      
                      10,764,828Inventories,
      net of provision of $1,114,140 and $2,393,546 (note 4)
                      
                      
                      18,837,270
                      
                      
                      
                      23,554,331Prepaid
      expenses
                      
                      
                      1,368,918
                      
                      
                      
                      1,022,803Income
      tax recoverable
                      
                      
                      -
                      
                      
                      
                      1,083,640Deferred
      tax assets (note 16)
                      
                      
                      319,737
                      
                      
                      
                      956,969Deposit
      for acquisition of equity interest from minority interest
                      
                      
                      2,195,582
                      
                      
                      
                      -Total
      current assets
                      
                      
                      283,971,473
                      
                      
                      
                      301,359,086Property,
      plant and equipment, net (note 6)
                      
                      
                      47,102,749
                      
                      
                      
                      65,345,618Long
      term investments (note 7)
                      
                      
                      13,570,578
                      
                      
                      
                      17,348,159Long
      term deferred expenses
                      
                      
                      91,779
                      
                      
                      
                      -Deferred
      tax assets (note 16)
                      
                      
                      706,943
                      
                      
                      
                      677,388Total
      assets
                      
                      $
                      345,443,522
                      
                      
                      $
                      384,730,251LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilitiesShort-term
      bank loans (note 9)
                      
                      $
                      5,854,887
                      
                      
                      $
                      1,472,559Current
      portion of long-term bank loans (note 12)
                      
                      
                      5,123,026
                      
                      
                      
                      1,472,559Current
      portion of long-term bonds payable (note 11)
                      
                      
                      -
                      
                      
                      
                      11,780,471Accounts
      payable
                      
                      
                      37,421,717
                      
                      
                      
                      41,479,662Construction
      cost payable
                      
                      
                      10,929,116
                      
                      
                      
                      12,562,565Deferred
      revenue
                      
                      
                      21,072,540
                      
                      
                      
                      33,552,968Accrued
      payroll and related expense
                      
                      
                      4,162,851
                      
                      
                      
                      4,386,681Income
      tax payable
                      
                      
                      1,397,706
                      
                      
                      
                      5,971,136Warranty
      liabilities (note 8)
                      
                      
                      1,631,407
                      
                      
                      
                      1,916,654Other
      tax payables
                      
                      
                      9,152,197
                      
                      
                      
                      10,632,611Accrued
      liabilities
                      
                      
                      2,634,107
                      
                      
                      
                      8,078,783Amounts
      due to related parties (note 18)
                      
                      
                      1,464,683
                      
                      
                      
                      2,610,599Deferred
      tax liabilities (note 16)
                      
                      
                      277,337
                      
                      
                      
                      -Total
      current liabilities
                      
                      
                      101,121,574
                      
                      
                      
                      135,917,248Long-term
      bank loans (note 12)
                      
                      
                      36,593,041
                      
                      
                      
                      35,341,413Long-term
      bonds payable (note 11)
                      
                      
                      11,709,773
                      
                      
                      
                      -Total
      liabilities
                      
                      
                      149,424,388
                      
                      
                      
                      171,258,661


F-3


HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.


CONSOLIDATED
BALANCE SHEETS


(In
US Dollars)





June 30,2009
                
                
                2010Commitments
      and contingencies (note 21)
                
                
                -
                
                
                
                -EquityCommon
      stock, par value $0.001 per share, 100,000,000 shares authorized,
      49,942,614 and 54,449,129 shares issued and outstanding (note
      13)
                
                
                49,943
                
                
                
                54,450Additional
      paid-in capital
                
                
                131,220,209
                
                
                
                138,751,162Appropriated
      earnings
                
                
                15,135,442
                
                
                
                17,396,777Retained
      earnings
                
                
                13,232,254
                
                
                
                38,936,792Accumulated
      comprehensive income - translation adjustments
                
                
                13,902,045
                
                
                
                17,557,544Total
      Hollysys Automation Technologies Ltd. stockholder’s equity
                
                
                173,539,893
                
                
                
                212,696,725Non-controlling
      interests
                
                
                22,479,241
                
                
                
                774,865Total
      equity
                
                
                196,019,134
                
                
                
                213,471,590Total
      liabilities and equity
                
                $
                345,443,522
                
                
                $
                384,730,251





See
accompanying notes to consolidated financial statements


F-4


HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.


CONSOLIDATED
STATEMENTS OF INCOME AND COMPREHENSIVE INCOME


(In
US Dollars)





Year Ended June 30,2008
                                    
                                    
                                    2009
                                    
                                    
                                    2010RevenuesIntegrated
      contract revenue
                                    
                                    $
                                    112,357,126
                                    
                                    
                                    $
                                    149,303,309
                                    
                                    
                                    $
                                    164,118,183Products
      sales
                                    
                                    
                                    9,141,626
                                    
                                    
                                    
                                    8,198,758
                                    
                                    
                                    
                                    9,971,013Total
      revenues
                                    
                                    
                                    121,498,752
                                    
                                    
                                    
                                    157,502,067
                                    
                                    
                                    
                                    174,089,196Cost
      of integrated contracts
                                    
                                    
                                    81,414,648
                                    
                                    
                                    
                                    99,423,487
                                    
                                    
                                    
                                    110,268,475Cost
      of products sold
                                    
                                    
                                    3,456,398
                                    
                                    
                                    
                                    3,500,471
                                    
                                    
                                    
                                    3,668,899Gross
      profit
                                    
                                    
                                    36,627,706
                                    
                                    
                                    
                                    54,578,109
                                    
                                    
                                    
                                    60,151,882Operating
      expensesSelling
                                    
                                    
                                    9,680,284
                                    
                                    
                                    
                                    10,021,832
                                    
                                    
                                    
                                    12,152,019General
      and administrative
                                    
                                    
                                    26,588,771
                                    
                                    
                                    
                                    48,981,078
                                    
                                    
                                    
                                    13,914,091Research
      and development
                                    
                                    
                                    3,833,925
                                    
                                    
                                    
                                    8,829,402
                                    
                                    
                                    
                                    13,071,318VAT
      refunds and government subsidies
                                    
                                    
                                    (9,319,812
                                    )
                                    
                                    
                                    (7,703,724
                                    )
                                    
                                    
                                    (11,533,006
                                    )Total
      operating expenses
                                    
                                    
                                    30,783,168
                                    
                                    
                                    
                                    60,138,588
                                    
                                    
                                    
                                    27,604,422Income
      (loss) from operations
                                    
                                    
                                    5,844,538
                                    
                                    
                                    
                                    (5,550,479
                                    )
                                    
                                    
                                    32,547,460Other
      income (expense), net
                                    
                                    
                                    14,936
                                    
                                    
                                    
                                    723,269
                                    
                                    
                                    
                                    (215,277
                                    )Share
      of net income of equity investees
                                    
                                    
                                    693,115
                                    
                                    
                                    
                                    178,167
                                    
                                    
                                    
                                    3,958,073Interest
      expense, net
                                    
                                    
                                    (4,304,170
                                    )
                                    
                                    
                                    (954,078
                                    )
                                    
                                    
                                    (1,070,772
                                    )Income
      (loss) before income taxes
                                    
                                    
                                    2,248,419
                                    
                                    
                                    
                                    (5,603,121
                                    )
                                    
                                    
                                    35,219,424Income
      taxes expenses (note 16)
                                    
                                    
                                    1,092,477
                                    
                                    
                                    
                                    3,061,141
                                    
                                    
                                    
                                    7,663,433Net
      Income (loss)
                                    
                                    
                                    1,155,942
                                    
                                    
                                    
                                    (8,664,262
                                    )
                                    
                                    
                                    27,555,991Less:
      Net income attributable to non-controlling interest
                                    
                                    
                                    2,833,120
                                    
                                    
                                    
                                    5,186,802
                                    
                                    
                                    
                                    1,851,453Net income (loss) attributable to HollysysAutomation
      Technologies Ltd.
                                    
                                    $
                                    (1,677,178
                                    )
                                    
                                    $
                                    (13,851,064
                                    )
                                    
                                    $
                                    25,704,538Other
      comprehensive income (loss)Net
      income (loss)
                                    
                                    $
                                    1,155,942
                                    
                                    
                                    $
                                    (8,664,262
                                    )
                                    
                                    $
                                    27,555,991Translation
      adjustments
                                    
                                    
                                    13,935,840
                                    
                                    
                                    
                                    605,582
                                    
                                    
                                    
                                    1,219,809Comprehensive
      income  (loss)
                                    
                                    $
                                    15,091,782
                                    
                                    
                                    $
                                    (8,058,680
                                    )
                                    
                                    $
                                    28,775,800Less:
      Comprehensive income attributable to non-controlling
      interest
                                    
                                    
                                    7,278,328
                                    
                                    
                                    
                                    5,254,351
                                    
                                    
                                    
                                    1,876,297Comprehensive
      income  (loss) attributable to Hollysys Automation
      Technologies Ltd.
                                    
                                    $
                                    7,813,454
                                    
                                    
                                    $
                                    (13,313,031
                                    )
                                    
                                    $
                                    26,899,503Net
      income (loss) per share (note 17)Weighted
      average number of common shares
                                    
                                    
                                    37,658,437
                                    
                                    
                                    
                                    44,950,833
                                    
                                    
                                    
                                    51,243,667Weighted
      average number of diluted common shares
                                    
                                    
                                    37,658,437
                                    
                                    
                                    
                                    44,950,833
                                    
                                    
                                    
                                    51,838,294Basic
      earnings (loss) per share attributable to Hollysys Automation Technologies
      Ltd.
                                    
                                    $
                                    (0.04
                                    )
                                    
                                    $
                                    (0.31
                                    )
                                    
                                    $
                                    0.50Diluted
      earnings (loss) per share Hollysys Automation Technologies
      Ltd.
                                    
                                    $
                                    (0.04
                                    )
                                    
                                    $
                                    (0.31
                                    )
                                    
                                    $
                                    0.50





See
accompanying notes to consolidated financial statements


F-5


HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.


CONSOLIDATED
STATEMENTS OF CASH FLOWS


(In
US Dollars)





Year ended June 30,2008
                    
                    
                    2009
                    
                    
                    2010Cash
      flows from operating activities:Net
      income (loss)
                    
                    $
                    1,155,942
                    
                    
                    $
                    (8,664,262
                    )
                    
                    $
                    27,555,991Adjustments
      to reconcile net income to net cash provided by (used in) operating
      activities:Depreciation
      and amortization
                    
                    
                    1,817,657
                    
                    
                    
                    2,241,344
                    
                    
                    
                    2,683,042Allowance
      for doubtful accounts
                    
                    
                    3,439,486
                    
                    
                    
                    1,145,770
                    
                    
                    
                    2,790,078Provision
      for inventories
                    
                    
                    207,660
                    
                    
                    
                    517,694
                    
                    
                    
                    1,279,406Loss
      on disposal of property, plant and equipment
                    
                    
                    47,123
                    
                    
                    
                    58,133
                    
                    
                    
                    14,112Impairment
      loss on goodwill
                    
                    
                    99,439
                    
                    
                    
                    -
                    
                    
                    
                    286,610Impairment
      loss on property, plant and equipment
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    715,246Impairment
      loss on long-term investment
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    152,732Share
      of net gains from equity investees
                    
                    
                    (693,115
                    )
                    
                    
                    (178,167
                    )
                    
                    
                    (3,958,073
                    )Gain
      on disposal of long term investments
                    
                    
                    (112,113
                    )
                    
                    
                    (400,556
                    )
                    
                    
                    -Dividend
      income
                    
                    
                    (160,599
                    )
                    
                    
                    -
                    
                    
                    
                    -Amortization
      of expenses accrued for bond payable
                    
                    
                    30,472
                    
                    
                    
                    61,222
                    
                    
                    
                    61,281Amortization
      of discount to notes payable
                    
                    
                    2,420,064
                    
                    
                    
                    -
                    
                    
                    
                    -Stock-based
      compensation
                    
                    
                    17,084,473
                    
                    
                    
                    39,559,026
                    
                    
                    
                    524,076Deferred
      tax assets (liabilities), net
                    
                    
                    (1,752,773
                    )
                    
                    
                    530,229
                    
                    
                    
                    (885,014
                    )Loss
      on deemed acquisition of a subsidiary
                    
                    
                    -
                    
                    
                    
                    18,962
                    
                    
                    
                    -Changes
      in operating assets and liabilities:Accounts
      receivable
                    
                    
                    (18,558,732
                    )
                    
                    
                    2,517,399
                    
                    
                    
                    (10,131,840
                    )Cost
      and estimated earnings in excess of billings
                    
                    
                    (366,146
                    )
                    
                    
                    (8,301,687
                    )
                    
                    
                    (10,191,299
                    )Inventories
                    
                    
                    (11,009,643
                    )
                    
                    
                    5,311,489
                    
                    
                    
                    (5,996,365
                    )Advance
      to suppliers
                    
                    
                    1,140,427
                    
                    
                    
                    (861,429
                    )
                    
                    
                    (2,598,327
                    )Other
      receivables
                    
                    
                    (670,490
                    )
                    
                    
                    (573,733
                    )
                    
                    
                    (93,051
                    )Deposits
      and other assets
                    
                    
                    (1,037,802
                    )
                    
                    
                    (1,975,917
                    )
                    
                    
                    1,497,584Due
      from related parties
                    
                    
                    (2,079,884
                    )
                    
                    
                    (4,581,972
                    )
                    
                    
                    (3,143,615
                    )Accounts
      payable
                    
                    
                    851,596
                    
                    
                    
                    13,056,177
                    
                    
                    
                    5,032,941Deferred
      revenue
                    
                    
                    9,054,759
                    
                    
                    
                    397,735
                    
                    
                    
                    12,480,428Accruals
      and other payable
                    
                    
                    (3,832,166
                    )
                    
                    
                    (2,748,314
                    )
                    
                    
                    5,953,753Due
      to related parties
                    
                    
                    713,573
                    
                    
                    
                    (17,671
                    )
                    
                    
                    1,145,916Tax
      payable
                    
                    
                    (1,720,281
                    )
                    
                    
                    3,015,986
                    
                    
                    
                    4,970,204Net
      cash provided by (used in) operating activities
                    
                    
                    (3,931,073
                    )
                    
                    
                    40,127,458
                    
                    
                    
                    30,145,816Cash
      flows from investing activities:Purchase
      of property, plant and equipment
                    
                    
                    (10,030,305
                    )
                    
                    
                    (8,728,334
                    )
                    
                    
                    (20,918,968
                    )Proceeds
      from disposal of property, plant and equipment
                    
                    
                    181,416
                    
                    
                    
                    13,271
                    
                    
                    
                    9,251Receipt
      from short-term investment, net
                    
                    
                    926,016
                    
                    
                    
                    -
                    
                    
                    
                    -Repayment
      from (Advance to) related parties
                    
                    
                    (2,338,112
                    )
                    
                    
                    1,134,090
                    
                    
                    
                    653,325Acquisition
      of long term investments
                    
                    
                    (693,980
                    )
                    
                    
                    (3,895,781
                    )
                    
                    
                    (1,001,569
                    )Proceeds
      from disposal of long term investments
                    
                    
                    225,487
                    
                    
                    
                    2,103,136
                    
                    
                    
                    -Dividends
      from long term investments
                    
                    
                    160,599
                    
                    
                    
                    69,568
                    
                    
                    
                    58,640Acquisition
      of a subsidiary, net of cash acquired
                    
                    
                    (296,873
                    )
                    
                    
                    (439,374
                    )
                    
                    
                    (279,120
                    )Deposit
      for acquisition of equity interest from  non-controlling
      interest
                    
                    
                    -
                    
                    
                    
                    (2,196,869
                    )
                    
                    
                    -Net
      cash used in investing activities
                    
                    
                    (11,865,752
                    )
                    
                    
                    (11,940,293
                    )
                    
                    
                    (21,478,441
                    )


F-6


HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.


CONSOLIDATED
STATEMENTS OF CASH FLOWS – Continued


(In
US Dollars)





Year ended June 30,2008
                                    
                                    
                                    2009
                                    
                                    
                                    2010Cash
      flows from financing activities:Repayments
      of notes payable
                                    
                                    
                                    (29,987,000
                                    )
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Proceeds
      from short-term loans
                                    
                                    
                                    8,840,049
                                    
                                    
                                    
                                    5,858,317
                                    
                                    
                                    
                                    -Repayments
      of short-term loans
                                    
                                    
                                    (21,760,122
                                    )
                                    
                                    
                                    (4,393,738
                                    )
                                    
                                    
                                    (4,397,989
                                    )Proceeds
      from long-term bank loans
                                    
                                    
                                    4,760,027
                                    
                                    
                                    
                                    36,614,479
                                    
                                    
                                    
                                    -Repayments
      of long-term bank loans
                                    
                                    
                                    (3,400,019
                                    )
                                    
                                    
                                    (2,196,869
                                    )
                                    
                                    
                                    (5,130,987
                                    )Proceeds
      from issuance of bonds
                                    
                                    
                                    11,480,507
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Cash
      injected by non-controlling interest
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    718,338Proceeds
      from exercise of warrants, net
                                    
                                    
                                    57,212,497
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Net
      cash inflow from the Share Exchange Transaction
                                    
                                    
                                    32,062,388
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -Acquisition
      of equity interest from non-controlling interest
                                    
                                    
                                    -
                                    
                                    
                                    
                                    -
                                    
                                    
                                    
                                    (10,373,600
                                    )Net
      cash provided by (used in) financing activities
                                    
                                    
                                    59,208,327
                                    
                                    
                                    
                                    35,882,189
                                    
                                    
                                    
                                    (19,184,238
                                    )Effect
      of foreign exchange rate changes
                                    
                                    
                                    9,170,295
                                    
                                    
                                    
                                    562,754
                                    
                                    
                                    
                                    1,136,142Net
      increase (decrease) in cash and cash equivalents
                                    
                                    $
                                    52,581,797
                                    
                                    
                                    $
                                    64,632,108
                                    
                                    
                                    $
                                    (9,380,721
                                    )Cash
      and cash equivalents, beginning of year
                                    
                                    
                                    11,668,761
                                    
                                    
                                    
                                    64,250,558
                                    
                                    
                                    
                                    128,882,666Cash
      and cash equivalents, end of year
                                    
                                    $
                                    64,250,558
                                    
                                    
                                    $
                                    128,882,666
                                    
                                    
                                    $
                                    119,501,945Supplementary
      disclosures of cash flow information:Cash
      paid during the year for:Interest,
      net of capitalized interest cost
                                    
                                    $
                                    3,970,009
                                    
                                    
                                    $
                                    2,576,444
                                    
                                    
                                    $
                                    2,227,667Income
      tax
                                    
                                    $
                                    4,129,065
                                    
                                    
                                    $
                                    2,758,695
                                    
                                    
                                    $
                                    5,074,938Supplementary
      disclosures of significant non-cash transactions:Deemed
      collection of note receivable from the sole stockholder
                                    
                                    $
                                    30,000,000
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -Issuance
      of common stock in connection of  acquisition of equity interest in a
      subsidiary from  non-controlling interest
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    53,011,515Issuance
      of additional common stock upon exercise of UPO
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    -
                                    
                                    
                                    $
                                    93





See
accompanying notes to consolidated financial statements.


F-7


HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.


CONSOLIDATED
STATEMENTS OF EQUITY - Continued


(In
US Dollars)





Common Stock
                                      
                                      
                                      Preferred Stock
                                      
                                      
                                      Additional
                                        Paid-in
                                        Capital
                                      
                                      
                                      Note
                                        Receivable
                                      
                                      
                                      Appropriated
                                        Earnings
                                      
                                      
                                      Retained
                                        Earnings
                                      
                                      
                                      Accumulated
                                        Comprehensive
                                        Income
                                      
                                      
                                      Total Hollysys
                                        Automation
                                        Technologies
                                        Ltd.
                                        Stockholder’s
                                        Equity
                                      
                                      
                                      Non-
                                        controlling
                                        Interest
                                      
                                      
                                      Total EquityShares
                                      
                                      
                                      Amount
                                      
                                      
                                      Shares
                                      
                                      
                                      AmountBalance
      at June 30, 2007
                                      
                                      
                                      22,200,000
                                      
                                      
                                      $
                                      22,200
                                      
                                      
                                      
                                      1,300,000
                                      
                                      
                                      $
                                      1,300
                                      
                                      
                                      $
                                      19,234,295
                                      
                                      
                                      $
                                      (30,000,000
                                      )
                                      
                                      $
                                      8,768,174
                                      
                                      
                                      $
                                      35,127,764
                                      
                                      
                                      $
                                      3,873,380
                                      
                                      
                                      $
                                      37,027,113
                                      
                                      
                                      $
                                      13,200,169
                                      
                                      
                                      $
                                      50,227,282Recapitalzation
      in connection with Share Exchange Transaction
                                      
                                      
                                      7,000,000
                                      
                                      
                                      
                                      7,000
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      28,149,361
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      28,156,361
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      28,156,361Deemed
      collection of note receivable from sole stockholders
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      30,000,000
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      30,000,000
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      30,000,000Deemed
      distribution
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      (30,000,000
                                      )
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      (30,000,000
                                      )
                                      
                                      
                                      -
                                      
                                      
                                      
                                      (30,000,000
                                      )Incentive
      stock compensation
                                      
                                      
                                      2,000,000
                                      
                                      
                                      
                                      2,000
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      17,082,473
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      17,084,473
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      17,084,473Conversion
      of preferred stock into common stock
                                      
                                      
                                      1,300,000
                                      
                                      
                                      
                                      1,300
                                      
                                      
                                      
                                      (1,300,000
                                      )
                                      
                                      
                                      (1,300
                                      )
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -Issuance
      of common stock upon exercise of warrants
                                      
                                      
                                      11,442,614
                                      
                                      
                                      
                                      11,443
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      57,201,054
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      57,212,497
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      57,212,497Net
      loss for the year
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      (1,677,178
                                      )
                                      
                                      
                                      -
                                      
                                      
                                      
                                      (1,677,178
                                      )
                                      
                                      
                                      2,833,120
                                      
                                      
                                      
                                      1,155,942Appropriation
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      2,908,102
                                      
                                      
                                      
                                      (2,908,102
                                      )
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      -Translation
      adjustments
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      9,490,632
                                      
                                      
                                      
                                      9,490,632
                                      
                                      
                                      
                                      1,612,088
                                      
                                      
                                      
                                      11,102,720Balance
      at June 30, 2008
                                      
                                      
                                      43,942,614
                                      
                                      
                                      $
                                      43,943
                                      
                                      
                                      
                                      -
                                      
                                      
                                      $
                                      -
                                      
                                      
                                      
                                      91,667,183
                                      
                                      
                                      $
                                      -
                                      
                                      
                                      $
                                      11,676,276
                                      
                                      
                                      $
                                      30,542,484
                                      
                                      
                                      $
                                      13,364,012
                                      
                                      
                                      $
                                      147,293,898
                                      
                                      
                                      $
                                      17,645,377
                                      
                                      
                                      $
                                      164,939,275


F-8


HOLLYSYS
AUTOMATION TECHNOLOGIES LTD.


CONSOLIDATED
STATEMENTS OF EQUITY – Continued


(In
US Dollars)





Common Stock
                      
                      
                      Preferred Stock
                      
                      
                      Additional
                        Paid-in Capital
                      
                      
                      Appropriated
                        Earnings
                      
                      
                      Retained
                        Earnings
                      
                      
                      Accumulated
                        Comprehensive
                        Income
                      
                      
                      Total
                        Hollysys
                        Automation
                        Technologies
                        Ltd.
                        Stockholder’s
                        Equity
                      
                      
                      Non-
                        controlling
                        Interest
                      
                      
                      Total EquityShares
                      
                      
                      Amount
                      
                      
                      Shares
                      
                      
                      AmountBalance
      at June 30, 2008
                      
                      
                      43,942,614
                      
                      
                      $
                      43,943
                      
                      
                      
                      -
                      
                      
                      $
                      -
                      
                      
                      $
                      91,667,183
                      
                      
                      $
                      11,676,276
                      
                      
                      $
                      30,542,484
                      
                      
                      $
                      13,364,012
                      
                      
                      $
                      147,293,898
                      
                      
                      $
                      17,645,377
                      
                      
                      $
                      164,939,275Incentive
      stock compensation
                      
                      
                      6,000,000
                      
                      
                      
                      6,000
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      39,553,026
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      39,559,026
                      
                      
                      
                      -
                      
                      
                      
                      39,559,026Acquisition
      of additional equity interest in a subsidiary
      from  non-controlling interest
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      (420,487
                      )
                      
                      
                      (420,487
                      )Net
      loss for the year
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      (13,851,064
                      )
                      
                      
                      -
                      
                      
                      
                      (13,851,064
                      )
                      
                      
                      5,186,802
                      
                      
                      
                      (8,664,262
                      )Appropriation
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      3,459,166
                      
                      
                      
                      (3,459,166
                      )
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -Translation
      adjustments
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      538,033
                      
                      
                      
                      538,033
                      
                      
                      
                      67,549
                      
                      
                      
                      605,582Balance
      at June 30, 2009
                      
                      
                      49,942,614
                      
                      
                      $
                      49,943
                      
                      
                      
                      -
                      
                      
                      $
                      -
                      
                      
                      $
                      131,220,209
                      
                      
                      $
                      15,135,442
                      
                      
                      $
                      13,232,254
                      
                      
                      $
                      13,902,045
                      
                      
                      $
                      173,539,893
                      
                      
                      $
                      22,479,241
                      
                      
                      $
                      196,019,134Incentive
      stock compensation
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      524,076
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      524,076
                      
                      
                      
                      -
                      
                      
                      
                      524,076Acquisition
      of additional equity interest in a subsidiary
      from  non-controlling interest
                      
                      
                      4,413,948
                      
                      
                      
                      4,414
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      7,006,970
                      
                      
                      
                      2,261,335
                      
                      
                      
                      -
                      
                      
                      
                      2,460,534
                      
                      
                      
                      11,733,253
                      
                      
                      
                      (24,305,847
                      )
                      
                      
                      (12,572,594
                      )Acquisition
      of a subsidiary
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      7,548
                      
                      
                      
                      7,548Capital
      contribution from non-controlling interests
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      717,626
                      
                      
                      
                      717,626Issuance
      of common stock upon exercise of UPO
                      
                      
                      92,567
                      
                      
                      
                      93
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      (93
                      )
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -Net
      Income for the year
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      25,704,538
                      
                      
                      
                      -
                      
                      
                      
                      25,704,538
                      
                      
                      
                      1,851,453
                      
                      
                      
                      27,555,991Translation
      adjustments
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      1,194,965
                      
                      
                      
                      1,194,965
                      
                      
                      
                      24,844
                      
                      
                      
                      1,219,809Balance
      at June 30, 2010
                      
                      
                      54,449,129
                      
                      
                      $
                      54,450
                      
                      
                      
                      -
                      
                      
                      $
                      -
                      
                      
                      $
                      138,751,162
                      
                      
                      $
                      17,396,777
                      
                      
                      $
                      38,936,792
                      
                      
                      $
                      17,557,544
                      
                      
                      $
                      212,696,725
                      
                      
                      $
                      774,865
                      
                      
                      $
                      213,471,590





See
accompanying notes to consolidated financial statements.


F-9





NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





NOTE
1 - ORGANIZATION AND BUSINESS BACKGROUND





Hollysys
Automation Technologies Ltd. (“Hollysys” or the “Company”), formerly known as
HLS Systems International Ltd. was established under the laws of the British
Virgin Islands (“BVI”) on February 6, 2006 for the purpose to merge with Chardan
North China Acquisition Corporation (“Chardan”), and to hold 100% interest in
Gifted Time Holdings Limited (“GTH”) upon the completion of a share exchange
transaction (the “Share Exchange Transaction”) as details described in Note 2 to
the consolidated financial statements.





On
September 7, 2007, the shareholders of Chardan held a special meeting to vote
for the Share Exchange Transaction. Of the 7 million shares of common stock
outstanding, the holder of only two shares voted against for the Share Exchange
Transaction. In terms of the voting result, Chardan merged with and into
Hollysys finishing the re-domestication merger and Hollysys consummated the
Share Exchange Transaction with GTH.





Upon
completion of the Share Exchange Transaction, Hollysys owns 100% interest in
GTH, which held 74.11% beneficiary interest of Beijing Hollysys Co., Ltd.
(“Beijing HollySys”) and 60% equity interest of Hangzhou HollySys Automation
Co., Ltd. (“Hangzhou HollySys”). Beijing Hollysys held the remaining 40% equity
interest of Hangzhou Hollysys.





The
Company is principally engaged in manufacture, sale and provision of integrated
automation systems and services in the PRC mainly through its Chinese operating
subsidiaries, Beijing Hollysys, Hangzhou Hollysys and Beijing HollySys
Automation & Drive Co., Ltd. (“Hollysys Automation”).





Beijing
Hollysys was established on September 25, 1996 under the laws of PRC with a
registered capital of RMB100 million and a 30-year operation life. Beijing
HollySys has conducted its business focusing on industrial automation systems
which are used in many industries including power generating, electric grid,
computer controlled manufacturing, chemistry, cement, petrochemical, glass
manufacturing, pharmaceutical, etc. and integrated automation control systems
including monitoring systems, signal distributing systems and other control
systems mainly used in city railway transportation.





Hangzhou
Hollysys, a foreign investment enterprise, was set up on September 24, 2003.
Hangzhou HollySys uses the technologies provided by Beijing HollySys and mainly
manufactures the integrated system automation products in Southern PRC for
expanding market share and market presence purpose.





Hollysys
Automation was established on May 13, 2008. Hollysys Automation is engaged in
the automation and drive businesses, with core products including industrial
control motor, servo and encoder, inverter, numeric and motion controls, with a
view to sustain future business growth of Hollysys and to expand its product
lines.





During
the period from December 2007 to March 2008, Hollysys has established a series
of wholly owned subsidiaries, namely (i) Beijing Hollysys S&T Exploration
Co., Ltd. (“Hollysys S&T”), a established Chinese domestic enterprise which
took up 74.11% ownership of Beijing Hollysys; (ii) Beijing He Li Tong S&T
Exploration Co., Ltd. (“BJHLT”), a established wholly foreign owned enterprise
in China which took up 100% ownership of Hollysys S&T; (iii) World Hope
Enterprises Limited, a established Hong Kong company which took up 100%
ownership of BJHLT; (iv) Clear Mind Limited, a established BVI company which
took up 100% ownership of World Hope Enterprises Limited, and Clear Mind Limited
is 100% owned by GTH.  Through this series of ownership
arrangement,  Hollysys obtained the 74.11% legal ownership of Beijing
Hollysys instead of through consignment agreements. However, there can be no
assurance that the PRC authorities will not, in future, challenge the
appropriateness of the procedures completed in transferring the ownership of the
PRC subsidiaries as the Company did not directly go through the procedures
required by the “Regulation of
Merger and Acquisition of PRC Enterprises by Foreign
Investors”.





On
November 19, 2007, Hollysys entered into a sale and purchase agreement with
Fulbond Systems Pte Ltd (the “Fulbond Systems”), which is a Singapore based
company and partially owned by Mr. Yau Kiam Fee, who was a member of Board of
Directors of Hollysys prior to May 14, 2010, to acquire 100% interest of Fulbond
Systems for a price of SGD$1,066,234 (equivalent to
$744,596).  Pursuant to the sale and purchase agreement, the closing
day of this acquisition was November 30, 2007 and after the ownership transfer,
Fulbond System was renamed to HollySys (Asia Pacific) Pte Ltd.  The
purchase price of $744,596 was paid in cash on December 11, 2007.  HAP
becomes the wholly owned subsidiary of Hollysys and the operating result of HAP
was included in the Hollysys’s consolidated financial statements with effective
from December 1, 2007.  Hollysys acquired HAP and to establish the
latter as an Asia Pacific headquarter to market its automation products within
the region and other overseas countries.


F-10


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





The
Company hired a third party valuation service provider to provide a valuation
report about the fair value of the assets acquired and liabilities
assumed.  Based on that valuation report, the purchase price was
allocated as follows:





November 30, 2007Property,
      plant and equipment, net
                          
                          $
                          18,092Goodwill
                          
                          
                          99,439Inventories
                          
                          
                          66,502Trade
      receivables
                          
                          
                          84,626Other
      receivables
                          
                          
                          58,087Cash
      and cash equivalents
                          
                          
                          447,723Trade
      payables
                          
                          
                          (21,052
                          )Other
      payables
                          
                          
                          (8,821
                          )Total
      purchase price
                          
                          $
                          744,596Satisfied
      by:Cash
      paid
                          
                          $
                          744,596





Analysis
of net outflow of cash and cash equivalents in respect of the purchase of the
subsidiary:





Cash
      consideration paid
                    
                    $
                    744,596Cash
      and bank balances acquired on consolidation
                    
                    
                    (447,723
                    )Total
      net cash paid in the acquisition
                    
                    $
                    296,873





The
goodwill from the acquisition of HAP is expected to be non-deductible for tax
purposes.





On May
13, 2008, Hollysys S&T invested RMB 70 million (equivalent to $10,205,421)
to establish HollySys Automation.





On
October 6, 2008, Beijing Hollysys and the 30% non-controlling interest holder of
Beijing Haotong Science & Technology Development Company Limited(“Haotong”)
agreed to reduce paid-in capital of Haotong from RMB 10 million (equivalent to
$1,464,579) to RMB 7 million (equivalent to $1,025,205). Haotong reduced the
paid-in capital by paying RMB 3 million  (equivalent to $439,374) to
the 30% minority interest holder. Upon completion of the reduction in capital,
Haotong became a wholly owned subsidiary of Beijing HollySys. The Company’s
effective equity interest in Haotong therefore increased from 51.88% to
74.11%.





On July
1, 2009, Hollysys S&T acquired 1.78% equity interest on Beijing Hollysys
from the non-controlling interest holder, at a cash consideration of RMB 18
million (equivalent to $2,638,793). On January 1, 2010, Hollysys S&T
acquired 24.11% equity interest on Beijing Hollysys from the non-controlling
interest holder, by issuing 4,413,948 shares of common stock of the Company,
with fair value of $53,011,515 and making cash payment of RMB 67.63 million
(equivalent to $9,936,203). Upon  completion of the acquisition from
non-controlling interests, the Company held 100% equity interest in Beijing
Hollysys. As a result, Hangzhou Hollysys and Haotong also became the Company’s
wholly owned subsidiaries.





According
to ASC Topic 810-10 Consolidation, these
non-controlling interests acquisitions were recognized as equity transactions,
and the difference between the consideration paid and the carrying amount of the
1.78% and 24.11% equity interest in Beijing Hollysys amounted approximately to
$1,414,108 and US$ 44,586,023  was recognized in additional paid in
capital in July 2009 and January 2010 respectively.





On
September 1, 2009, Beijing Hollysys acquired 51% equity interest of Beijing WoDe
WeiYe Technology Limited (WoDeWeiYe”), which was principally engaged in
intelligent electric meter business, at a cash consideration of RMB2 million
(equivalent to $294,422), to further build up its foothold in subway automation
sector. The identifiable net assets of acquiree was insignificant and a goodwill
of $286,567, comprised the value of expected synergy arising from acquisition,
was recognized and impaired during the year.  The total net cash paid
in this acquisition was $279,120. The amounts of WoDeWeiYe’s revenue and
earnings included in the Company’s consolidated statement of income for the year
ended June 30, 2010, and the revenue and earnings of WoDeWeiYe had the
acquisition date been July 1, 2008, or July 1, 2009, are insignificant to the
Company’s result of operations.


F-11


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





In
February 2010, Hollysys re-organized the group structure of its PRC wholly owned
subsidiaries (the “Group Re-organization”). GTH and Beijing Hollysys, each held
60% and 40% equity interest of Hangzhou Hollysys respectively, transferred the
equity interest of 20% and 40% equity interest of  Hangzhou Hollysys,
respectively to Hollysys S&T at cost on February 3, 2010.  As a
result, GTH and Beijing S&T held 40% and 60% equity interest of Hangzhou,
without any change in the effective interest held by the Company before and
after the equity transfer.





Prior to
the equity transfer, on February 1, 2010, the board of directors of Hangzhou
Hollysys approved the resolution of dividend declaration amounted to RMB 513.27
million (equivalent to $75.25 million), on a one-off basis, , among which RMB
205.31 million(equivalent to $30.10 million) was distributable to Beijing
Hollysys, and RMB 307.96 million (equivalent to $45.15 million) distributable to
GTH.





Pursuant
to PRC Enterprise Income Tax Law, Hangzhou Hollysys, a foreign investment
enterprise, is obligated to withhold income tax on dividends pay-out to GTH, a
foreign enterprise and non-resident, for the earnings retained after January 1,
2008. Out of the total dividends of RMB 307.96 million (equivalent to $45.15
million) million distributable to GTH, RMB 210.24 million (equivalent to $30.82
million)  has been retained after January 1, 2008. As a result,
Hangzhou Hollysys withhold RMB 21.04 million (equivalent to $3.08 million)
income tax for the dividends distributable to GTH based on the tax rate of 10%
in accordance to the tax treaty between the PRC and BVI.





Hangzhou
Hollysys  is also obligated to withhold the income tax for the gain on
disposal of equity interest. Pursuant to PRC Enterprise Income Tax Law, the
consideration of equity transfer shall be adjusted to fair value for taxation
purpose. The Company engaged a third party valuer, to value the equity interest
of Hangzhou Hollysys as of February 3, 2010, the date of transfer. The fair
value of the equity interest in Hangzhou was approximately $34.85
million.





As a
result, Hangzhou Hollysys withholds RMB2.34 million (equivalent to $0.34
million) income tax for GTH in respect of the gain on disposal of equity
interest based on the tax rate of 10% in accordance to the tax treaty between
the PRC and BVI. Beijing Hollysys accrued RMB7.02 million (equivalent to $1.03
million) income tax in respect of the gain on disposal of equity interest based
on Beijing Hollysys’ applicable enterprise income tax rate.





On June
4, 2010, Hollysys S&T invested RMB 10 million (equivalent to $1,464,536) to
establish a wholly owned subsidiary, Beijing Hollysys Electronics Technology
Co., Ltd. (“Hollysys Electronics”), to engage in automation equipment
manufacturing and assembly.





On June
4, 2010, Hollysys S&T invested RMB 5.10 million (equivalent to $746,913) to
establish a subsidiary, Beijing Hollycon Med. & Tech. Co., Ltd.
(“Hollycon”), to engage in medical automation equipment
business.


F-12


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





As of
June 30, 2010, details of the Company’s subsidiaries are as
follows:





Name of company
                  
                  Place of
                    incorporation
                  
                  Date of
                    incorporation
                  
                  Percentage of ownership
                    interest attributable to the
                    Company
                  
                  
                  Principal activitiesDirectly
                  
                  
                  IndirectlyGTH
                  
                  BVI
                  
                  September
      21, 2005
                  
                  
                  100
                  %
                  
                  
                  -
                  
                  
                  Investment
      holdingHollySys
      (Asia Pacific) Pte.Limited
      (“HAP”)
                  
                  Singapore
                  
                  October  23,
      1997
                  
                  
                  100
                  %
                  
                  
                  -
                  
                  
                  Sale
      of integrated automation productsClear
      Mind Limited
                  
                  BVI
                  
                  November  29,
      2007
                  
                  
                  -
                  
                  
                  
                  100
                  %
                  
                  Investment
      holdingWorld
      Hope EnterprisesLimited
                  
                  Hong
      Kong
                  
                  September  17,
      2007
                  
                  
                  -
                  
                  
                  
                  100
                  %
                  
                  Investment
      holdingBJHLT
                  
                  People’s
      Republic of China (“PRC”)
                  
                  January  25,
      2008
                  
                  
                  -
                  
                  
                  
                  100
                  %
                  
                  Investment
      holdingHollysys
      S&T”
                  
                  PRC
                  
                  December
      17, 2007
                  
                  
                  -
                  
                  
                  
                  100
                  %
                  
                  Investment
      holdingHollysys
      Automation
                  
                  PRC
                  
                  May
      13, 2008
                  
                  
                  -
                  
                  
                  
                  100
                  %
                  
                  Manufacture
      and sale of integrated automation productsHangzhou
      HollySys
                  
                  PRC
                  
                  September  24,
      2003
                  
                  
                  -
                  
                  
                  
                  100
                  %
                  
                  Provision
      of integrated industrial automation products and
  servicesHollysys
      Electronics
                  
                  PRC
                  
                  June
      4, 2010
                  
                  
                  -
                  
                  
                  
                  100
                  %
                  
                  Manufacture
      and sale of automation equipmentHollycon
                  
                  PRC
                  
                  June
      4, 2010
                  
                  
                  -
                  
                  
                  
                  51
                  %
                  
                  Manufacture
      and sale of medical automation equipmentBeijing
      HollySys
                  
                  PRC
                  
                  September  25,
      1996
                  
                  
                  -
                  
                  
                  
                  100
                  %
                  
                  Provision
      of integrated automation systems and servicesHaotong
                  
                  PRC
                  
                  October
      26, 2000
                  
                  
                  -
                  
                  
                  
                  100
                  %
                  
                  DormantWoDeWeiYe
                  
                  PRC
                  
                  December
      31, 1997
                  
                  
                  -
                  
                  
                  
                  51
                  %
                  
                  Manufacture
      and sale of electric
components




F-13


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





NOTE
2 - COMPLETION OF SHARE EXCHANGE TRANSACTION





Chardan
Acquisition Corp. II (“Chardan II”) was incorporated in Delaware on March 10,
2005 as a blank check company whose objective is to acquire an operating
business that has its primary operating facilities in the PRC in any city or
province north of the Yangtze River.  Effective July 14, 2005, Chardan
II’s board of directors and initial stockholders authorized an amendment to the
Chardan II’s Certificate of Incorporation to change its name from Chardan China
Acquisition Corp. II to Chardan North China Acquisition
Corporation.





On
February 2, 2006, Chardan entered into a stock purchase agreement (the “Stock
Purchase Agreement”) with GTH to acquire 100% equity interest of GTH. The
agreement was amended subsequently, details are noted under Reorganization of
GTH prior to the completion of Share Transfer Transaction below.  Pursuant to the
amended Stock Purchase Agreement, Chardan was to effect re-domestication merger
by establishing a wholly-owned subsidiary on February 6, 2006 under the laws of
BVI, Hollysys.  Chardan was then merged with and into Hollysys for the
purpose of re-domestication out of the United States to secure future tax
benefits.  The re-domestication merger was achieved by a one-for-one
exchange of all the outstanding common stock of Chardan for common stock of
Hollysys and the assumption of all the rights and obligations of Chardan by
Hollysys, including assumption of the outstanding 11.5 million warrants of
Chardan on the same terms as they were originally issued.  Each
warrant entitles the holder to purchase one share of Hollysys common stock at a
price of $5.00 being exercisable immediately since September 20, 2007 and will
expire on December 17, 2007 or earlier upon redemption. In addition, Chardan
also granted the Unit Purchase Option (“UPO”) to the only underwriter pursuant
to which the underwriter can exercise such option to purchase an extra 250,000
unit at $7.50 per unit. Each unit represents one share of Chardan’s common stock
together with two warrants. The exercise price of these warrants was $6.65 per
share.





Concurrent
with the re-domestication merger, Hollysys acquired 100% equity interest of GTH
by issuing 23.5 million of Hollysys’ common shares and making cash payment of
$30 million; which made GTH a wholly owned subsidiary of Hollysys.  Of
the 23.5 million common shares, 22.2 million shares were issued to the owners of
GTH and the remaining 1.3 million shares were issued to the holders of 1.3
million preferred shares of GTH who already converted the preferred shares into
common stock of GTH on October 17, 2007. Those 1.3 million preferred share were
issued in conjunction with the bridge loan of $30 million. See details in
Reorganization of GTH prior to the completion of Share Transfer
Transaction.





As
additional purchase price, according to the latest amendment of the agreement
dated February 9, 2007, the stockholders of GTH and their designees will be
issued, on an all or none basis per year, an aggregate of 11 million common
shares of Hollysys (2 million shares each year for the first four years and 3
million shares for the fifth year), if, on a consolidated basis, Hollysys has
after-tax profits (excluding after-tax operating profits from any subsequent
acquisitions of securities that have a dilutive effect) in the following amounts
for the indicated 12-month periods ending December 31 below (the “Future Annual
Incentive Share Plan”):





12-Month Periods Ending December 31,
                    
                    After Tax Profit2007
                    
                    $
                    23,000,0002008
                    
                    
                    32,000,0002009
                    
                    
                    43,000,0002010
                    
                    
                    61,000,0002011
                    
                    
                    71,000,000





The
after-tax profits will be determined based on the accounting principles
generally accepted in the United States, adjusted to exclude after-tax operating
profits from any subsequent acquisition for securities that have a dilutive
effect and any charge to earnings that results from the issuance of such shares
for a prior year.





The
Company achieved the pre-determined after tax profit during the 12-month periods
ending December 31, 2007 and 2008, as a result, 2 million shares for each year
had been issued to the stockholders of GTH and their designees. In June 2009,
the Company has cancelled the Future Annual Incentive Share Plan for the
remaining terms of 12-month periods ending December 31, 2009, 2010 and 2011.
Further details have been set out in note 13 to the consolidated financial
statements.




F-14


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





On
September 7, 2007, the shareholders of Chardan held a special meeting to vote
for the Share Exchange Transaction.  Of the 7 million shares of common
stock outstanding, the holder of only two shares voted against for the Share
Exchange Transaction.  In terms of the voting result, Chardan merged
with and into Hollysys finishing the re-domestication merger and Hollysys
consummated the Share Exchange Transaction with GTH.





The
completion of the Share Exchange Transaction enabled the shareholders of GTH to
obtain a majority voting interest in Hollysys.  Generally accepted
accounting principles in the United States require that the company whose
shareholders retain the majority interest in a combined business be treated as
the acquirer for accounting purposes.  Accordingly, the aforementioned
Share Exchange Transaction was accounted for as a reverse acquisition of a
private operating company (GTH) with a non-operating public company (Chardan)
with significant amount of cash.  The reverse acquisition process
utilizes the capital structure of Hollysys and the assets and liabilities of GTH
are recorded at historical cost.  Although GTH is deemed to be the
accounting acquirer for financial accounting and reporting purposes, the legal
status of Hollysys as the surviving company do not change.





Under the
reverse acquisition accounting, the historical consolidated financial statements
of Hollysys for the periods prior to September 20, 2007 are those of GTH and its
subsidiaries.  Since GTH is deemed as accounting acquirer, GTH’s
fiscal year replaced Hollysys’ fiscal year.  The financial statements
of Hollysys reflect the aforementioned stock purchase transaction in the
stockholders’ equity statement through a line of reorganization and
recapitalization to present the net assets of Chardan as of September 20, 2007
and a line of deemed distribution to present the $30 million cash
payment.  The net assets of Chardan as of September 20, 2007 were as
follows:





September 20, 2007Net
      assets acquiredCash
                        
                        
                        $
                        32,062,388Other
      current assets
                        
                        
                        
                        60,000Accounts
      payable and accrued liabilities
                        
                        
                        
                        (2,266,112
                        )Tax
      effect due to the re-domestication transaction
                        Note
      (a)
                        
                        
                        (1,699,915
                        )$
                        28,156,361





Note
      (a)
            The
      $1,699,915 of tax effect due to the re-domestication transaction was
      actually based on the evidence and facts presented on the U.S. federal and
      state income returns filed by Chardan for the year ended December 31,
      2007.  An estimated amount of $1,903,509 was disclosed in previously
      filed Form 6-K.  Change of this tax effect had no impact on the
      Company’s consolidated statement of income for fiscal year ended June 30,
      2008.





Reorganization
of GTH prior to the completion of Share Transfer Transaction





In order
to effect the Share Exchange Transaction, the Stock Purchase Agreement entered
into between Chardan and GTH on February 2, 2006, which was amended on March 25,
2006, June 5, 2006, December 20, 2006, and February 9, 2007,
respectively.





In
November 2006, GTH and Chardan recognized that the closing of the Share Exchange
Transaction was going to be delayed far beyond what had been expected when the
Stock Purchase Agreement was originally signed in early February
2006.  The stockholders of GTH had obligations that required to be
satisfied by the end of 2006, and they discussed with Chardan ways to make that
cash consideration available.  Because Chardan believed that the
contemplated stock purchase was still in the best interest of its stockholders,
Chardan was willing to revise some aspects of the Stock Purchase Agreement to
accommodate the request from the stockholders of GTH.  As a result,
during the period from December 18 to 20, 2006, GTH, the owners (Seven BVI
Companies) of GTH and certain third parties completed a series of transactions
described below to change the ownership of GTH and to provide the former
stockholders of GTH with needed capital.  Chardan and Advance Pacific
Holdings Limited (“APH”), which became the sole stockholder of all of the issued
and outstanding ordinary shares of GTH as a result of these transactions,
reached consensus to amend the Stock Purchase Agreement to reflect the changed
stock ownership and the stock structure of GTH.





The first
transaction was the transfer by the Seven BVI Companies of their interests in
GTH to OSCAF International Limited (“OSCAF”), which is a related party and is
owned by Madame Qiao Li, who is the chairperson of Beijing
HollySys.


F-15


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





According
to the stock purchase agreement entered into among the Seven BVI Companies and
OSCAF on December 18, 2006, in exchange for GTH common stock, OSCAF will grant
the following consideration to the Seven BVI Companies: (a) upon the receipt by
OSCAF of cash payment of $30 million from APH, OSCAF shall make the payment of
$30 million and the accrued interest (if any) to the Seven BVI Companies
according to their respective proportion of shares in GTH; and (b) upon the
receipt by OSCAF of cash payment of $200 million from APH, OSCAF shall make the
payment of $200 million and the accrued interest (if any) to the Seven BVI
Companies in accordance with their stock proportion. This transfer was in
exchange for proportional interests in any consideration received by OSCAF
(including the principal and any interest payments on the promissory notes
issued by APH, as described below) on its sale of interests in GTH.





The
second transaction was the sale by OSCAF of 100% of the issued and outstanding
common stock of GTH, to APH, a BVI company, which is solely owned and controlled
by Mr. Cheng Ka Wa, a resident of Canada, on December 20, 2006.





APH
issued two notes, in exchange for the interest of GTH that it acquired both,
payable to OSCAF: (i) a note of $30 million and (ii) a note of $200
million.  In accordance with the stock purchase agreement between two
parties, APH expected to repay the notes from the combination of a bridge loan
of $30 million raised by GTH and the value of 22.2 million shares of the common
stock of Hollysys it would received upon closing of the contemplated stock
purchase transaction with Chardan. The amount of $200 million was derived from
the estimated value of 22.2 million shares of the common stock of Hollysys.
However, the closing price of Chardan’s stock on December 20, 2006 was $7.34,
which was below the price of $9.01 per share needed to pay the debt in full
(assuming that share price could be realized on all 22.2 million
shares).





Other
than its ownership of GTH’s shares, APH does not have any other material assets,
and Mr. Cheng did not provide any personal guarantee of payment of these two
notes issued to OSCAF.  In the event that APH defaults on the $30
million note, the GTH stock owned by APH would be returned through OSCAF to the
individual owners of the Seven BVI companies, and these two notes would be
cancelled.





If the
default occurs with respect to the $200 million note after the $30 million note
has been paid, which means that the value of 22.2 million shares of Hollysys’
stock is lower than $200 million, APH will be obligated to return the 22.2
million shares of Hollysys through OSCAF to the individual owners of the Seven
BVI Companies.  By design, APH intended to use the proceeds of the
loan that it obtained from GTH (as discussed below under Bridge Loan
Transaction) to pay the $30 million note to OSCAF.  As a result, only
the $200 million note issued by APH would remain outstanding, which was
originally matured on September 15, 2007, and was then extended to October 20,
2007 in accordance with the terms contained in the $200 million
note.   As of October 19, 2007, the maturity of the
aforementioned $200 million note was further extended to April 19,
2008.  In March 2008, the $200 million note was terminated and
cancelled as a result of a dismissal agreement (the “ Dismissal Agreement”)
further described below.





As a
result of these transactions, APH became the sole stockholder of
GTH.  As agreed between Madame Qiao Li and Mr. Cheng Ka Wa prior to
the consummation of these transactions, GTH adopted board resolutions to
recapitalize GTH as follows: (i) the authorized common shares of GTH were
increased from 50,000 shares with par value of $1.00 per share to 33.5 million
shares with par value of $0.01 per share, (ii) preferred shares were created
with an authorization of 1.5 million shares at par value of $0.01 per share; and
(iii) all of the then outstanding common shares with par value of $1.00 per
share held by APH were split into 5 million shares with par value of $0.01 per
share and GTH issued an additional 17.2 million ordinary shares to APH,
resulting in a total of 22.2 million common shares issued and
outstanding.  GTH then issued 1.3 million preferred shares to 15
outside investors in connection with the $30 million Bridge Loan Transaction
described below.  On October 17, 2007, the holders of 1.3 million
GTH’s preferred shares exercised their rights to convert their 1.3 million
shares of GTH’s preferred shares into 1.3 million Hollysys’ common
shares.  After that conversion, GTH had a total of 23.5 million common
shares issued and outstanding as of October 17, 2007.





As a
result of the above series of transactions, APH, received the $30 million cash
consideration, 22.2 million common shares issued by Hollysys to acquire
GTH.





On March
19, 2008, APH and Dr. Wang Changli, individually and on behalf of the parties
which had previously been stockholders of GTH, entered into a Dismissal
Agreement.  The Dismissal Agreement resulted in (i) the dismissal and
termination of the agreement by which APH acquired the GTH shares from the
former stockholders of GTH; (ii) the assignment to the former stockholders of
GTH of the shares of Hollysys stock held by APH and the rights to earnout shares
issuable under the amended Stock Purchase Agreement between APH and Chardan in
the event specified after-tax profits goals are met; and (iii) the termination
and cancellation of the $200 million note issued by APH in connection with its
acquisition of the GTH shares.


F-16


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





Bridge
Loan Transaction





To
provide the funds required by GTH’s original stockholders, on December 20, 2006,
GTH issued 15 notes with an aggregate principal amount of $29.987 million to 15
outside investors.  Chardan Capital, a related party to Chardan,
assisted in identifying potential investors, but did not receive any
compensation for such services.  APH agreed to guarantee repayment of
these notes and pledged all of 22.2 million shares of GTH’s stock to secure that
guarantee.  As part of this transaction, GTH issued 1.3 million
preferred shares to these outside investors for $0.01 per share.  The
notes issued to the investors bear interest at 10% per annum.  The
repayment terms are: (i) an aggregate principal amount of $25 million, together
with any then unpaid and accrued interest thereon and other amounts payable
under the notes, is due and payable on the earlier to occur of (a) ten business
days following the closing of acquisition of the shares of GTH by Hollysys (the
“Business Combination”), (b) the Tranche B Maturity Date (as defined below), or
(c) when, upon or after the occurrence of an event of default under the note,
such amounts are declared due and payable to the investors or made automatically
due and payable in accordance with the terms of the notes; and (ii) the
remaining principal, plus all accrued and unpaid interest thereon and all other
amounts due under the notes, is due and payable on (a) the date (the “Tranche B
Maturity Date”) that is the earliest of (1) one year following the date that
Hollysys acquires all or substantially all of the shares of GTH; (2) 60 days
following the redemption (as provided in the warrant agreement) of the publicly
traded warrants to be assumed by Hollysys concurrently with the closing of the
Business Combination in substitution for the warrants issued by Chardan; or (3)
September 30, 2008, or (b) when, upon or after the occurrence of an event of
default, such amounts are declared due and payable by the investors or made
automatically due and payable in accordance with the terms of the
note.  If any payment of interest or any other amount under these
notes is not made within ten days after the due date, GTH is required to pay a
late payment fee equal to the lesser of 5% of the amount of such late payment or
the maximum amount permitted by the applicable law.  After the
occurrence and during the continuance of an event of default, the notes shall
bear interest at a rate equal 12% per annum.





GTH
loaned the $30 million of proceeds to APH on December 22, 2006 in return for a
note of $30 million payable to GTH. The note receivable from APH bears an
interest at 10% per annum. The repayment terms of this $30 million note issued
by APH are as follows: (i) upon the closing of a stock purchase transaction
between APH and Chardan (the “Chardan Transaction”), pursuant to which APH is to
receive a cash payment of $30 million, APH shall make an initial payment of not
less than $24 million. In the event that APH receives cash consideration upon
the closing of the Chardan transaction sufficient to repay more than $24
million, then, such larger amount will be due and payable in its
entirety.  The balance of the principal sum not covered by the initial
payment made by APH shall be repaid upon APH’s receipt of the balance of the
cash consideration due to APH in connection with the Chardan
transaction.  If the Chardan transaction occurs, all amounts are paid
to GTH, the obligation of repayment of the appropriate amount of principal and
accrued interest shall be discharged.  (ii) If Chardan transaction
does not close prior to the expiration of the agreements governing the
borrowing, and GTH enters into an agreement to effect another business
combination, pursuant to which APH will be entitled to receive cash
consideration in exchange for its ownership interest in GTH, the interest due on
the note will be forgiven in the same manner as if the Chardan transaction had
closed.  (iii) In the event that agreement governing the Chardan
transaction expires and the Chardan transaction has not closed prior to
September 30, 2008, then the entire principal sum then remaining unpaid,
together with all accrued but unpaid interest, shall be due and payable on that
date.  After receiving the proceeds of $30 million, APH in return paid
the note of $30 million payable to OSCAF discussed above.





If the
Share Exchange Transaction does not take place, the default provisions contained
in the $29.987 million notes payable to the 15 investors who are also the
holders of 1.3 million preferred shares of GTH will be triggered, which allows
the 15 investors to sell a portion or all the interest of GTH pledged by APH in
order for them to recover the outstanding principal and interest then due under
the notes payable.  If there is any remaining interest available after
selling by the 15 investors, the remaining interest will be returned to OSCAF,
which should return the remaining interest to the individual owners of the Seven
BVI Companies.  Among the original beneficial individual owners of the
Seven BVI Companies and Chardan, a consensus was reached that paying dividends
through Beijing HollySys and Hangzhou HollySys to satisfy the urgent capital
need was almost impractical because of Chinese government foreign exchange
regulations and individual income tax consequences related to these potential
dividends.  If the value of 22.2 million shares of Hollysys is lower
than $200 million, APH is obligated to return the 22.2 million shares of
Hollysys’ stock to the original beneficial individual owners of the Seven BVI
Companies.  The original beneficial individual owners of the Seven BVI
Companies believed that it was more likely than not that APH would return the
22.2 million shares of Hollysys’ common stock to them instead of the cash
proceeds of $200 million because it would be difficult for APH to generate the
necessary $200 million in cash within the time frame aforementioned. In March
2008, the return of 22.2 million shares of Hollysys common stock held by APH to
the former stockholders of GTH was made based on the above mentioned Dismissal
Agreement.


F-17


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





During
the year ended June 30, 2008, the 15 notes payable in aggregate of $29,987
million to 15 investors had been fully repaid. Details please refer to note 10
to the consolidated financial statements for more details.





NOTE
3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES





Principles
of Consolidation and Basis of Presentation





The
completion of the Share Exchange Transaction enabled the shareholders of GTH to
obtain a majority voting interest in Hollysys. Generally accepted accounting
principles in the United States require that the company whose shareholders
retain the majority interest in a combined business be treated as the acquirer
for accounting purposes. Accordingly, the aforementioned Share Exchange
Transaction was accounted for as a reverse acquisition of a private operating
company (GTH) with a non-operating public company (Chardan) with significant
amount of cash. The reverse acquisition process utilizes the capital structure
of Hollysys and the assets and liabilities of GTH are recorded at historical
cost. Although GTH is deemed to be the accounting acquirer for financial
accounting and reporting purposes, the legal status of Hollysys as the surviving
company do not change. Under the reverse acquisition accounting, the historical
consolidated financial statements of Hollysys for the periods prior to September
20, 2007 are those of GTH and its subsidiaries. Since GTH is deemed as
accounting acquirer, GTH’s fiscal year replaced Hollysys’ fiscal
year.





The
consolidated financial statements include the financial statements of the
Company and its subsidiaries.  All significant inter-company
transactions and balances are eliminated during the process of consolidation.
These consolidated financial statements have been prepared in accordance with
the accounting principles generally accepted in the United States of America
(“U.S. GAAP”).





Non-controlling
interest





Effective
July 1, 2009 the Company adopted an authoritative pronouncement issued by the
Financial Accounting Standards Board (the “FASB”) regarding non-controlling
interests in consolidated financial statements. The pronouncement requires
non-controlling interests to be separately presented as a component of equity in
the consolidated financial statements. The presentation regarding
non-controlling interest was retroactively applied for all the presented
periods.





Foreign
Currency Translations and Transactions





The
Renminbi (“RMB”), the national currency of PRC, is the primary currency of the
economic environment in which the operations of the Company are conducted and is
determined the functional currency of all PRC subsidiaries.  The
Company uses the United States dollar for financial reporting
purposes.





The
Company translates the assets and liabilities into U.S. dollars using the rate
of exchange prevailing at the balance sheet date, and the statements of income
are translated at average rates during the reporting
period.  Adjustments resulting from the translation of financial
statements from RMB into U.S. dollars are recorded in stockholders’ equity as
part of accumulated comprehensive income - translation
adjustments.  Gains or losses resulting from transactions in
currencies other than RMB are reflected in consolidated statement of income for
the reporting period.





Cash
and Cash Equivalents





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


F-18


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





Revenue
Recognition





Revenues
generated from designing, building, and delivering customized integrated
industrial automation systems and providing relevant solutions are recognized
over the contractual terms based on the percentage of completion
method.  The contracts for designing, building, and delivering
customized integrated industrial automation systems are legally enforceable
binding agreements between the Company and customers.  Performance of
these contracts will often extend over long periods, and the Company’s right to
receive payments depends on its performance in accordance with these contractual
agreements.  The duration of contracts the Company performs is
depending on the contract size in terms of dollar amounts.  In
general, the bigger the contract size is, the longer the duration of that
contract is.  The duration of a small contract is less than one year
without including warranty period.  The duration of a large contract
is longer than one year without including warranty period.  Including
the warranty period, all of contracts have their duration longer than one year,
ranging from 16 months to 61 months.   The operating cycle of the
Company is determined by a composite of many individual contracts in various
stage of completion and is measured by the duration of the average time
intervening between the acquisition of materials or service entering the
construction process and the substantial completion of
contracts.  Based on the historical experience, the operating cycle of
the Company exceeds one year.





In
accordance with Accounting Standards Codification (“ASC”) 605-305 Revenue Recognition -
Construction-Type and Production-Type Contracts recognition is based on
an estimate of the income earned to date, less income recognized in earlier
periods.  Estimates of the degree of completion are based on the costs
incurred to date comparing to the expected total costs for the
contracts.  Revisions in the estimated profits are made in the period
in which the circumstances requiring the revision become
known.  Provisions, if any, are made currently for anticipated loss on
the uncompleted contracts.  Revenue in excess of billings on the
contracts is recorded as costs and estimated earnings in excess of
billings.  Billings in excess of revenues recognized on the contracts
are recorded as deferred revenue until the above revenue recognition criteria
are met.  Billings are rendered based on agreed milestones included in
the contracts with customers.  There are different milestones among
the contracts the Company has won.  In general, there are four
milestones: 1) system manufacturing, 2) system delivery, 3) installation,
trial-run, and customer acceptance, and 4) expiration of a warranty
period.  The amount to be billed when each of the specified milestones
is reached has been specified in a contract.  All contracts have the
first milestone, but not all contracts have a prepayment.





The
Company recognizes 100% of the contractual revenue at the end of customer
acceptance stage as the Company estimates that no further major costs will incur
under a contract, a signed customer acceptance document has been obtained, and a
warranty period starts to count.  Revenues are presented net of taxes
collected on behalf of government.





Revenue
generated from sales of electronic equipment is recognized when persuasive
evidence of an arrangement exists, delivery of the products has occurred,
customer acceptance has been obtained, which means the significant risks and
rewards of the ownership have been transferred to the customer, the price is
fixed or determinable and collectability is reasonably assured.





Inventories





Inventories
are composed of raw materials and low value consumables, work in progress, and
purchased and manufactured finished goods.  Inventories are stated at
the lower of cost or the market value.





On
January 1, 2009, the Company elected to change the “costing method” for
purchased inventories previously accounted for on the “weighted average basis”
to the “first-in, first-out basis”.  The percentage of purchased
inventories accounted for under the weighted average method shared approximately
64% of the closing inventories at December 31, 2008.  The Company
believe that purchased inventories measured based on first-in first-out basis
can better reflect the current value of purchased inventories on the
Consolidated Balance Sheet and enhances the matching of future cost of sales
with revenues. Since the change of the inventories costing method did not result
in a material cumulative difference or a material difference in any one
reporting period, and consequently the prior periods figures have not been
restated.  The cumulative effect of the accounting change, which was
immaterial, was reflected in the results of operations in the year ended June
30, 2009.





The
Company makes provisions for estimated excess and obsolete inventory based on
its regular reviews of inventory quantities on hand and the latest forecasts of
product demand and production requirements from its customers.  The
Company writes down inventories for not saleable, excess or obsolete raw
materials, work-in-process and finished goods by charging such write-downs to
cost of sales.  In addition to write-downs based on newly introduced
parts, statistics and judgments are used for assessing a provision on the
remaining inventory based on salability and obsolescence.


F-19


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





Warranty





Warranty
is a major term under an integrated contract, which will last, in general, for
twelve months or be specified under a contract. The Company estimates a warranty
liability under a contract using a percentage of revenue recognized, which is
derived from its historical experience, in order to recognize a warranty cost
for a contract in the proper period of time.  In addition, at the end
of each reporting period, the Company estimates whether or not the accrued
warranty liabilities are adequate based on 1) the outstanding warranty time
period of a contract which has entered into the warranty period, 2) the total
revenue has recognized on a contract which has been under the warranty period,
and 3) all contracts which have been under the warranty period.  The
Company adjusts the accrued warranty liabilities in line with the result of its
assessment.





Accounts
Receivable and Cost and estimated earnings in excess of billings





Performance
of the contracts often will extend over long periods and the Company’s right to
receive payments depends on its performance in accordance with these contractual
agreements.  The Company bills a customer in accordance with the
amount specified under the contract from the cost and estimated earnings in
excess of billings when the Company’s performance has reached a
milestone.  In general, among four milestones, each interval of two
contiguous billings under a contract is within one year (under certain railway
control system contracts, the interval of two contiguous billings is longer than
one year) and the last billing to be issued for a contract is at the end of the
warranty period.  When a customer makes a prepayment at the start of a
contract, the amount received will be recorded as deferred
revenue.  The deferred revenue would be recognized as revenue under
the percentage of completion method along with the progress of a
contract.  If no prepayment is received by the Company, revenue would
be recognized through cost and estimated earnings in excess of
billings.  Accordingly, when a particular milestone is reached, a
particular amount of cost and estimated earnings in excess of billings will be
transferred into accounts receivable.  Cost and estimated earnings in
excess of billings are usually billed within one year.  The Company
does not specify credit terms in its invoices and expect that its customers will
make their payments upon receipt even though the contract terms say that a
specific amount is due when a milestone is reached.  The Company does
not require collateral from its customers.  Based on the prevailing
collection practice in China, it is a reasonable expectation for the enterprises
in automation industry to take over one year to collect accounts
receivable.





As of
June 30, 2009 and 2010, balance of $6,772,812 and $7,065,816 were related to
contracts which have been completed but are still within the warranty period
respectively.





The
Company issues invoices to its customers without specifying credit terms and
consequential interests charge for late payments by its
customers.  The Company reviews the status of contracts periodically
and decided how much allowance for doubtful accounts should be made based on
factors surrounding the credit risk of customers, as well as its historical
experience.  The Company set up bad debt allowance for an individual
customer if there is a deterioration of the customer’s creditability and the
assessed probability of default is higher than the historical
experience.





Based on
the information available to management, the Company believes that its allowance
for doubtful accounts as of June 30, 2009 and 2010 were adequate,
respectively.





The
allowance for doubtful debts for the years ended June 30, 2008, 2009 and 2010
were $3,439,486, $1,145,770, and $2,790,078
respectively.





Property,
Plant and Equipment





Property,
plant and equipment are recorded at cost and are stated net of accumulated
depreciation.  Depreciation expense is determined using the
straight-line method over the estimated useful lives of the assets as
follows:





Land
      use right
              49
      yearsBuildings
              30
      yearsMachinery
              5 -
      10 yearsSoftware
              5
      yearsVehicles
      and other equipment
              5
      years




F-20


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





Construction
in progress represents construction of certain facilities which construction
work has not been completed and which, upon completion, management intends to
hold for production purpose. In addition to costs under construction contracts,
external costs directly related to the construction of such facilities,
including duty and tariff, equipment installation and shipping costs, and
borrowing costs are capitalized. Depreciation is recorded at the time assets are
placed in service.


F-21


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





Maintenance
and repairs are charged directly to expense as incurred, whereas betterment and
renewals are capitalized in their respective property accounts.  When
an item is retired or otherwise disposed of, the cost and applicable accumulated
depreciation are removed and the resulting gain or loss is recognized for the
reporting period.





Impairment
of Long-Lived Assets





The
Company adopts the provisions of ASC Topic 360 Property, Plant and
Equipment, which requires that long-lived assets be reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable through the estimated
undiscounted cash flows expected to result from the use and eventual disposition
of the assets.  Whenever any such impairment exists, an impairment
loss will be recognized for the amount by which the carrying value exceeds the
fair value.  Losses on long-lived assets to be disposed of are
determined in a similar manner, except that fair market values are reduced for
the cost to dispose.





The
impairment loss on  long-lived assets for the years ended June 30,
2008, 2009 and 2010 were nil, nil, and $715,246 respectively, which represented
impairment loss on property, plant and equipment.





Shipping
and Handling Cost





All
shipping and handling fees charged to customers are included in net revenue, and
shipping and handling costs for goods shipped by the Company to customers are
included in cost of integrated contract and/or cost of goods sold.





Goodwill
and Impairment Test





Goodwill
resulting from an acquisition is measured at the excess of the cost of the
business combination over the fair value of the assets acquired and liabilities
assumed.  Goodwill will not be amortized, instead be tested for
impairment at least annually as prescribed by ASC Topic 350 Intangibles -  Goodwill
and Other.  If the fair value is less than its carrying value,
an indication of goodwill impairment exists, then the carrying value of goodwill
is written down, and an impairment loss is recognized for any excess of the
carrying amount over the implied fair value of the goodwill. The implied fair
value of goodwill is determined by allocating the fair value of the reporting
unit in a manner similar to a purchase price allocation and the residual fair
value after this allocation is the implied fair value of the reporting unit
goodwill. Fair value of the reporting unit is determined using a discounted cash
flow analysis. For the year ended June 30, 2008, 2009 and 2010, there was an
impairment loss of $99,439, nil, and $286,610 respectively. The carrying value
of goodwill was written down to $0 as of June 30, 2009 and 2010.





Income
Taxes





The
Company accounts for income taxes in accordance with ASC Topic 740 Income Taxes, which requires
an entity to recognize deferred tax liabilities and assets.  Deferred
tax assets and liabilities are recognized for the future tax consequence
attributable to the difference between the tax bases of assets and liabilities
and their reported amounts in the financial statements.  Deferred tax
assets and liabilities are measured using the enacted tax rate 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 income in the period that
included the enactment date.  Deferred tax assets are reduced by a
valuation allowance when, in the opinion of management, it is more likely than
not that some portion or all of the deferred tax assets will not be realized.
Current income taxes are provided for in accordance with the laws of the
relevant tax authorities.





The
Company adopted the “Accounting for Uncertainty in Income Taxes” which included
in ASC Topic 740 Income
Taxes. It clarifies the accounting for uncertainty in income taxes
recognized in an enterprise’s financial statements. It prescribes a recognition
threshold and measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax return. It
also provides guidance on de-recognition of tax benefits, classification on the
balance sheet, interest and penalties, accounting in interim periods,
disclosure, and transition. The Company’s policy on classification of all
interest and penalties related to unrecognized tax benefits, if any, as a
component of income tax provisions.


F-22


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





Value
Added Tax





All the
PRC subsidiaries of the Company are subject to value added tax (“VAT”) imposed
by PRC government on its domestic product sales.  The output VAT is
charged to customers who purchase goods from the Company and the input VAT is
paid when the Company purchases goods from its vendors.  VAT rate is
17%, in general, depending on the types of product purchased and
sold.  The input VAT can be offset against the output
VAT.  VAT payable or receivable balance presented on the Company’s
balance sheets represents either the input VAT less than or larger than the
output VAT.  The debit balance represents a credit against future
collection of output VAT instead of a receivable.





Research
and Development





Research
and development costs consist primarily of staff costs, which include salaries,
bonuses and benefits for research and development personnel.  Research
and development costs also include travel expenses of our research and
development personnel as well as depreciation of hardware equipment and software
tools and other materials used in our research and development activities.
Research and development costs are expensed as incurred.





VAT
Refunds and Government Subsidies





Pursuant
to the laws and regulations of the PRC, the Company remits 17% of its sales as
VAT to the government, and then is entitled to a refund of the 14% VAT levied on
all sales containing our internally developed software products. The Company
recognizes the VAT refunds upon the completion of government approval process.
Certain subsidiaries of the Company located in PRC have, respectively, received
certain government subsidies from local PRC government
agencies.  Government subsidies are recognized when received and the
conditions prescribed by the government have been fulfilled. VAT refunds and
government subsidies are included as a credit in the operating expense in the
consolidated statement of income, which is largely research and development tax
credit in essence.





Appropriations
to Statutory Reserve





Under the
corporate law and relevant regulations in PRC, all of the subsidiaries of the
Company located in PRC are required to appropriate a portion of its retained
earnings to statutory reserve.  All subsidiaries located in PRC are
required to appropriate 10% of its annual after-tax income each year to the
statutory reserve until the statutory reserve balance reaches 50% of the
registered capital.  In general, the statutory reserve shall not be
used for dividend distribution purpose.





Use
of Estimates





The
preparation of financial statements in conformity with US GAAP 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 financial statements and the reported amounts of revenues and
expenses during the reporting period.  Actual results could differ
materially from those estimates.





Comprehensive
Income





The
Company adopted ASC Topic 220 Comprehensive Income, which establishes standards
for reporting and presentation of comprehensive income and its components in a
full set of general-purpose financial statements.  Accumulated other
comprehensive income represents foreign currency translation adjustments and is
included in the consolidated statement of income and comprehensive
income.





Long
Term Investments





The
Company accounted for its long-term investments under either equity method or
cost method in accordance with equity interest holding percentage. The
investments in entities over which the Company has the ability to exercise
significant influence are accounted for using the equity method. Significant
influence is generally considered to exist when the Company has an ownership
interest in the voting stock of the investee between 20% and 50%. Other factors,
such as representation on the investee’s Board of Directors and the impact of
commercial arrangements, are also considered in determining whether the equity
method of accounting is appropriate.


F-23


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





Under the
equity method, original investments are recorded at cost and adjusted by the
Company's share of undistributed earnings or losses of these entities, by the
amortization of any difference between the amount of the Company's investment
and its share of the net assets of the investee, and by dividend distributions
or subsequent investments. All unrealized inter-company profits and losses are
eliminated under the equity method. When the estimated amount to be realized
from the investments falls below its carrying value, an impairment charge is
recognized in the consolidated statements of income when the decline in value is
considered other than temporary.





The
impairment loss on long term investments for the years ended June 30, 2008, 2009
and 2010 were nil, nil, and $152,732 respectively.





Earnings
(Loss) Per Share





The
Company presents earnings per share in accordance with the ASC Topic 260 Earnings Per Share, which
defines that basic earnings (loss) per share include no dilution and are
computed by dividing income (loss) available to common stockholders by the
weighted average number of common shares outstanding during the period whereas
diluted earnings (loss) per share reflect the potential dilution of securities
that could share in the earnings of an entity.





Share-based
Compensation





The
Company adopted ASC Topic 718 Compensation - Stock
Compensation, which requires that share-based payment transactions with
employees, such as share options, be measured based on the grant-date fair value
of the equity instrument issued and recognized as compensation expense over the
requisite service period, with a corresponding addition to equity. Under this
method, compensation cost related to employee share options or similar equity
instruments is measured at the grant date based on the fair value of the award
and is recognized over the period during which an employee is required to
provide service in exchange for the award, which is generally the vesting
period.





Fair
Value Measurements





The
Company has adopted ASC Topic 820  Fair Value Measurements and
Disclosures, which defines fair value, establishes a framework for
measuring fair value in GAAP, and expands disclosures about fair value
measurements. It does not require any new fair value measurements, but provides
guidance on how to measure fair value by providing a fair value hierarchy used
to classify the source of the information. Its establishes a three-level
valuation hierarchy of valuation techniques based on observable and unobservable
inputs, which may be used to measure fair value and include the
following:





Level
      1 -
            Quoted
      prices in active markets for identical assets or
    liabilities.Level
      2 -
            Inputs
      other than Level 1 that are observable, either directly or indirectly,
      such as quoted prices for similar assets or liabilities; quoted prices in
      markets that are not active; or other inputs that are observable or can be
      corroborated by observable market data for substantially the full term of
      the assets or liabilities.Level
      3-
            Unobservable
      inputs that are supported by little or no market activity and that are
      significant to the fair value of the assets or
  liabilities.





Classification
within the hierarchy is determined based on the lowest level of input that is
significant to the fair value measurement.





Recent
Accounting Pronouncements





In June
2009, the FASB issued “Accounting for Transfers of Financial Assets” included in
ASC 860 Transfer and
Servicing. This pronouncement is intended to improve the relevance,
representational faithfulness, and comparability of the information that a
reporting entity provides in its financial reports about a transfer of financial
assets; the effects of a transfer on its financial position, financial
performance, and cash flows; and a transferor’s continuing involvement in
transferred financial assets. This pronouncement must be applied as of the
beginning of each reporting entity’s first annual reporting period that begins
after November 15, 2009. Earlier application is prohibited. This pronouncement
must be applied to transfers occurring on or after the effective date. The
Company does not expect the adoption of this pronouncement would have a
significant effect on the Company’s financial position, result of operations and
cash flow.


F-24


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





In June
2009, the FASB issued “Amendments to FASB Interpretation No.
46(R)”  included in ASC 810 Consolidation. This
pronouncement seeks to improve financial reporting by enterprises involved with
variable interest entities. This pronouncement is applicable for annual periods
that begins after November 15, 2009 and interim periods therein and
thereafter. The Company does not expect the adoption of this pronouncement
would have a significant effect on the Company’s financial position, result of
operations and cash flow.





In July
2009, the FASB issued ASU 2009-13 Revenue Recognition (Topic 605)
Multiple-Deliverable Revenue Arrangements (“ASU 2009-13”). This pronouncement
was issued in response to practice concerns related to the accounting for
revenue arrangements with multiple deliverables under existing
pronouncement.  Although the new pronouncement retains the criteria
from exiting pronouncement for when delivered items in a multiple-deliverable
arrangement should be considered separate units of accounting, it removes the
previous separation criterion under existing pronouncement that objective and
reliable evidence of the fair value of any undelivered items must exist for the
delivered items to be considered a separate unit or separate units of
accounting.  ASU 2009-13 is effective for fiscal years beginning on or
after June 15, 2010. The Company is currently evaluating the potential impact on
the adoption of ASU 2009-13 may have on the Company’s financial position, result
of operations and cash flow.





In
October 2009, the FASB issued ASU No. 2009-14 Software (Topic 985) Certain
Revenue Arrangements That Include Software Elements (“ASU
No.  209-14”). The pronouncement provides that products containing
both software and non-software components that function together to deliver the
product’s essential functionality are excluded from the scope of current revenue
recognition guidance for software products. The pronouncement includes factors
that entities should consider when determining whether the software and
non-software components function together to deliver the product’s essential
functionality. ASU No.  209-14 is effective for fiscal years beginning
on or after June 15, 2010. The Company is currently evaluating the potential
impact on the adoption of ASU 2009-14 may have on the Company’s financial
position, result of operations and cash flow.





In
January 2010, the FASB issued ASU No. 2010-02  Consolidation (Topic
810) Accounting and Reporting for Decreases in Ownership of a Subsidiary (“ASU
No. 2010-02”). This pronouncement is an authoritative guidance to clarify the
scope of accounting and reporting for decreases in ownership of a
subsidiary.  The objective of this guidance is to address
implementation issues related to changes in ownership
provisions.  This guidance clarifies certain conditions, which need to
apply to this guidance, and it also expands disclosure requirements for the
deconsolidation of a subsidiary or derecognition of a group of assets. ASU No.
2010-02 is effective beginning in the first interim or annual reporting period
ending on or after December 15, 2009. The Company does not expect the adoption
of ASU No. 2010-02 would have a significant effect on the Company’s financial
position, result of operations and cash flow.





In
January 2010, the FASB issued ASU No. 2010-06 Fair Value Measurements and
Disclosures (Topic 820) Improving Disclosures about Fair Value Measurements
(“ASU No. 2010-06”). This pronouncement is an authoritative guidance to improve
disclosures about fair value measurements. This guidance amends previous
guidance on fair value measurements to add new requirements for disclosures
about transfers into and out of Levels 1 and 2 and separate disclosures about
purchases, sales, issuances, and settlements relating to Level 3 measurement on
a gross basis rather than on a net basis as currently required. This guidance
also clarifies existing fair value disclosures about the level of disaggregation
and about inputs and valuation techniques used to measure fair value. ASU No.
2010-06 is effective for interim and annual reporting periods beginning after
December 15, 2009, except for the disclosures about purchases, sales, issuances,
and settlements in the roll forward of activity in Level 3 fair value
measurements. Those disclosures are effective for fiscal years beginning after
December 15, 2010, and for interim periods within those fiscal years. The
Company is currently evaluating the impact of ASU No. 2010-06 on the Company’s
consolidated financial statements, but does not expect it to have a material
impact.




F-25


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





NOTE
4 - INVENTORIES





Components
of inventories are as follows:





June 30,2009
                  
                  
                  2010Raw
      materials
                  
                  $
                  8,048,588
                  
                  
                  $
                  7,126,042Work
      in progress
                  
                  
                  3,851,689
                  
                  
                  
                  5,491,687Finished
      goods
                  
                  
                  8,025,219
                  
                  
                  
                  13,274,854Low
      value consumables
                  
                  
                  25,914
                  
                  
                  
                  55,294Less:
      Provision
                  
                  
                  (1,114,140
                  )
                  
                  
                  (2,393,546
                  )$
                  18,837,270
                  
                  
                  $
                  23,554,331




NOTE
5 – COST AND ESTIMATED EARNINGS IN EXCESS OF BILLINGS





June 30,2009
                  
                  
                  2010Contracts
      costs incurred plus estimated earnings
                  
                  $
                  311,865,312
                  
                  
                  $
                  320,014,935Less:
      Progress billings
                  
                  
                  (260,770,652
                  )
                  
                  
                  (259,086,879
                  )Cost
      and estimated earnings in excess of billings, net
                  
                  $
                  51,094,660
                  
                  
                  $
                  60,928,056




NOTE
6 - PROPERTY, PLANT AND EQUIPMENT





A summary
of property, plant and equipment at cost is as follows:





June 30,2009
                  
                  
                  2010Land
      use right
                  
                  $
                  7,238,446
                  
                  
                  $
                  7,282,148Buildings
                  
                  
                  13,520,841
                  
                  
                  
                  13,608,227Machinery
                  
                  
                  2,873,789
                  
                  
                  
                  3,118,451Software
                  
                  
                  797,327
                  
                  
                  
                  1,206,719Vehicles
      and other equipment
                  
                  
                  8,008,915
                  
                  
                  
                  12,005,119Construction
      in progress
                  
                  
                  23,343,595
                  
                  
                  
                  39,329,699$
                  55,782,913
                  
                  
                  $
                  76,550,363Less:
      Accumulated depreciation and amortization
                  
                  
                  (8,680,164
                  )
                  
                  
                  (11,204,745
                  )$
                  47,102,749
                  
                  
                  $
                  65,345,618





Construction
in progress consists of capital expenditures and capitalized interest charges
relating to the construction of facilities and assembly lines projects. Interest
of nil, $206,595 and $1,102,772 during the period of construction for the years
ended June 30, 2008, 2009 and 2010 respectively have been
capitalized.





During
the year ended June 30, 2009, the Company commenced the construction of a new
facility with building area of about 150,000 square meters.  As of June 30,
2010, the construction in progress of the new facility was $39 million.  
The Company completed this new facility and related construction project in
August 2010, and the whole construction cost amounted to approximately $44
million including the cost of land use right of $5 million which had been
acquired during the year ended June 30, 2008.





The
depreciation and amortization for the years ended June 30, 2008, 2009 and 2010
were $1,817,657, $2,241,344  and $ 2,683,042
respectively.


F-26


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





NOTE
7 - LONG-TERM INVESTMENTS





The
following long-term investments were accounted for under either equity method or
cost method.





June 30, 2009
                            
                            Interest
                              held
                            
                            
                            Long-term
                              investment,
                              at cost
                            
                            
                            Share of
                              undistributed
                              profits
                            
                            
                            Advance
                              to investee
                              company
                            
                            
                            TotalEquity
      MethodHollySys
      Information Technology Co., Ltd
                            
                            
                            49.00
                            %
                            
                            $
                            3,012,508
                            
                            
                            $
                            38,650
                            
                            
                            $
                            649,423
                            
                            
                            $
                            3,700,581HollySys
      Electric Machinery Co., Ltd
                            
                            
                            40.00
                            %
                            
                            
                            775,208
                            
                            
                            
                            1,199,076
                            
                            
                            
                            -
                            
                            
                            
                            1,974,284New
      Huake Electric Technology Co., Ltd
                            
                            
                            37.50
                            %
                            
                            
                            219,558
                            
                            
                            
                            (21,329
                            )
                            
                            
                            -
                            
                            
                            
                            198,229China
      Techenergy Co., Ltd.
                            
                            
                            50.00
                            %
                            
                            
                            6,586,747
                            
                            
                            
                            (1,260,619
                            )
                            
                            
                            43,152
                            
                            
                            
                            5,369,280IPE
      Biotechnology Co., Ltd
                            
                            
                            31.15
                            %
                            
                            
                            1,756,466
                            
                            
                            
                            (160,122
                            )
                            
                            
                            -
                            
                            
                            
                            1,596,344$
                            12,350,487
                            
                            
                            $
                            (204,344
                            )
                            
                            $
                            692,575
                            
                            
                            $
                            12,838,718Cost
      MethodBeijing
      HollySys Equipment Technology Co., Ltd
                            
                            
                            20.00
                            %
                            
                            $
                            58,549
                            
                            
                            $
                            -
                            
                            
                            $
                            -
                            
                            
                            $
                            58,549Zhongjijing
      Investment Consulting Co., Ltd
                            
                            
                            5.00
                            %
                            
                            
                            439,116
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            439,116Zhejiang
      Sanxing Technology Co., Ltd
                            
                            
                            10.00
                            %
                            
                            
                            146,372
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            146,372Zhejiang
      Sanxing Engineering Co., Ltd
                            
                            
                            6.00
                            %
                            
                            
                            87,823
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            87,823$
                            731,860
                            
                            
                            $
                            -
                            
                            
                            $
                            -
                            
                            
                            $
                            731,860$
                            13,082,347
                            
                            
                            $
                            (204,344
                            )
                            
                            $
                            692,575
                            
                            
                            $
                            13,570,578




F-27


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010




June 30, 2010
                            
                            Interest
                              held
                            
                            
                            Long-term
                              investment,
                              at cost, less
                              impairment
                            
                            
                            Share of
                              undistributed
                              profits
                            
                            
                            Advance
                              to investee
                              company
                            
                            
                            TotalEquity
      MethodHollySys
      Information Technology Co., Ltd
                            
                            
                            49.00
                            %
                            
                            $
                            3,063,366
                            
                            
                            $
                            371,738
                            
                            
                            $
                            27
                            
                            
                            $
                            3,435,131HollySys
      Electric Machinery Co., Ltd
                            
                            
                            40.00
                            %
                            
                            
                            779,888
                            
                            
                            
                            1,571,979
                            
                            
                            
                            -
                            
                            
                            
                            2,351,867New
      Huake Electric Technology Co., Ltd
                            
                            
                            37.50
                            %
                            
                            
                            220,884
                            
                            
                            
                            (153,428
                            )
                            
                            
                            -
                            
                            
                            
                            67,456China
      Techenergy Co., Ltd.
                            
                            
                            50.00
                            %
                            
                            
                            6,626,515
                            
                            
                            
                            1,201,756
                            
                            
                            
                            43,412
                            
                            
                            
                            7,871,683IPE
      Biotechnology Co., Ltd
                            
                            
                            31.15
                            %
                            
                            
                            1,613,655
                            
                            
                            
                            266,035
                            
                            
                            
                            -
                            
                            
                            
                            1,879,690$
                            12,304,308
                            
                            
                            $
                            3,258,080
                            
                            
                            $
                            43,439
                            
                            
                            $
                            15,605,827Cost
      MethodBeijing
      HollySys Equipment Technology Co., Ltd
                            
                            
                            20.00
                            %
                            
                            
                            58,902
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            58,902Zhongjijing
      Investment Consulting Co., Ltd
                            
                            
                            5.00
                            %
                            
                            
                            441,768
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            441,768Zhejiang
      Sanxing Technology Co., Ltd
                            
                            
                            10.00
                            %
                            
                            
                            147,256
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            147,256Zhejiang
      Sanxing Engineering Co., Ltd
                            
                            
                            6.00
                            %
                            
                            
                            88,354
                            
                            
                            
                            -
                            
                            
                            
                            -
                            
                            
                            
                            88,354Heilongjiang
      Ruixing Technology Co., Ltd
                            
                            
                            8.31
                            %
                            
                            
                            1,006,052
                            
                            
                            
                            -
                            
                            
                            
                            
                            
                            
                            
                            1,006,052$
                            1,742,332
                            
                            
                            $
                            -
                            
                            
                            $
                            -
                            
                            
                            $
                            1,742,332$
                            14,046,640
                            
                            
                            $
                            3,258,080
                            
                            
                            $
                            43,439
                            
                            
                            $
                            17,348,159





In July
2008, the Company acquired 6% of equity interest of Zhejiang Sanxing Engineering
Co., Ltd, and in October 2008, the Company acquired 10% of equity interest of
Zhejiang Sanxing Technology Co., Ltd, The Company adopted cost method to account
for investments in the two investee companies.





In May
2009, the Company made further capital injection of RMB 35 million (equivalent
to $5,126,027) into China Techenergy Co., Ltd,. The injection was contributed by
cash consideration of RMB 25 million (equivalent to $3,661,448) and
re-investment of retained earnings of RMB 10 million (equivalent to $1,464,579).
As the other equity interest owner also made the same amount of capital
injection, the equity interest in China Techenergy Co., Ltd, remained 50% as of
June 30, 2009 and 2010.





In
November 2009, the Company acquired 8.31% equity interest on Heilongjiang
Ruixing Technology Co., Ltd, and adopted cost method to account for the
investment in this investee company.





NOTE
8 - WARRANTY LIABILITY





June 30,2009
                    
                    
                    2010Beginning
      balance
                    
                    $
                    2,051,397
                    
                    
                    $
                    1,631,407Expense
      accrued
                    
                    
                    522,640
                    
                    
                    
                    949,111Expense
      incurred
                    
                    
                    (951,048
                    )
                    
                    
                    (674,939
                    )Exchange
      difference
                    
                    
                    8,418
                    
                    
                    
                    11,075$
                    1,631,407
                    
                    
                    $
                    1,916,654


F-28


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





NOTE
9 - SHORT-TERM BANK LOANS





On June
30, 2009 and 2010, the Company’s short-term bank borrowings consisted of
revolving bank loans of $5,854,887 and $1,472,559 respectively from several
banks.





As of
June 30, 2009, the short-term borrowing of $5,854,887 is subject to an annual
interest rate ranging from 5.31% to 7.20%, without any guarantee or pledge of
assets.





As of
June 30, 2010, the short-term borrowing of $1,472,559 is subject to an annual
interest rate of 4.779%, without any guarantee or pledge of assets.





NOTE
10 - NOTES PAYABLE





As
mentioned in Note 2, GTH and the initial beneficial owners of Beijing Hollysys
and Hangzhou Hollysys entered into a series of agreements with Chardan, APH and
15 investors who provided a bridge loan and purchased 1.3 million preferred
shares in the aggregate amount of $30 million in order to satisfy the urgent
needs from the original Chinese owners of GTH.


On
December 20, 2006, GTH issued 15 notes in aggregate of $29.987 million payable
to 15 investors and 1.3 million preferred shares with a par value of $0.01 per
share in exchange for the proceeds of $30 million.  The detailed terms
of the notes issued to the 15 investors has been mentioned in Note 2 under
Bridge Loan Transaction.





As part
of the Bridge Loan Transaction, the 15 investors who were issued with 1.3
million shares of GTH’s preferred stock are fully informed of the Share Exchange
Transaction between GTH and Chardan and have the rights to accept the Exchange
Offer tendered by Chardan to convert each outstanding share of preferred stock
into one common share of the successor company of Chardan, which is
Hollysys.





GTH
identified the fact that the closing price of Chardan’s common share was $7.34
per share on December 20, 2006 and believed that this price was the most
objective indicator of the fair value of these 1.3 million preferred
shares.  GTH allocated the entire $30 million proceeds between the
$29.987 million notes payable and 1.3 million preferred shares, resulting in a
discount of $7,239,390 to the $29.987 million notes payable.  GTH
estimated that the life of these notes payable will be about nine months with
the expectation that the Share Exchange Transaction would be consummated before
September 20, 2007.  With such estimated life of the bridge loan, GTH
adopted the effective interest method to amortize the discount of $7,239,390
over the nine-month period.





During
the year ended June 30, 2008, the notes payable had been fully repaid and the
outstanding balance is nil.





The notes
interest charged for the years ended June 30, 2008, 2009 and 2010 were $824,370,
nil, and nil respectively.  The amortization of discount on notes
payable which charged to interest expenses were $2,420,064, nil, and nil for the
years ended June 30, 2008, 2009 and 2010 respectively.





NOTE
11 - LONG TERM BONDS PAYABLE





In
December 2007, Beijing Hollysys and three independent third parties entered into
an agreement with the underwriters to issue a bond to institutional and public
investors in PRC with an aggregate principal amount of RMB 305 million. Pursuant
to the agreement, Beijing Hollysys issued a RMB 80 million (equivalent to $11.7
million) bond (the“Bond”) for the purpose of technology improvement and
industrial implementation of certain technology. The Bond carries interest at a
rate of 6.68% per annum, which is payable semiannually and will mature in
December 2010. For the purpose of the Bond, Beijing Zhongguancun Science and
Technology Guaranty Co., Ltd. has undertaken joint and several guarantee
liabilities in full in favour of Beijing Hollysys. Concurrently, the China
Development Bank has authorized its business department to undertake general
guarantee liability in respect of the guarantee liabilities of Beijing
Zhongguancun Science and Technology Guaranty Co., Ltd..





Bond
issuing costs was RMB 1,254,054 (equivalent to $183,559).  Such
issuing costs will be amortized during the three-year term of the bonds and any
unamortized issuing cost is presented as long-term deferred expenses on the
balance sheet.


F-29


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





For the
year ended June 30, 2008, 2009, and 2010, bond interest of $378,575, $782,671
and $792,510 were charged to interest expenses, respectively.





NOTE
12 - LONG-TERM BANK LOANS





June 30,2009
                        
                        
                        2010RMB-denominated
      loan from Bank of China
                        (i)
                        
                        
                        5,123,026
                        
                        
                        
                        -RMB-denominated
      loan from Industrial and Commercial Bank of China
                        (ii)
                        
                        
                        36,593,041
                        
                        
                        
                        36,813,97241,716,067
                        
                        
                        
                        36,813,972Less:
      Current portion
                        
                        
                        
                        (5,123,026
                        )
                        
                        
                        (1,472,559
                        )$
                        36,593,041
                        
                        
                        $
                        35,341,413





(i)
            The
      borrowing of $5,123,026 was effective from August 29, 2007 to August 28,
      2009, with an annual interest of 6.48%. The borrowing is without any
      guarantee or pledge of assets. Such borrowing was due and settled on
      August 28, 2009.





(ii)
            The
      borrowing of $36,813,972 is effective from March 31, 2009 to March 30,
      2016, with an annual interest rate of 6.44%. The borrowing are pledged
      with the new facility in construction, with building area of about 150,000
      square meters, amounted to $20,043,222 and $39,302,147 as of June 30, 2009
      and 2010, respectively.





Scheduled
principal payments for all outstanding borrowings on June 30, 2010 are as
follows:





Year Ending June 30,2011
                        
                        $
                        1,472,5592012
                        
                        
                        5,153,9562013
                        
                        
                        7,362,7942014
                        
                        
                        7,362,7942015 and
      onward
                        
                        
                        15,461,869$
                        36,813,972





For the
years ended June 30, 2008, 2009, and 2010, loans interest including short-term
and long-term bank loans of $1,342,407, $1,192,485 and $2,537,929 was incurred
and $1,342,407, $985,890 and $1,435,157 was charged to interest expenses
respectively.




F-30


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





NOTE
13 – COMMON STOCK





As of
September 20, 2007, the net assets of Chardan were $28,156,361 representing by
the outstanding 7,000,000 shares of common stock, which were presented in the
stockholders’ equity under the line item of recapitalization in connection with
Share Exchange Transaction.





In
accordance with the terms of the Future Annual Incentive Share Plan described in
Note 2, the original shareholders of GTH and their designees would entitle to
receive additional shares of 2 million shares of common stock for each 12-month
periods if the Company’s profit for twelve months periods ended December 31,
2007 and 2008 met the US$23,000,000 and US$32,000,000 threshold
respectively.





During
the year ended June 30, 2008 and 2009, the Company determined the after-tax
profit (in terms of comprehensive income concept) target for the 12-month ended
December 31, 2007 and 2008 was met respectively.





The
Company accounted for the transactions of issuing these incentive stock based on
the fair value on the grant date, which is the date when the shareholders of
Chardan held a special meeting to vote for the Share Exchange Transaction on
September 7, 2007 when the common stock of Hollysys was at $8.5
each.





Therefore,
the fair value of incentive stock compensation of $17 million and $17 million
was recorded in the consolidated statement of income for the year ended June 30,
2008 and 2009. These incentives shares were issued on July 25,
2009.





On June
15, 2009, the Company agreed to immediately issue 4 million shares of common
stock to the original shareholders of GTH and their designees for the
cancellation of the Future Annual Incentive Share Plan for the 12-month periods
ending December 31, 2009, 2010 and 2011. In accordance with ASC Topic 718 Compensation - Stock
Compensation, the modification of the incentive stock compensation
resulted in an incremental incentive stock compensation of $22 million which is
charged to the consolidated statement of income for the year ended June 30,
2009. These incentives shares were issued on February 29, 2010.





On
December 23, 2009, the Company entered into the Share Purchase Agreement with
Unionway Resources Limited, to acquire 24.11% equity interest of Beijing
Hollysys, by issuing 4,413,948 shares of common stock of the Company with fair
value of $53,011,515 and making cash payment of RMB 67.63 million (equivalent to
$9,936,203). The 4,413,948 shares of common stock of the Company were issued on
March 16, 2010.





In August
2005, Chardan issued 11.5 million warrants to the investors who purchased
Chardan’s common stock.  In accordance with the terms of these
warrants, all warrants should be exercised or redeemed on or before June 30,
2008.  The exercise price of these warrants was $5 per share and the
redemption price was $0.01 per share.  During the period from October
to December 2007, a total of 11,442,614 warrants were exercised while 57,386
warrants were redeemed.  Consequently, Hollysys received cash proceeds
of $57.21 million from the exercise of warrant and paid $574 to the holders of
57,386 warrants for redemption purpose.





In April
2010, the UPO holders exercised 250,000 UPO at a cashless basis, and 92,567
shares of common stock were issued to the UPO holders on June 3, 2010. As of
June 30, 2010, no UPO was outstanding.





NOTE
14 - SHARE OPTION PLAN





On
September 20, 2007, the Company adopted the “2006 Stock Plan” (the “Plan”) which
allows the Company to offer a variety of incentive awards to employees,
officers, directors and consultants. Options to purchase 3,000,000 ordinary
shares are authorized under the Plan.





On
February 1, 2008 and June 2, 2008, options to purchase 186,000 and 60,000
ordinary shares were granted under the terms of the Plan. 186,000 and 60,000
options were priced at $7.9 and $5.85 per share respectively, in which 231,000
options with expiry period of 5 years from the date of grant and vest over a
period of 3 years, and 15,000 options with expiry period of 1 year from the date
of grant with immediate vesting. The 15,000 options were not exercised and have
been expired as of June 30, 2009.





On
January 20, 2009, options to purchase 450,000 ordinary shares were granted under
the terms of the Plan. They were priced at $2.24 per share, with expiry period
of 10 years from the date of grant and vest over a period of 3
years.


F-31


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





A summary
of the share option activity under the Plan is as follows:




Options
                                  outstanding
                                
                                
                                Weighted
                                  average
                                  exercisepriceOptions
      outstanding at June 30, 2008
                                
                                
                                246,000
                                
                                
                                
                                7.40Options
      granted
                                
                                
                                450,000
                                
                                
                                
                                2.24Options
      exercised
                                
                                
                                -
                                
                                
                                
                                -Options
      cancelled/forfeited/expired
                                
                                
                                (15,000
                                )
                                
                                
                                7.90Options
      outstanding at June 30, 2009
                                
                                
                                681,000
                                
                                
                                
                                3.98Options
      granted
                                
                                
                                -
                                
                                
                                
                                -Options
      exercised
                                
                                
                                -
                                
                                
                                
                                -Options
      cancelled/forfeited/expired
                                
                                
                                -
                                
                                
                                
                                -Options
      outstanding at June 30, 2010
                                
                                
                                681,000
                                
                                
                                
                                3.98Options
      vested and exercisableAt
      June 30, 2009
                                
                                
                                185,500
                                
                                
                                
                                5.34At
      June 30, 2010
                                
                                
                                412,500
                                
                                
                                
                                3.98





The
following table summarizes information with respect to options outstanding at
June 30, 2010:





Options outstanding and exercisableNumber
                  outstanding
                
                
                Weighted average
                  remaining
                  contractual life years
                
                
                Weighted average
                  fair value as of
                  the grant dateExercise
      price:US$7.90
                
                
                171,000
                
                
                
                2.5
                
                
                $
                2.34US$5.85
                
                
                60,000
                
                
                
                2.9
                
                
                
                2.21US$2.24
                
                
                450,000
                
                
                
                8.6
                
                
                
                2.31Total
                
                
                681,000
                
                
                
                6.6
                
                
                $
                2.31





The
aggregate intrinsic value as of June 30, 2009 and 2010 is $1,602,000 and
$3,425,910 respectively . No options have been exercised during the year ended
June 30, 2008, 2009, and 2010.





The fair
value of each option granted is estimated on the date of grant using the
Black-Scholes Option Pricing Model.





Year Ended June 30,2008
                        
                        2009
                        
                        2010Options
      granted (weighted average)Average
      risk-free rate of return
                        
                        2.77%
      - 3.24%
                        
                        1.85%
                        
                        -Expected
      option life
                        
                        3
      years
                        
                        6
      years
                        
                        -Volatility
      rate
                        
                        37%
      - 40%
                        
                        116%
                        
                        -Dividend
      yield
                        
                        -
                        
                        -
                        
                        -





Average
risk-free rate of return for periods within the contractual life of the option
is based on the U.S. Treasury yield curve in effect at the time of grant.
Expected option life is derived from the simplified method in accordance to ASC
Topic 718 Compensation - Stock
Compensation as no historical exercise pattern could be studied for
reference, Volatility rate is based on historical volatility of the Company’s
stock. Dividend yield is estimated by the Company at zero for the expected
option life.


F-32


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





The
Company recorded share option compensation expense of $84,473, $319,026 and
$524,076 for the year ended June 30, 2008, 2009 and 2010. As of June 30, 2009
and 2010, there were $1,182,841 and $658,765 of total unrecognized compensation
expense related to non-vested share-based compensation arrangement under the
Plan. The unrecognized compensation expense is expected to be recognized over a
weighted-average vesting period of 1.3 years.


F-33


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





NOTE
15 - EMPLOYEE BENEFITS





The
Company contributes to a state pension scheme run by the Chinese government in
respect of its employees in China.  The expense related to this plan was
$3,136,409, $4,467,855 and $6,378,917 for the years ended June 30, 2008, 2009
and 2010, respectively.





NOTE
16 - INCOME TAX





Hollysys,
and its subsidiary, GTH, are incorporated in the BVI and are not subject to
income tax under the relevant jurisdiction. Its major operating subsidiaries are
incorporated in the PRC and are subject to income taxes as described
below.





Prior to
December 31, 2007, the statutory tax rate of PRC Enterprise Income tax (“EIT”)
was 33% (30% of national income tax plus 3% local income tax).





On March
16, 2007, the National People’s Congress passed the new Enterprise Income Tax
law (the “new EIT law”) which imposes a single income tax rate of 25% for most
domestic enterprises and foreign investment enterprise. The new EIT law was
effective as of January 1, 2008. The new EIT law provides a five-year transition
period from its effective date for those enterprises which were established
before March 16, 2007 and which were entitled to a preferential lower tax rate
under the then effective tax laws or regulations, as well as grandfathering tax
holidays. Further, according to the new EIT law, entities that qualify as
“High-tech Enterprises” are entitled to the preferential EIT rate of
15%.





Beijing
Hollysys is registered in a high-tech zone located in Beijing and was deemed as
a High-tech Enterprise by Beijing Commission of Science and
Technology.  According to the preferential regulations specified by
State Council, Beijing Hollysys had entitled to a favorable EIT rate of 15% from
October 1, 2002 to December 31, 2007. During the calendar year ended December
31, 2008, Beijing Hollysys was certified as a High-tech Enterprise for three
years commencing from January 1, 2008. Therefore, the EIT tax rate applicable to
Beijing Hollysys is 15% for the calendar years ended December 31, 2008, 2009 and
2010.





Hangzhou
Hollysys is registered as a foreign investment enterprise in China and was
entitled to tax holidays of 100% exemption of income tax for two years followed
by 50% exemption of income tax for the next three years since the first
profitable calendar year ended December 31, 2004. During the calendar year ended
December 31, 2006, Hangzhou Hollysys enjoyed preferential EIT rate of 16.5%
(i.e. 15% of national income tax plus 1.5% local income tax) in accordance with
relevant regulations regarding Hangzhou Hollysys located in a development zone
recognized by the Ministry of Land and Resource in China. This preferential EIT
rate benefit, together with the 50% exemption of income tax holiday, entitled
Hangzhou Hollysys with applicable EIT rate of 8.25% for the calendar years ended
December 31, 2006 and 2007. During the calendar year ended December 31, 2008,
Hangzhou Hollysys was certified as a High-tech Enterprise and entitled to the
preferential EIT rate of 15% for three years commencing from January 1, 2008. In
addition, Hangzhou Hollysys was also certified as “Major Software Enterprises”
for the calendar year ended December 31, 2008 and 2009 and is entitled to a
concessionary tax rate of 10%. In accordance with the new EIT law, the EIT tax
rate applicable to Hangzhou Hollysys for the calendar year ended December 31,
2008, 2009, and 2010 is therefore 10%, 10%, and
15%  respectively.





Hollysys
Automation is registered in a high-tech zone located in Beijing and was deemed
as a High-Tech Enterprise by Beijing Commission of Science and Technology. In
addition, Hollysys Automation was certified as “Software Enterprises” for the
calendar year ended December 31, 2009, and 2010,  and is entitled to
tax holidays of 100% exemption of income tax for two years followed by 50%
exemption of income tax for the next three years since the first profitable
calendar year, which is expected to be the calendar year ended December 31,
2010. In accordance with the new EIT law, the EIT tax rate applicable to
HollySys Automation for the calendar year ended December 31, 2008, 2009, and
2010 is therefore 25%, 25%, and 0%  respectively.


F-34


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





For other
PRC operating subsidiaries, the applicable tax rate is 25% starting from January
1, 2008.





Income
tax expense, which is all incurred in the PRC, consists of:





Year Ended June 30,2008
                
                
                2009
                
                
                2010Current
      income tax expense
                
                $
                2,798,920
                
                
                $
                2,525,416
                
                
                $
                8,540,774Deferred
      income tax expense (benefit)
                
                
                (1,706,443
                )
                
                
                535,725
                
                
                
                (877,341
                )$
                1,092,477
                
                
                $
                3,061,141
                
                
                $
                7,663,433





A
reconciliation between the provisions for income taxes computed by applying the
statutory tax rate in PRC of 25% for the fiscal years ended June 30, 2008, 2009,
and 2010 for the income before income taxes and the actual provision for income
taxes is as follows:





Year Ended June 30,2008
                  
                  
                  2009
                  
                  
                  2010Income
      (loss) before income taxes
                  
                  $
                  2,248,419
                  
                  
                  $
                  (5,603,121
                  )
                  
                  $
                  35,219,424Expected
      income tax expense at statutory tax rate in PRC
                  
                  
                  562,104
                  
                  
                  
                  (1,400,780
                  )
                  
                  
                  8,804,856Effect
      of different tax rate in variousjurisdictions
                  
                  
                  141,756
                  
                  
                  
                  32,590
                  
                  
                  
                  15,555Effect
      of preferential tax treatment
                  
                  
                  (4,237,165
                  )
                  
                  
                  (4,004,659
                  )
                  
                  
                  (10,813,294
                  )Effect
      of income for which no incometax
      is chargeable
                  
                  
                  (742,063
                  )
                  
                  
                  (1,447,910
                  )
                  
                  
                  (1,394,901
                  )Effect
      of additional deductible researchand
      development expense
                  
                  
                  (346,788
                  )
                  
                  
                  (770,383
                  )
                  
                  
                  (197,472
                  )Effect
      of non-deductible expenses
                  
                  
                  5,694,332
                  
                  
                  
                  10,585,029
                  
                  
                  
                  883,415Under/(over)
      provision of income taxin
      previous years
                  
                  
                  (348,399
                  )
                  
                  
                  (34,818
                  )
                  
                  
                  (86,171
                  )Change
      in valuation allowance
                  
                  
                  348,936
                  
                  
                  
                  113,096
                  
                  
                  
                  63,397Effect
      of deemed profit arisen inre-ogranization
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  2,573,061Withholding
      tax on capital repayment
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  7,705,250Others
                  
                  
                  19,764
                  
                  
                  
                  (11,024
                  )
                  
                  
                  109,737Effective
      income tax expense
                  
                  $
                  1,092,477
                  
                  
                  $
                  3,061,141
                  
                  
                  $
                  7,663,433





Had the
all above tax holidays and concessions not been available, the tax charge would
have been higher by $4,237,165, $4,004,659 and $10,813,294 and the basic net
income per share would have been lower by, $0.11, $0.09 and $0.21 for the years
ended June 30, 2008, 2009 and 2010 respectively, and diluted net income per
share for the years ended June 30, 2008, 2009 and 2010 would have been lower by
$0.11,  $0.09 and $0.21, respectively.


F-35


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





The
temporary differences that have given rise to the deferred tax liabilities
consist of the following:




June 30,2009
                  
                  
                  2010Deferred
      tax assetsDoubtful
      debt provision
                  
                  $
                  1,076,484
                  
                  
                  $
                  1,449,386Inventory
      provision
                  
                  
                  182,993
                  
                  
                  
                  309,047Impairment
      on long-term assets
                  
                  
                  -
                  
                  
                  
                  129,955Deferred
      revenue
                  
                  
                  1,151,302
                  
                  
                  
                  1,804,203Warranty
      provision
                  
                  
                  247,981
                  
                  
                  
                  285,800Recognition
      of intangible assets
                  
                  
                  719,996
                  
                  
                  
                  628,215Accrued
      payroll
                  
                  
                  227,896
                  
                  
                  
                  406,988Net
      operating loss carry forward
                  
                  
                  524,234
                  
                  
                  
                  519,6834,130,886
                  
                  
                  
                  5,533,277Less:
      Valuation allowances
                  
                  
                  (462,032
                  )
                  
                  
                  (519,683
                  )$
                  3,668,854
                  
                  
                  $
                  5,013,594Deferred
      tax liabilitiesCost
      and estimated earnings in excess of billings
                  
                  $
                  (2,919,511
                  )
                  
                  $
                  (3,379,237
                  )Deferred
      tax assets, net
                  
                  $
                  749,343
                  
                  
                  
                  1,634,357Deferred
      tax assets - current
                  
                  $
                  319,737
                  
                  
                  $
                  956,969Deferred
      tax assets – non-current
                  
                  
                  706,943
                  
                  
                  
                  677,388Deferred
      tax liabilities – current
                  
                  
                  (277,337
                  )
                  
                  
                  -$
                  749,343
                  
                  
                  $
                  1,634,357





The
Company operates through the PRC subsidiaries and the valuation allowance is
considered on each individual basis. Where a valuation allowance was not
recorded, the Company expects to generate sufficient taxable income in the
future.





Under the
New EIT Law and the implementation rules, profits of the PRC subsidiaries earned
on or after January 1, 2008 and distributed by the PRC subsidiaries to foreign
holding company are subject to a withholding tax at a rate of 10% unless reduced
by tax treaty. Aggregate undistributed earnings of the Company’s subsidiaries
located in the PRC that are available for distribution to the Company of
approximately $15,333,000 at June 30, 2010 are intended to be reinvested, and
accordingly, no deferred taxation has been made for the PRC dividend withholding
taxes that would be payable upon the distribution of those amounts to the
Company. Distributions made out of pre January 1, 2008 retained earnings will
not be subject to the withholding tax.





As a
result of the Share Exchange Transaction, pursuant to the Internal Revenue Code
Section 367 (“§367”), the merger portion of the transaction may not be
considered a tax-free exchange and thus the Company would be taxed on the gain
of its assets at the time of the merger. The management of the Company consulted
independent tax experts regarding the tax effect on the re-domestication merger
and assessed that the Company should undertake a tax liability of $1,699,915. As
of completion date of Share Exchange Transaction on September 20, 2007, tax on
re-domestication amounted to $1,699,915 was charged against equity because the
assumption of such tax is part of the recapitalization in connection with the
Stock Exchange Transaction. In June 2008, Hollysys filed 2007 tax returns
and made payment of $1,636,154. The Company does not expect to incur further
material tax liabilities in this connection.





In
accordance with ASC Topic 704 Income Taxes, the Company’s liability for income
taxes includes the liability for unrecognized tax benefits, interest and
penalties which relate to tax years still subject to review by taxing
authorities.


F-36


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





Determining
income tax provisions involves judgement on the future tax treatment of certain
transactions. The Company performed a self-assessment and concluded that there
was no significant uncertain tax position requiring recognition in its financial
statements. The tax treatment of such transactions is reconsidered periodically
to take into account all changes in tax legislations. Where the final tax
outcome of these transactions is different from the amounts that were initially
recorded, such difference will impact the income tax and deferred tax provisions
in the year in which such determination is made.





There
were no material interest or penalties incurred for the years ended June 30,
2008, 2009 and 2010.





NOTE
17 – EARNINGS (LOSS) PER SHARE





The
following table sets forth the computation of basic and diluted net earnings
(loss) per share attributable to Hollysys for the years indicated:





Year Ended June 30,2008
                      
                      
                      2009
                      
                      
                      2010Net
      income (loss) attributable to
Hollysys- numeratorBasic
      and diluted
                      
                      $
                      (1,677,178
                      )
                      
                      $
                      (13,851,064
                      )
                      
                      $
                      25,704,538Shares
      - denominator:Weighted
      average ordinary sharesoutstanding
      used in computing basicnet
      earnings (loss) per share attributable to Hollysys
                      
                      
                      37,658,437
                      
                      
                      
                      44,950,833
                      
                      
                      
                      51,243,667OptionEffect
      of dilutive securitiesStock
      option
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      251,062UPO
                      
                      
                      -
                      
                      
                      
                      -
                      
                      
                      
                      343,565Weighted
      average ordinary sharesoutstanding
      used in computingdiluted
      net earnings per share attributable to Hollysys
                      
                      
                      37,658,437
                      
                      
                      
                      44,950,833
                      
                      
                      
                      51,838,294Net
      earnings (loss) per share attributable to Hollysys  -
      basic
                      
                      $
                      (0.04
                      )
                      
                      $
                      (0.31
                      )
                      
                      $
                      0.50Net
      earnings (loss) per share attributable to Hollysys -
      diluted
                      
                      $
                      (0.04
                      )
                      
                      $
                      (0.31
                      )
                      
                      $
                      0.50




For the
year ended June 30, 2008, potential common shares of 246,000 shares related to
stock options granted under the terms of the Plan, 750,000 shares related to UPO
and 1,002,740 shares related to contingent issuance of common stock in
accordance with the Share Exchange Transaction were excluded from the
computation of diluted net loss per share as they had an anti-dilutive
effect.





For the
years ended June 30, 2009, potential common shares of 681,000 shares related to
stock options granted under the terms of the Plan, 750,000 related to UPO and
4,991,781 shares related to contingent issuance of common stock related in
accordance with the Share Exchange Transaction were excluded from the
computation of diluted net loss per share as they had an anti-dilutive
effect.




F-37


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





NOTE
18 - RELATED PARTY TRANSACTIONS





Related
Party Relationships





Name of Related Parties
                
                Relationship with the CompanyHollySys
      Information Technology Co., Ltd.
                6.
                7.49%
      owned by Beijing HollySysNew
      Huake Electronic Technology Co., Ltd.
                9.
                10.37.5%
      owned by Beijing HollySysChinaTechenergy
      Co., Ltd.
                12.
                13.50%owned by
      Beijing HollySysHollySys
      Electric Tech Co., Ltd.
                15.
                16.40%
      owned by Beijing HollySysHollySys
      Equipment Technology Co., Ltd.
                18.
                19.20%
      owned by Beijing HollySysZhejiang
      Sanxing Technology Co., Ltd
                21.
                22.10%
      owned by Hangzhou
HollySys





Due
from Related Parties


June 30,2009
                
                
                2010HollySys
      Information Technology Co., Ltd.
                
                $
                618,785
                
                
                $
                998,113China Techenergy
      Co., Ltd.
                
                
                6,562,318
                
                
                
                9,749,715HollySys
      Electric Tech Co., Ltd.
                
                
                13,857
                
                
                
                9,234HollySys
      Equipment Technology Co. Ltd.
                
                
                8,098
                
                
                
                4,565Zhejiang
      Sanxing Technology Co., Ltd.
                
                
                -
                
                
                
                3,201$
                7,203,058
                
                
                $
                10,764,828





The
Company’s management believed that the collection of amounts due from related
parties were reasonably assured and accordingly, no provision had been made for
these balances of due from related parties.





Due
to Related Parties


June
      30,2009
                  
                  
                  2010HollySys
      Information Technology Co., Ltd
                  
                  
                  827,573
                  
                  
                  
                  1,853,162New
      Huake Electronic Technology Co., Ltd.
                  
                  
                  35,142
                  
                  
                  
                  73,191HollySys
      Equipment Technology Co. Ltd.
                  
                  
                  1,978
                  
                  
                  
                  1,696China Techenergy
      Co., Ltd
                  
                  
                  588,383
                  
                  
                  
                  673,966HollySys
      Electric Tech Co., Ltd
                  
                  
                  11,607
                  
                  
                  
                  8,584$
                  1,464,683
                  
                  
                  $
                  2,610,599





Purchases
and Sales with Related Parties





PurchasesYear Ended June 30,2008
                    
                    
                    2009
                    
                    
                    2010HollySys
      Electric Tech Co., Ltd.
                    
                    $
                    71,019
                    
                    
                    $
                    24,709
                    
                    
                    $
                    41,757China
      Techenergy Co., Ltd.
                    
                    
                    1,075,530
                    
                    
                    
                    1,531,058
                    
                    
                    
                    70,368HollySys
      Information Technology Co., Ltd.
                    
                    
                    1,630,574
                    
                    
                    
                    728,897
                    
                    
                    
                    4,857,416New
      Huake Electronic Technology Co., Ltd.
                    
                    
                    842,824
                    
                    
                    
                    431,693
                    
                    
                    
                    493,203$
                    3,619,947
                    
                    
                    $
                    2,716,357
                    
                    
                    $
                    5,462,744




F-38


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





Lease ExpensesYear Ended June 30,2008
                  
                  
                  2009
                  
                  
                  2010HollySys
      Information Technology Co., Ltd.
                  
                  $
                  731
                  
                  
                  $
                  -
                  
                  
                  $
                  32,069$
                  731
                  
                  
                  $
                  -
                  
                  
                  $
                  32,069





SalesYear Ended June 30,2008
                  
                  
                  2009
                  
                  
                  2010HollySys
      Electric Tech Co., Ltd.
                  
                  $
                  4,995
                  
                  
                  $
                  13,865
                  
                  
                  $
                  11,038China
      Techenergy Co., Ltd.
                  
                  
                  1,535,446
                  
                  
                  
                  5,721,797
                  
                  
                  
                  4,189,366HollySys
      Information Technology Co., Ltd
                  
                  
                  37,496
                  
                  
                  
                  920,333
                  
                  
                  
                  2,184,844Zhejiang
      Sanxing Technology Co., Ltd.
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  8,337Beijing
      HollySys Equipment Technology Co., Ltd
                  
                  
                  -
                  
                  
                  
                  30,794
                  
                  
                  
                  1,385$
                  1,577,937
                  
                  
                  $
                  6,686,789
                  
                  
                  $
                  6,394,970





Lease IncomeYear Ended June 30,2008
                  
                  
                  2009
                  
                  
                  2010China
      Techenergy Co., Ltd.
                  
                  $
                  77,583
                  
                  
                  $
                  27,835
                  
                  
                  $
                  -HollySys
      Information Technology Co., Ltd.
                  
                  
                  52,832
                  
                  
                  
                  -
                  
                  
                  
                  -HollySys
      Equipment Technology Co., Ltd.
                  
                  
                  2,974
                  
                  
                  
                  3,351
                  
                  
                  
                  -$
                  133,389
                  
                  
                  $
                  31,186
                  
                  
                  $
                  -





Amounts
due from and due to the related parties relating to the above transactions are
unsecured, non-interest bearing and repayable on demand.





Note
Receivable from the stockholder





GTH
raised $30 million cash by using the Bridge Loan Transaction mentioned in Note
2, GTH then loaned the $30 million cash to APH, in order for it to pay off its
first $30 million note payable to OSCAF, in exchange for a note receivable of
$30 million from APH.  On December 22, 2006, the entire proceeds of
$30 million were wired to the original Chinese owners’ bank accounts through
Chardan Capital, Inc.  The note receivable bears an interest at 10%
per annum.  The repayment terms of this note receivable was disclosed
in Note 2.  Because APH, being the sole stockholder, was only a
holding company with no stand-alone operations and no material assets available
to repay the note, the note receivable from APH was presented in the
stockholder’s equity section on the balance sheet as of June 30,
2007.  Based on the deemed distribution of $30 million derived from
the Share Transfer Transaction between GTH and Chardan, the balance of the note
receivable from the stockholder has been reduced to zero after a deemed
collection of $30 million from this note receivable.





Acquisition
of HAP from a Related Party





On
November 19, 2007, Hollysys entered into a Stock Purchase Agreement with Fulbond
Systems Pte Ltd, which is a Singapore based company and partially owned by Mr.
Yau Kiam Fee, who was a member of Board of Directors of Hollysys prior to May
14, 2010, to acquire 100% interest of Fulbond Systems for a total consideration
of SGD$1,066,234 (equivalent to $744,596). After the ownership transfer, Fulbond
System changed its name to HollySys (Asia Pacific) Pte Ltd. The purchase price
of $744,596 was paid in cash on December 11, 2007.




F-39


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS


FOR
THE YEARS ENDED JUNE 30, 2008, 2009 AND 2010





NOTE
19 - OPERATING RISK





The
Company has significant investments in China.  The operating results
of the Company may be adversely affected by changes in the political and social
conditions in China, and by changes in Chinese government policies with respect
to laws and regulations, anti-inflationary measures, currency conversion and
remittance abroad, and rates and methods taxation, among other
things.  There can be no assurance, however, those changes in
political and other conditions will not result in any adverse
impact.





Most of
the Company’s customers are located in the PRC. The Company had no customer that
individually comprised 10% or more of revenue for the years ended June 30, 2008,
2009 and 2010.





The
Company has no customer that individually comprised 10% or more of the
outstanding balance as of June 30, 2009 and 2010.





NOTE
20 – FAIR VALUE OF FINANCIAL INSTRUMENTS





The
carrying amount of cash and cash equivalents, contract commitment deposit in
banks, accounts receivable, other receivables, amount due to or from related
parties, accounts payable and accrued liabilities are reasonable estimates of
their fair value because of the short maturity of these items. The carrying
amount of the Company’s long term debts approximates at their fair value due to
the interest rates on the debts approximating at current rates.





NOTE
21 - COMMITMENT





The
Company leases premises under various operating leases.  Rental
expenses under operating leases included in the consolidated statement of income
were $545,796, $1,105,473, and $1,002,666 for the years ended June 30, 2008,
2009 and 2010, respectively.





At June 30, 2010, the Company was
obligated under operating leases requiring minimum rentals as
follows:





Years Ending June 30,2011
                    
                    $
                    351,8362012
                    
                    
                    119,0502013
                    
                    
                    63,225Total
      minimum lease payments
                    
                    $
                    534,111





Other
than the details set out in the note 6 to the consolidated financial statements,
there was no significant capital commitment as of June 30, 2010.





NOTE
22 - SUBSEQUENT EVENTS





On July
8, 2010, the Company entered into an agreement to transfer 29% equity interest
in HollySys Information Technology Co. Ltd. (“Hollysys Information”) to its
major equity owner, at a cash consideration of RMB 23,377,700 (approximately
equivalent to $3,427,162). As a result, the Company owns 20% equity interest of
Hollysys Information upon the completion of
the  transfer.





On July
8, 2010, the Company entered into an agreement with HollySys Information to
purchase the fourth and fifth floors of the Company’s office building, located
in Xisanqi, Beijing, PRC which were formerly injected to Hollysys Information as
initial investment from Hollysys, at a cash consideration of RMB 23,353,900
(approximately equivalent to $3,423,673).




F-40